Starting your own business can be difficult and expensive. Being in the middle of an economic crisis doesn’t help, either. While some things have begun to pick back up post-pandemic, the overall economy is still lagging, and the supply chain can’t keep up. Small business loans are often the best option for business owners who are exploring resources to help them launch or grow their businesses.
Small business loans offered through a variety of financial institutions are common resources for securing the funds needed. One problem a startup faces is that it may not qualify for a conventional small business loan. Newer businesses haven’t yet established a solid credit history. For this reason, many pursue a Small Business Administration (SBA) loan. The SBA loan is designed specifically for a small, new business. They are often a great option for those who either don’t want to pursue a conventional small business loan or for those who do not qualify for one.
Are There any Differences Between Conventional Business Loans and SBA Loans?
There are two main differences between an SBA loan and a conventional small business loan. The interest rates on an SBA loan are usually lower. Secondly, the repayment term is usually longer for an SBA loan than what is offered through a conventional loan. Both loan types are typically issued through a bank. However, to obtain an SBA loan, business owners will need to select a bank that participates in the SBA loan guarantee program. This is a unique program that acts sort of like insurance and promises to buy back any portion owed on the loan if you default. The SBA guarantee usually ranges from 50 to 90% of the loan amount. Programs can differ, but most only pay back up to $5 million.
What is an SBA Loan?
The Small Business Administration was an agency formed by the government to help businesses that are not eligible for conventional loans. The SBA partners with approved private lenders to offer different types of loans to small business owners. The SBA helps to eliminate the risk on the part of banks and lenders when they loan to young businesses. There are numerous types of loans through the SBA. One popular loan option is the 7(a) loan program. It is popular because it helps new and small businesses with startup costs, purchases inventory, and equipment, funds business expansion, or helps them obtain working capital.
SBA loans are ideal for new U.S.-based businesses that haven’t been operating long enough to establish a strong credit history.
Requirements for Obtaining an SBA Loan
There are some requirements for businesses that want to obtain funding through an SBA loan. The first requirement for an SBA loan is that the business must operate for profit in the United States. The owner also has to have equity in the business. Each individual lender will have its own application requirements for business owners who are seeking an SBA loan.
Generally, eligibility will be based on what the business does to create income, where the business operates, and the character of its ownership. Most businesses also have to meet the size standards determined by the SBA. The size standards affect the ability to repay a loan. And finally, the organization must have a solid business purpose. Lenders will provide loan seekers with their list of eligibility requirements as well. Even if you have bad credit, you may qualify for funding. While many of the requirements vary between lending institutions, there are four definite eligibility requirements determined by the SBA:
- Be a for-profit business that is registered officially and operating legally.
- Do business and have a physical location in the United States or its territories.
- The owner has invested their own time, money, and resources into the business.
- The business has exhausted its financing options and cannot obtain funding from other lenders.
What Documents Do You Need to Apply for an SBA Loan?
You’ll be required to compile and complete several documents to apply for an SBA loan. Here are the documents you’ll need to get the process started:
- SBA Form 4. An application for a business loan.
- SBA Form 4i. This is the lender’s application for either participation or guarantee. These are completed by you or by your lender.
- SBA Form 912. Personal history statement.
- SBA Form 4 Section 12. If you are a corporation, you’ll need your corporate seal stamped on this form.
- Business Projection. Your detailed one-year projection of finances and income. Include a written explanation as to how you plan to achieve your financial goals. This is basically your business plan.
- Ownership Structure. State the type of ownership structure you have in place for your business, your affiliations, stock ownership, proposed merger, and any other details.
How to Apply for an SBA Loan
To begin the process of applying for an SBA loan, visit the Small Business Administration website. Once you are on their site, fill out the SBA Lender Match form. This will ask you to describe your business and its needs. The form should only take a few minutes to complete. The SBA will take a look at your business description and match you with lenders. You should receive a list of potential lenders in about two days. You can begin contacting the private lenders. Carefully consider each lender’s rates, terms, and other loan details. Once you have selected the SBA-approved lender you want to work with, submit an application for the business loan directly to the lender.
Other Documentation You May Need to Provide
The lender you select may require other documentation, along with the forms and documents you provided to the SBA. It can seem overwhelming, but many of these documents should already be in place for you or your business. If requested, verify each document’s accuracy before submitting it to the lender or the SBA as requested. Here are some of the other documents that may be required of you.
Personal Background Statement
Lenders will want to know your personal information and background. This will include items such as previous names you’ve used, previous addresses, criminal records, and your educational background.
Professional Resume
You may be asked to provide a professional resume. This is similar to a resume you’d submit for a job application. It will demonstrate to lenders your business experience and your expertise in your industry.
Personal Credit Score and Report
Since your business is young and void of borrowing history, you may be asked to provide your personal credit score and report. This helps lenders understand your borrowing and repayment habits.
Personal Financial Statement
Personal Financial Statement is a financial report that lists your personal assets and liabilities and calculates the difference, which is called Net Worth. Personal assets include cash, money in personal checking and saving accounts, the value of retirement funds, stocks and bonds, the value of closely held companies, real estate, cars, and other valuables. Personal liabilities, on the other hand, include any money owed such as credit cards, the mortgage on the home and rental real estate, car loans, and unpaid taxes.
Business Credit Report
If your business is a little older, a lender may take a look at your business credit report. You may want to review your business and personal credit reports prior to making an application to ensure correct information.
Personal Tax Returns
An SBA lender will look at your personal tax returns to determine if you are fiscally responsible and able to take on a business loan.
Other Legal Documents
Some of the legal documents you may be asked to provide include:
- Business registration and licenses
- Articles of Incorporation
- Franchise agreements
- Contracts with clients, suppliers, and other third parties
- Leases for business equipment or commercial real estate
Use of Loan
Your chosen lender may ask you how you plan on using the loan. They want to know if the loan is a good investment for your business as well as how you plan on making repayment plans.
Balance Sheets
Your balance sheets provide a snapshot of the financial health of your business. It will include your business’s assets as well as your liabilities. You should be required to provide your current balance sheet along with an update of the previous 60 days. They may ask for balance sheets from the last one to two years.
Profit and Loss Statements
A profit and loss statement shows the revenue and expenses of your business over time. Most will want to see your most recent profit and loss statement. They may also request P&L statements for the last two years.
Current Debt schedule
Lenders may request your current debt schedule. This document shows all the current business debts and how you are paying them down.
Business Tax Returns and Bank Statements
Once your lender reviews your financial documents, they will want to view your income tax returns as well as your bank statements. They’ll take a look at the last two fiscal years. Make sure these are accurate and carefully audited as lenders consider the disparity between these two documents to be a red flag.
It may seem like a lot to do to gather the documents needed for an SBA loan. But many of these documents are already prepared and in place. For conscientious business owners, it’s just a matter of gathering paperwork that has already been completed in a timely fashion.
