It takes great effort to secure the first loan for your small business. The process itself is tedious as many financial institutions view many small businesses are risky. Moreover, putting together the first application is also a tough task. You also have to prepare both mentally and practically for the process as well as apply lots of foresight and wisdom. Below are a few hits to help you prepare for a small business loan and have a painless loan application process.
What to do before making an application
Before making a loan application, take a deep look at your small business and analyze the available financing options. Is financing through a business loan the best option? If yes, what kind of loan is the best for your small business? Are you going to pick a term loan, factoring or invoice financing, angel investment, small business loans or credit cards? Analyze every option with a view of determining its pros and cons so that you are able to select the most appropriate type of financing for the business.
Once you have settled on your preferred form of financing, consider two important factors; your use case and credit rating. If both of these are in order, you can then proceed to make a loan application.
Determine your credit rating
Lenders loan money to small businesses with the trust that the business owners will pay back the money. Therefore, they check your financial reputation in the name of the credit score. The credit score shows the probability that you will pay back the money. The higher it is, the more willing the lenders are in approving your loan.
Not only does the business credit and personal credit affect the decision to approve your loan request, but it also determines how favorable the terms of the loan are likely to be. While the lender looks at other factors like the ability to pay, these credit scores make up for two of the strongest pillars for or against getting a business loan. Here is a more in-depth look at both of these credit scores.
Business credit score
It is unfortunate that most business owners mix personal accounts with those of the business during the starting years. This presents a headache when they are required to file tax returns or apply for a small business loan. It is recommended that you set up a business account as soon as the business becomes operational. Doing so helps build a business credit score. The action also prevents personal credit issues from messing up the probability of getting a business loan or vice versa.
Your business builds a credit report as it goes about its transactions. The report is used by the credit reference bureaus to create a business credit score. The three credit reference bureaus use different formulas to calculate your credit score. The PAYDEX score looks at the payment history of your business accounts while both Equifax and Experian also check at collection agency data, public records, and legal filings. Despite the different scales employed, you can create a healthy business credit rating in all of them by paying your loans and small business credit on time.
Personal credit score
In spite of separating your business financial accounts from your personal financial accounts, lenders will still look at the personal credit score if you are a small business owner. This is because your personal and business financial management is closely knit.
Just as the business credit score, your payment history also affects your personal credit score. Therefore, paying your bills in time improves your rating.
Some common mistakes that lower both personal and business credit score include:
Having a large outstanding balance
A high outstanding loan balance will have you penalized even if you have not missed any payments. The penalty is due to carrying lots of debt. You can avoid this by making minimum payments and trying to keep the balances low.
High credit utilization
The credit utilization is the measure of the percentage of the revolving credit limits that you are currently using. You calculate the percentage utilization by dividing the outstanding balance by the credit limit and then multiplying the result by 100. A high utilization rate will get you a higher penalty in VantageScore than on FICO. To be on the safer side, try to keep your credit utilization below 10 percent.
Ways to improve credit score before making a loan application
Before working on your business or personal credit score, access your credit report from the credit bureaus. The Fair Credit Reporting Act grants you a free credit report from each of the reference bureaus. There would be many other credit report access options if you exhausted free credit report requests from the three bureaus. You can access business credit reports from CreditSignal or Nav website.
With the credit report on your hands, you can now work to raise your credit score. Here are a few tips to fix the credit score.
Check the report for errors
You may find that some trades that may have raised your credit score were not captured or some accounts in the report are not yours. There might also be a negative activity that was reported by your bank yet you resolved the matter. Report all the errors in your report.
Check if you have past due debts
Your credit report will contain all your past debt reports along with the amounts owed. Contact the respective creditors and settle the debts as quickly as possible. After payment, you may ask the lender to make a goodwill adjustment. This is a case where the lender erases a later payment report from the report. Ensure that you have paid your credit card balance too.
Pay all the tax liens
If you have either the state or the federal tax lien, reach out to the relevant department and negotiate a payment plan. If possible, clear the lien in a lump sum.
You can boost your credit score in the short-term by correcting errors in your report and dealing with your late payments. However, you need good financial habits to maintain a perfect credit score in the long-term. Here is a list of practices that can get you the desired good rates when applying for any loan.
Always keep the balance down. Where possible ensure that you only use 30 percent of all the credit available. If possible, keep it below 10 percent. This shows that you do not finance your needs with loans.
Keep a low utilization rate and do not close accounts after you have finished paying loans you picked with the accounts.
Try to diversify your credit mix. You can buy some goods on credit, others on installment or open a credit account rather than always using your credit card. However, do not open too many accounts as they may hurt your score as you seem desperate to get more funds through several accounts.
Consider using a credit monitoring service. You can hire private m credit monitoring companies or the credit bureaus. The services will cost you about $20. The service allows you to be in the know about your credit status at any given time and makes it easier for you to check the credit scores of the companies you do business with.
Your credit score is vital to accessing any loan facilities. Correct activities that may have lowered your credit score. Besides, adopt practices that raise both your business and personal credit score and maintain the high score.