Whether starting or expanding a small business, entrepreneurs are likely going to need access to capital. While some can finance their business with personal funds or credit cards, oftentimes they need outside funds. There are a number of sources to get small business financing and conventional loans from banks are the most common source. Not to be confused with SBA loans (which there isn’t an SBA loan – Read More), conventional business loans are provided by banks, many of which are likely in your community. Similar to getting a loan for the purchase of a home, many banks have programs for small business loans. Typically smaller banks will have more local decision making authority than larger banks as they tend to have centralized approval, but smaller banks tend to have lower loan limits.
There are a number of ways to structure a business loan and with so many options, it is a bit confusing to know what is available and to make the best choice for your business. Any business can get a conventional loan, but since these loans are not guaranteed by anything other than the owner’s personal assets and the assets purchased by the business, banks are more likely to lend to businesses that demonstrate the ability to make the payments in addition to the equity and collateral to cover the loan should the business not be able to repay the loan. Especially for startup businesses, banks are going to have a greater interest on the credit and outstanding debt of the owners. It would be a good idea to check your personal credit before going to the bank. Also be aware, regardless whether your business is a corporation or LLC, you will likely have a personal guarantee and be responsible for paying back the loan should the business not succeed.
Commercial business loans can provide short, intermediate and long-term funding for companies, depending on what the loan will be used for. You will typically want to match the loan term to what is being borrowed. For example, inventory should be a shorter term than a building since you don’t really want to be paying on inventory for a long time since it should be sold quickly. Provided the amounts are low, banks will typically wrap up a loan into one term for simplicity, but if not they would look to multiple loans.
As a startup expect to put down between 20%-30% of the total project amount while expansion projects can be 10%-25%. There is a lot of variability amount down depending on credit scores, equity, collateral and industry of the business.
Rates are going to be different depending on the credit score of the borrower, length of term, quality of collateral, risk of the business, etc. Loans can be fixed or variable, with fixed being most common for real estate and equipment while inventory or working capital is more likely to be variable.
Process of Getting a Business Loan from a Commercial Bank
The process of getting a business loan basically has the entrepreneur preparing a business plan and making an appointment with the commercial loan officer (at many smaller banks it will be the bank president). The loan officer spends a little time talking with the entrepreneur and looking over the plan to get an idea of the scope of the project, provide some initial feedback and see whether the project fits within their lending parameters. Many banks will have a list of industries they won’t lend to like startups, restaurants, trucking, etc. After the meeting, the loan officer will further review the plan to see if there are areas that need further development. The loan officer will have a good indication at this first meeting whether the bank will fund the project internally or need a loan guarantee from the SBA, but once the business plan is competed it will also need to be reviewed by the underwriter. The underwriting process evaluates the borrower’s credit, capacity and collateral in order to quantify the risk to the bank. After going through underwriting, the project goes in front of a loan committee to provide final approval or denial.
Depending on the bank, you could be looking at 2 weeks to 6 months for an answer, but will be faster than getting an SBA guarantee as the bank has to vet and prepare documents in addition to the SBA’s processing time. It’s not unheard of to have a bank sit on a business loan application for a variety of reasons from forgetting, people going on vacation, misplacing paperwork, etc. We recommend applying to three banks at a time so a project doesn’t get held up by one bank. In addition, should the loan be turned down by all three, the feedback from these banks will help reevaluate the project and address the deficiencies such as credit score, changes to the business plan, etc. Also by going to multiple banks, multiple offers provides the opportunity to select the best deal and get a lower interest rate, longer loan term or deferred payments.
With some projects, the bank is going to want additional security. This is where the term SBA comes in. See more information about SBA loan guarantees.