The 5 C’s of Business Loans, Part 1

If you are planning to start or expand a business and need to seek a business loan through an approved lender, there are five factors that banks analyze and are important to determine whether to approve your small business loan application.  They are called the 5 C’s, and if you have them, chances are better that lenders will give you a great loan at a great interest rate:

1. Capital

Also referred to in the industry as equity injection, capital is your skin in the game in the lending transaction. No bank will fund your business at 100 percent of your total cash needs. Let’s say this again slowly, with feeling, and reiterate on print in bold type and larger font: No bank will fund your business at 100 percent of your total cash needs. If you’re creating a new business, typically the bank will require you to contribute 75 percent.  If you’re acquiring an existing business, expect your contribution to be at least 50 percent.

Capital is a deal-breaker for banks. Most advisors will tell you not to proceed with preparing a loan application if you cannot provide the required contribution.

If you don’t have the capital, your goal becomes to figure out how to raise it: find a business partner, use a rollover of an eligible retirement account, or cash out an investment. Note that you may not use borrowed money as an equity injection. Don’t, for example, go looking for a home equity line of credit as your capital investment. If a bank discovers that your capital contribution is subject to debt service, they will deny your loan.

2. Credit

Credit comprises your personal credit score, your credit history and an analysis of your credit utilization. A new trend in lending is that banks may also utilize the FICO Small Business Scoring Service (SBSS) to assess your credit risk. If you can’t meet the minimum scores (which vary among lenders), you’ll need to step back and take the time to improve your credit score and your credit presence.

It’s better to do your homework up front. You can receive one free credit report per year from each of the big three reporters – TransUnion, Equifax and Experian. Check each for accuracy and consistency, and take care of any issues that might be a red flag for the bank.

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