Applying for a small business loan? Your guide to qualifications: Credit scores, down payments, and more

Table of Contents

• Small business loans vs. small business financing: What’s the difference? 
• Going beyond the basic eligibility qualifications for a small business loan
• Evaluating your small business credit score for a small business loan
• Collateral and guarantees required for small business loans
• Why do some lenders require down payments for small business loans? 
• Detailed business and financial documentation needed when applying for a small business loan
• Legal and compliance requirements for small business loans
• The small business loan application process
• Special considerations for different types of small business financing
• Tips for increasing your chances of approval for a small business loan
• FAQs 

Ever dreamed of expanding your local coffee shop or launching a new product or service for your small business? Securing a small business loan has probably crossed your mind. But for many entrepreneurs, the path to approval can seem confusing and intimidating. 

It doesn’t have to be so baffling. Understanding the difference between small business loans and other financing methods is the first step in distinguishing their distinct qualifications and implications for your business’s financial health. 

In this blog post, we’ll explore what it takes to secure financing, including assessing your creditworthiness, knowing what counts as acceptable collateral, and deciphering the terminology, so you can prepare to submit a successful loan application. 

Small business loans vs. small business financing: What’s the difference?

When evaluating options for infusing capital into a small business, terms like “small business loans” and “small business financing” are used interchangeably, yet they have different meanings. 

“Small business loan” refers to a sum of money borrowed and must be paid back with interest. Banks, credit unions, or online lenders often secure these loans and come with predetermined repayment schedules and terms.

“Small business financing” is simply a more inclusive term that covers various financing products available to small businesses beyond traditional loans. This can include: 

• Working capital loans
• Lines of credit
• Invoice factoring
• Merchant cash advances (MCAs)

A key distinction is that some types of small business financing, like MCAs, are not technically loans. Instead, they involve a business selling a portion of its future sales in exchange for immediate funds, which are then drafted through daily or weekly deductions from sales. Due to this distinction, you may hear MCAs referred to as small business financing vs. a small business loan.

Going beyond the basic eligibility qualifications for a small business loan

Securing a small business loan means navigating several key factors. Meeting basic eligibility is just the first hurdle. 

To truly impress lenders, you need to showcase the strength and stability of your business. 

Often, lenders like banks look for businesses that have been operational and generating revenue for at least two years, ensuring they’re well-established and not just new ventures testing the waters.

Here’s a breakdown of the most common criteria:

To go a little deeper, revenues play a crucial role, with annual income standards varying based on the lender’s policies. Online lenders may tend to be more lenient; however, some require that you have been in business for at least six months. 

When it comes to your revenue, Credibly looks at the monthly deposits from your business bank statements from the past three to four months. Small business owners may still be approved if their businesses showed lower revenue in some past months but higher revenue in more recent bank statements.* 

Also, having a dedicated business bank account is fundamental because it clearly records your business’s financial transactions and contributes to your credibility with potential lenders. Some lenders will also require that you have a business bank account (vs. a personal bank account) in order to get business financing.

*If your cash flow fluctuations are very large, it can be more difficult to get approved for a loan with an online lender like Credibly.

What’s required to open a business bank account? 

If you’re just getting started or haven’t yet checked off “open a business bank account” on your to-do list, you should know the requirements, as they differ from opening a personal bank account. You’ll need the following: 

Business formation documents—They prove you have a legal entity in place. These can include articles of incorporation (for corporations) or articles of organization (for LLCs). 

Tax identification number—You’ll need an EIN, which stands for “Employer Identification Number” and is issued by the IRS. If you’re a sole proprietor, you could technically use your social security number, but an EIN provides better liability protection.  

Business licenses and permits—Depending on the type of business you operate or where you’re located, you may need to show a business license and/or permit. 

Information on authorized signatories—An authorized signatory is someone authorized to use the bank account, make and approve transactions, etc. It’s typically the business owner and/or others who represent the business. 

Opening deposit—many banks require a deposit to open a business bank account. Luckily, the Credibly Business Checking® account doesn’t have any minimum balance requirements1 to open an account.

Other documents—Depending on your business and location, a bank may request other paperwork, such as your business plan, references, or financial statements. 

Finally, down payment requirements on small business loans can fluctuate. Understandably, a substantial down payment can often tip the scales in your favor, signaling your commitment and reducing lender risk. We’ll cover this in further detail later.

Evaluating your credit score for a small business loan

A credit score for a small business loan is a pivotal factor as a numerical measure of your business’s creditworthiness. 

These major business credit reporting bureaus play a crucial role in determining this score:

• Dun & Bradstreet
• Experian Business
• Equifax Business
• TransUnion

They calculate your score based on factors such as your payment history, outstanding debts, and the length of your credit history.

To position yourself favorably for a loan, consider these tips to build and improve your business credit score:

• Keep personal and business finances separate
• Apply for a business credit card
• Establish trade lines with suppliers
• Check on your credit report regularly

Lenders look at both your personal and business credit score to gauge credit risk, decide on loan amounts and set the terms. Although personal and business credit scores are often distinct, both can be relevant when applying for a loan.

Be aware that different lenders have varied requirements. Traditional lenders will typically look for a FICO score of 640 – 700, whereas SBA and term loans generally want to see a minimum of 680. Online lenders like Credibly tend to offer more lenient credit score prerequisites – for example a 550+ FICO score. 

Collateral and guarantees required for small business loans

Securing a small business loan often requires more than just a solid credit score. Lenders typically request collateral, a valuable asset pledged to secure a loan, which can be seized if the borrower defaults. This requirement minimizes the risk for the lender and enables a borrower to access better loan terms. 

Understanding collateral requirements

Collateral requirements vary by lender, but the primary principle is that the collateral should roughly match the loan’s value. The lender will appraise the collateral to determine its value and decide how much of a loan it can securely return. In some cases, lenders may even require a down payment in addition to the collateral to lower their risk further.

Personal guarantees

Personal guarantees are pledges from business owners to be personally responsible for the loan if the business cannot pay it back. Even with a business structured as a separate legal entity, such as an LLC or a corporation, a personal guarantee bypasses those protections, exposing the owner’s personal assets, including savings and property. 

Types of acceptable collateral

Lenders have varying preferences for what they consider acceptable collateral, but there are common assets that frequently make the list:

• Real estate: Commercial or personal real property can be used, but it must have significant equity to be valuable as collateral.
• Equipment: Machinery, computers, or any tangible assets used in business operations that hold value.
• Inventory: Stock that you sell can be collateral, though lenders will value it lower than its retail price.
• Accounts receivable: Money owed to the business by its customers can sometimes be used.
• Cash savings or deposits: These are easy to value and liquidate, making them a preferred form of collateral.
• Investments: Stocks or bonds can be considered but are subject to market risks and fluctuations.

Why do some lenders require down payments for small business loans?

Some lenders require a small business loan down payment to mitigate risk. A down payment ensures that the borrower is invested in the success of their business, aligning the interests of both the borrower and the lender. Additionally, a substantial down payment can improve loan terms, often leading to lower interest rates and reduced monthly payments.

Down payment percentages

The down payment for a small business loan, may depend on the business credit score. A higher credit score might reduce the required down payment since it indicates a lower risk to the lender. Traditional banks generally seek down payments ranging from 10% to 30% of the loan amount, while online lenders might have more flexible requirements or may not even require a down payment.

Down payment amounts

So, how much can you expect to pay for  a down payment for a small business loan? The amount required depends on your creditworthiness, the type and amount of the loan, and the collateral offered. Lenders will assess your financial capabilities and may require a higher down payment if the loan is perceived as riskier. As a business owner, it’s essential to balance your down payment against the need for cash flow and avoid overleveraging.

Detailed business and financial documentation: what you need when applying for a small business loan

When starting the small business loan process, lenders will require detailed documentation to assess financial health and risk before approving your application. Accurate financial statements are the backbone of any solid loan application, clearly delineating your business’s economic standing. 

• Business bank statements from the past few months will verify the cash flow information and provide evidence of financial stability. 
• Profit and loss statements capture the company’s income and expenses, which is essential for lenders to judge operational performance. 
• A balance sheet complements this by summarizing the company’s assets, liabilities, and shareholders’ equity, offering a snapshot of its financial position at a given point.
• Cash flow statements are equally critical. They outline the inflows and outflows of cash and reflect how well you manage liquidity—a vital indicator of solvency. 
• Tax returns and legal filings offer proof of compliance and earnings history, bolstering the credibility of your application.
• A comprehensive business plan is often a deciding factor in a lender’s confidence. This plan explains not only the strategic direction of your business but also how you plan to repay the loan.

While some lenders, such as banks, may ask for all of this documentation, others, like online lenders, may only require business bank statements before approving your application.

Legal and compliance requirements for small business loans

Any reputable small business loan lender will meticulously evaluate whether businesses operate within the legal framework and are duly registered and licensed. This doesn’t just ensure the business is legitimate but also reduces the risk for the lender.

Business licenses and permits

A business’s legitimacy and compliance are crucial. The appropriate licenses and permits demonstrate to lenders that the business is authorized to operate legally.

When applying for a small business loan, you may be required to present these documents as evidence of compliance. Common examples include: 

• A general business license
• Sales tax permit
• Health department permits for businesses dealing with food
• Professional licenses for regulated professions

Articles of incorporation or organization

Articles of incorporation (for a corporation) or articles of organization (for an LLC) are foundational legal documents that outline the primary details of your business. They are filed in the state you’re doing business in, confirming your business’s existence and legitimacy. Lenders often ask for these documents to ensure that your business is legally recognized and follows structured protocol. Failure to provide current and accurate articles can lead to complications during the loan application process.

Employer identification number

As mentioned, an Employer Identification Number (EIN) is your business’s federal tax identification number. It’s required for most businesses and must be used when filing business tax returns, opening a business bank account, and applying for business loans. Your EIN helps lenders verify your business’s tax history and investigate its creditworthiness. 

Personal identification and background check

Lenders will scrutinize the individual applying for the loan, as well as the business’s credentials. Personal identification is a mandatory requirement for the loan application process. Lenders often require a government-issued photo ID, such as a driver’s license or passport, to confirm your identity.

Furthermore, a background check might be carried out to ensure your track record of responsibility and reliability. This typically includes reviewing your personal credit history and score, which can influence loan terms such as interest rates and repayment plans.

The small business loan application process

Once you’ve assessed your qualifications for a small business loan, the next step is to gather the necessary documentation and prepare to present your case to potential lenders. 

The small business loan process has several stages, including choosing the right lender, preparing your application, and providing key information and documentation.

Choosing the right lender

When you’re in the market for a small business loan, selecting the right lender is just as important as preparing a strong application. Various financial institutions offer loans, from traditional banks and credit unions to online lenders and government entities like the U.S. Small Business Administration (SBA). Each has its own set of requirements, interest rates, and loan terms.

Be sure to compare the offerings from different lenders. Find interest rates/factor rates, fees, loan terms, and down payment requirements. Ideally, you should choose a lender with a process and requirements that fit your business’s financial position and long-term objectives.

Preparing your application

Your loan application is your chance to showcase your business’s financial stability and potential for growth. As previously mentioned, be prepared to provide detailed financial statements and a strong business plan that clarifies the purpose of the loan and how the funds will be used.

Key information and documentation to include

A thorough and well-organized loan application increases your chances of approval. Here are some of the  documents that you will likely need to present:

• Business bank statements – To showcase your business’s revenue.
• Business financial statements – To assess your business’s financial health.
• Tax returns – Both personal and business returns from the past few years.
• Business plan – A detailed explanation of your business model, market analysis, and strategic plan.
• Credit report – Your business and personal credit scores are both relevant.
• Legal documents – This may include business licenses, articles of incorporation, leases, or franchise agreements.
• Collateral – Information on assets that can be used to secure the loan, if required.

Special considerations for different types of small business financing

When it comes to small business financing, there isn’t a one-size-fits-all solution. Different types of loans serve different purposes and come with unique considerations. Here are some different types of small business financing available:

SBA loans

SBA loans are partially guaranteed by the Small Business Administration, a federal agency, which reduces the risk for lenders and can result in more favorable terms for borrowers. However, these loans often come with strict eligibility criteria: businesses must meet size standards, be based in the U.S., and operate for profit. SBA loans usually require a solid business plan and good personal and business credit and may necessitate collateral. 

Term loans

Term loans are traditional loans from banks or online lenders with a set repayment schedule and interest rate. To qualify for a term loan, borrowers often need a strong credit score, a track record of business profitability, and sometimes collateral. Term loans usually have fixed payments over the life of the loan and can range from short to long-term, depending on the purpose of the loan. 

Lines of credit

A line of credit provides flexibility by offering a credit limit that businesses can draw from as needed, only paying interest on the amount used. It’s an excellent choice for managing cash flow and handling unexpected expenses. To be eligible for a line of credit, businesses must have been in operation for a certain period, possess a minimum annual revenue, and maintain a good credit score. 

Equipment financing

Equipment financing is a loan specifically for purchasing business equipment. This type of loan uses the equipment as collateral, making it easier to qualify for than unsecured loans. Businesses seeking equipment financing must present a quote or invoice for the equipment they purchase. Since the equipment acts as collateral, lenders may be more lenient with credit score requirements. Terms are typically aligned with the expected life of the equipment.

Invoice financing

Invoice financing is a way for businesses to borrow money based on the amounts due from customers. It’s particularly useful for businesses with cash flow gaps due to slow-paying customers. With invoice financing, companies can receive an advance on outstanding invoices, usually up to a certain percentage of the invoice value. For this type of financing, the lender will review the creditworthiness of the borrowers’ customers and may not require as detailed a credit history from the borrower.

Tips for increasing your chances of approval for a small business loan

To improve your chances of approval when applying for a small business loan, here are some additional tips to guide you:

Strengthen your business plan

Lenders want to see a clear, detailed business plan that outlines the feasibility of your business, revenue projections, and a thorough market analysis. Ensure that your business plan demonstrates the potential for growth and profitability, giving lenders confidence in your ability to repay the loan.

Build relationships with lenders

Building a relationship with potential lenders before applying for a loan can be helpful. When lenders are familiar with your business and its financial history, they may be more inclined to offer favorable terms. Start conversations, set meetings at banks, and reach out to online lenders to introduce your business well before you require financing. It’ll help you better understand loan requirements and stay in touch with the right people as you seek funding. 

Seek professional guidance

Lastly, seeking professional guidance can streamline the small business loan requirements process. Financial advisors or loan brokers can provide insights into the down payment for a small business loan, offer strategies to meet small business loan down payment requirements, and even steer you toward the right financing options. They’ll be able to guide you on how much down payment for a small business loan is typically needed and help you prepare all the necessary documentation to enhance your loan application.

FAQs

What is a good credit score needed for a small business loan?

Ideally, a good credit score for a small business loan is above 680, which helps secure favorable terms. Keep in mind that there are lenders who may accept lower scores.

What types of collateral are acceptable for securing a small business loan?

Acceptable forms of collateral include real estate, equipment, inventory, or cash savings. The specifics can vary depending on the lender’s requirements and the loan amount.

How long does my small business need to be operational to qualify for a small business loan?

To qualify for most small business loans, your business generally needs to have been operational for at least two years. However, this can vary with the type of loan and the lender, with some options available for newer businesses.

What disqualifies you from getting an SBA loan?

Certain factors, such as criminal records, previous defaults on government loans, and poor financial statements, can lead to disqualification from getting an SBA loan. Be sure you understand these criteria to better prepare for the small business loan process.

What percent down do you need for a small business loan?

The down payment required for a small business loan can vary, but it typically falls between 10% and 30% of the loan amount. The specific percentage will depend on factors such as the type of loan, the lender’s requirements, and your individual financial situation. Not all lenders require a down payment.

**Limits and other fees may apply. Please see Deposit Account Agreement for details.