Small business loans: what lenders assess before approving finance

A small business loan may be used to fund equipment, vehicles, premises, expansion, stock, acquisitions or other legitimate business requirements.

Approval depends on more than revenue. Lenders want to understand how the money will be used, how it will be repaid and what risks may affect the business.

Loan purpose

A clear loan purpose helps the lender assess whether the amount and product are appropriate.

Common purposes include:

• purchasing equipment
• buying a commercial vehicle
• fitting out premises
• acquiring a business
• funding expansion
• purchasing stock
• refinancing existing business debt
• covering a temporary cash-flow requirement.

Long-term assets are generally better matched with an appropriate loan term than recurring operating losses.

Cash flow and repayment capacity

The lender may assess:

• sales revenue
• gross and net profit
• operating cash flow
• debt repayments
• tax obligations
• working-capital cycles
• seasonality
• customer concentration
• available cash reserves
• expected effect of the proposed investment.

A profitable business can still experience cash-flow pressure where customers pay slowly, stock turns over gradually or large expenses fall due before revenue is received.

Financial information

Depending on the lender, loan and business, information may include:

• financial statements
• tax returns
• business activity statements
• bank statements
• aged receivables and payables
• management accounts
• cash-flow forecasts
• contracts or purchase orders
• accountant-prepared information
• details of existing debts.

Some products use streamlined or alternative verification, but this does not mean the lender will disregard repayment capacity or credit risk.

Trading history

An established business with consistent results may have more options than a new business.

Newer businesses may need:

• a larger contribution
• stronger security
• relevant industry experience
• detailed forecasts
• evidence of contracts
• personal support from the directors.

Credit history and account conduct

The lender may review the credit history of the business, directors and guarantors.

Issues may include:

• late payments
• tax arrears
• defaults
• dishonoured transactions
• excessive overdraft use
• recent credit applications
• insolvency history
• repayment arrangements.

It is better to explain a known issue with evidence than to allow the lender to discover it without context.

Security and guarantees

Business finance may be secured by:

• the financed equipment or vehicle
• commercial property
• residential property
• business assets
• personal or director guarantees
• general security agreements.

Providing property security can reduce lender risk but places the secured asset at risk if the loan is not repaid.

Understand exactly what is being secured and what guarantees are being provided.

Interest rate and total cost

Business loan pricing may be fixed or variable and can depend on risk, security, term and lender.

Compare:

• interest rate
• establishment fee
• line or account fees
• valuation and legal costs
• early repayment costs
• broker or adviser fees
• repayment frequency
• residual or balloon payments
• default charges.

Prepare before applying

A strong application explains:

• what the funds will be used for
• how much is required
• how the amount was calculated
• how the loan will generate value
• how repayments will be made
• what risks have been considered.

Discuss your business finance requirements

Call to action: Talk with a finweb broker experienced in business finance to review your funding requirement, supporting information and available lender options.

*General information only. Business finance may not be regulated in the same way as consumer credit. Obtain independent legal, taxation and accounting advice before entering a business loan or guarantee.*