We outline where to turn if your business loan application is rejected.

Applying for a bank loan doesn’t guarantee you’ll be approved. In fact, most startups and small businesses are rejected for a multitude of reasons including low credit scores, weak or negative cash flow, lack of collateral, and length of time in business, among other things. Bank rejection isn’t the end of the world, and there are opportunities that arise if you find yourself in that situation.

Here’s what you should do if you’ve been turned down by a bank:

1. Look at it from the bank’s perspective

This is nothing to take personally. Rejection may actually help you identify weak points in your business plan.

Call the banker and politely ask for an explanation. How can your future application be improved? What would make your business a stronger credit to the bank? If the lender believes there’s too much risk in your standalone business, ask if using your personal assets as collateral would help. Proving your commitment goes a long way and leveraging personal collateral will help reassure the bank that they’re protected and you’re committed.

Loan Application Rejected Package

2. Dig into your business fundamentals.

Cash flow profile, seasonality, time in business, and available assets are all factors that banks consider when underwriting. For cash flow loans (uncollateralized), the business usually needs to have been an operating entity for at least 2-3 years as well as profitable. Other criteria include customer concentration, background of principals, customer contracts (long term, recurring?) are also taken into consideration. If your business has assets like accounts receivable or real estate (and to a lesser extent inventory) banks will be more flexible in their underwriting process.

It’s important to understand the distinction between short term and long term loans and what underwriters of both look for in terms of business fundamentals. Short term lenders (cash advances, factoring, ABLs, etc) rely on your most monetizable assets (usually AR or the promise of future AR in the case of cash advances) to make a quick approval decision. Most banks on the other hand make long term loans, and as such, require cash flow to cover expected interest expense and amortization. This naturally just takes a longer time. Most lenders are looking for a coverage ratio (operating cash flow / required debt payments) of at least 1.5x. For the best rate loans, 2.0x coverage and higher is often required.

3. Reach out to specialized banks.

There are thousands of banks in the U.S. – many specialize in certain niches, regions, and industries. For instance, Bank of Ann Arbor, a small Michigan bank, offers lines of credit to venture capital firms. Stearn Bank offers equipment financing with a particular focus on the agriculture and construction industries. Find the bank that focuses on your industry and / or region. Don’t rely on the big national banks that may only seriously focus on lending to businesses above a certain size.

4. Look into your tax strategy.

Deducting everything you can from your business’s income might help reduce your tax burden. It’s also what accountants and bookkeepers are trained to do. However, every deduction also reduces your business’s income. This strategy can backfire when you’re applying for a bank loan. Banks will consider your tax return income as a measure of profitability. Most banks won’t lend to unprofitable businesses without some type of collateral. Discuss with your local banker whether deducting less in a year to show some tax profitability is worth it from an underwriting perspective. If a business loan is really needed, it may make sense to endure the tax costs of less deductions.

Lenders will also take notice of your historical revenue on your tax return. If you submit returns for multiple years, they will be able to establish a sales pattern. If your revenue is stable or growing each year, it’s a sign that you will be able to repay a loan from them.

5. Check your personal and business credit score.

Credit scores are a common reason why small businesses are denied at banks. Banks are risk-averse creatures and your personal or business credit score might just not be high enough. FICO scores below 640 mean you’re not likely to be approved for a loan at major banks. Even personal credit scores approaching 700 are looked at warily by some banks.

Most people are familiar with personal credit scores (FICO, Experian, etc) but you may not know about business credit scores. Factors that determine business credit score include payment history with suppliers, length of time in business, credit outstanding, liens on the business, industry risk, and company size, among other factors. You can improve your business credit score by paying your suppliers and vendors on time, opening multiple credit accounts (i.e. business credit cards), and keeping your credit utilization around 25%.

Set of Tool Loan Application Rejected

6. Look for alternative sources of funding.

There are MANY alternatives to financing your business outside of a bank. Take time to explore which options are a fit for your business. Here’s a few different categories:

  • Crowdfunding: Kickstarter and Indiegogo are the most popular crowdfunding sites that businesses use to gain exposure for and fund their products. They are excellent platforms to test the market and gather capital prelaunch. Kickstarter and IndieGoGo are the two heavyweights in crowdfunding, but key differences exist between the two, which are highlighted at Crowdfunding Dojo.
  • Angel Investing: Early stage equity investing for small businesses. Angel investing usually funds the earliest stage businesses and serves as a precursor to seed funding (though there’s growing overlap). There are thousands of informal angel investors but many band together to form syndicates that can invest larger checks. Some notable syndicates include Tech Coast Angels, Golden Seeds, and AngelList (equity crowdfunding).
  • Receivables financing: AR factoring leverages your receivables as assets to access funds quickly. The factoring company advances up to 90% of the receivable’s value within 24 hours, with rates ranging from 2 to 4% per month. Factoring is only available to B2B or B2Gov companies, but it can provide a compelling value proposition (from both a price and speed perspective) for businesses that aren’t quite bank loan-ready yet.
  • Merchant cash advances: Pricy but fast form of financing that takes a percentage split of your future sales until the advance is paid back plus interest. An MCA is not a loan, but rather a sale of future receivables.

Accounts receivable factoring could be the smart alternative to finance your business. To learn more about the financing solutions that Harper Partners provides, fill out our contact form, send us a message via the chatbox below, or call us at (310) 817-0376. We look forward to learning more about your business!