Almost 75% of small businesses have access to the funding they need for their companies.
But that doesn’t mean those companies get instant approval of business loans. Some may be rejected first. Others have to find alternative financing to reach their business financial goals.
Is a small business loan part of your plans for financing your small business? Understanding common business loan denial reasons helps you go in strong and increase your chances of getting a yes.
Check out these 15 possible reasons the bank will deny you a business loan. Then, make changes before you apply to get the funding you need.
1. Poor Credit History
Three little numbers can squash your hopes of getting a business loan. Your credit score gives lenders a quick look at how worthy you are of more credit. It alerts them to past credit issues, which lower your credit score.
You have a personal credit score, and you may have a business credit score as well. A business credit score takes into account your company’s financial history and creditworthiness. Lenders look at both to determine if they should lend you the money.
What is the mysterious credit score you need? Lenders have different standards for credit scores. And it’s just one of several criteria that go into the decision.
If your credit score isn’t quite high enough to get approved, focus on paying bills on time and improving your credit. If you don’t have much business credit established, work on building business credit. Business credit cards, vendor accounts, and separate business bank accounts can help.
2. Inconsistent or Low Cash Flow
If you don’t have strong, consistent cash flow, how can you pay back your loan? That’s what lenders think when your financials come up short in cash flow.
Your business income needs to cover your current financial obligations plus the loan payment. If you can cover those expenses but have no extra cash flow, you still may be a risky borrower. Any unexpected expenses could cause you to fall behind and miss loan payments.
Cash flow issues may also cause your business to fail. Lenders want to know you have strong cash flow and can stay in business to pay off the loan.
Issues with cash flow might include:
- Not enough cash flow overall
- Major dips in cash flow
- Seasonal fluctuations
Increasing your cash flow and making it more consistent can help you get approved the next time you apply for a loan. If you have seasonal cash flow fluctuations, you might build your off-season business. For a landscaping business, that might mean adding snow plowing to your services to boost winter income.
If you struggle with cash flow because customers don’t pay on time, create payment policies that get paid faster. Shorten the payment period, and add penalties for paying late. Enforcing payment policies helps you get your cash faster to show consistent cash flow.
3. Debt-to-Income Ratio
If you already have debt, it can hurt you when you apply for a business loan. Current debt strains your business budget. The bank wants to know you can cover your existing debts and the new loan.
Using a high percentage of your available credit can also make lenders concerned about your money management. Are you getting a new loan to keep your business afloat when you’re already relying on debt too heavily?
4. Lack of Collateral
Loan denial reasons might include not having enough collateral or not having the type of collateral the lender wants. Lenders want something like equipment, real estate, or other valuable items to secure your loan. That collateral gives the lender some reimbursement if you don’t pay back your loan.
Alternative small business funding may be an option if you can’t come up with enough collateral. Some lenders offer unsecured loans, too.
5. Too Little Time in Business
Getting a business loan in your early years is tricky. You need the capital to do the things you want to do with your business. But you haven’t proven that your business will last.
You have the best chance of getting a traditional bank loan if you’ve been in business at least two years. Some banks require even longer. You may need at least two years of business tax returns when you apply, which means you need even longer time in business.
Almost 80% of small businesses make it at least one year. By year five, that number drops to less than half, and only about a third of small businesses are still open after 10 years.
Besides the potential for your business closing, you also lack a long enough credit history to evaluate. If you’ve only been in business a few months, you haven’t established a record of paying on time and keeping up with your financial obligations.
Lenders vary in how long they expect you to be in business. If one lender says you’re too new, try others that may have less rigorous requirements.
6. Lack of Experience
How much experience do you have in your industry? If you’re a newbie to the industry, the lender may have concerns about how well you can run the business.
Having industry experience means you know what to expect. You’re aware of potential problems, and you likely have connections that can help.
If you’re following your passion by jumping into a completely new industry, you may have more difficulty finding a lender.
7. Concerns About Management Team
Even if you’re a very small company, you need a strong management team in place. It helps your company run well.
It’s also important to the bank. They want to know your company has strong leadership that will make effective decisions. The management team has a major impact on your business’s chances of survival.
8. Customer Concerns
Your source of cash flow can be an issue, especially if you rely on a core group of customers for income. If a particular group of customers suddenly stop using your services, where does that leave you?
Loyalty from customers is positive and keeps the money rolling into your bank account. But diversity in those customers helps minimize the risk of that source suddenly ending.
Say you rely heavily on one business client as your primary source of income. What happens to your cash flow if that business closes or suddenly switches to a different supplier? Your business income just dried up.
Not only does customer diversity look good on a loan application, but it also gives you greater security. Work on expanding your client base now for your own financial security and for improved loan acceptance chances.
9. Poor Preparation
Do you fully understand the business loan application process? If you rush into it without knowing what to expect, you may end up getting turned down.
Beyond the application itself, you need supporting documents for the application. You need a realistic understanding of where your business is financially and what it needs for financing. You need a solid business plan to show that your company can survive.
If you aren’t sure how the process works or what you need, educate yourself before jumping into the process. It’ll save you stress, and it may help you avoid a loan denial.
10. Small Loan Requests
Are you worried you’re asking for too much money? You may actually be asking for too little.
It’s not that lenders want you to overextend yourself. It’s just more profitable for a bank to lend larger amounts of money. Many larger banks don’t deal with small business loans.
If you can afford and could use a larger loan, consider reapplying with the larger request. Just don’t take on more debt that you can handle.
If your financial needs aren’t high enough for traditional small business loans, consider other types of business loans. You might look for an investor or get a microloan instead.
11. Large Loan Requests
You can go too far the other way, too. If the bank doesn’t think you can pay back a large loan, they won’t give you the money. Go into the loan application process with a realistic idea of how much money you need and how much you can afford.
12. Poor Reason for a Loan
Does your reason for getting a loan make sense? Is it a smart move to grow your loan? Does your business plan support the reason for the loan?
If your plans involve an excessive office with luxuries that aren’t essential to your business, the bank probably won’t approve you. If you’re looking for a long-term loan to fund short-term goals, like adding to inventory, the bank might deny the loan.
13. Incomplete Paperwork
Don’t forget to follow every single direction, fill in every blank accurately, and provide all the extra paperwork requested. Failing to do so can get you a rejection from the lender.
You’re in a rush to get your funding. But rushing too much can cause you to miss things that can make or break the application.
Banks also want supporting documents, such as bank statements, tax returns, and financial statements. They’re necessary to make sure what you put on the application is true and accurate. Don’t leave them out if the lender specifically requests them.
Being honest and accurate is absolutely necessary. Fudging the numbers won’t help. The lender will find out upon reviewing those documents we just talked about.
14. Industry Concerns
Did you pick an industry with a high rate of business failure? Certain industries raise red flags to lenders, even if your business plan is solid.
Maybe recent changes to regulations now make your industry more difficult or expensive to operate in. Maybe a key supply or material for your industry suddenly skyrocketed in price, which makes it more expensive.
You can’t change your industry. But you can look for lenders that specialize in that area.
15. General Economy
Getting turned down for credit may have nothing to do with you, your business, or your industry. It may be due to a risky economy in general.
A downturn in the economy affects individuals and businesses. A bank may feel it’s too risky to lend money to small businesses during those difficult economic times.
In this situation, you might try other lenders. Or you may have to ride out the economic downturn until thing improve.
Overcome Loan Denial Reasons
Have you dealt with your business loan denial reasons? Apply for a business loan with us today. You can get cash quickly, and start growing your business to realize greater financial success.