Small-business bank loans become a bit easier to get
They're still tough and time-consuming, so consider startup alternatives
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Dear Your Business Credit,
I am getting my business plan together for my startup and I intend to apply for a business loan, but am not sure of the timing. What's the outlook for small business lending, will it get better, and how will applying for a small business loan impact my personal credit? It's very good now and I don't want to take a hit on it unnecessarily by applying for business loans. I know from car-buying and home-buying that when you apply for an auto loan or mortgage, applications are "bundled" and only create one "hit" on your credit, even if you make multiple applications. Is the same true of business loan applications? -- Shelly
Congratulations on getting your business plan together. With the economy getting a little stronger, it is a good time to start a business for many entrepreneurs.
The outlook for small business lending has grown better in recent months. When the Federal Reserve Board of Governors surveyed banks' senior loan officers in January 2014, it found that they have generally been easing lending standards on commercial and industrial loans. One big reason is that they are seeing more competition for such loans. Domestic banks are also making it easier to get commercial real estate loans, according to the poll. The survey included loan officers from 75 domestic banks and 21 U.S. branches and agencies of foreign banks.
Now here's the rub. Banks are more inclined to lend to large and midsize firms than small businesses. Among the loan officers, 84 percent said lending standards for businesses with revenue of $50 million or more stayed the same in the prior three months, while 14 percent said standards had eased somewhat.
But for small businesses -- meaning those with annual revenue of less than $50 million -- 93 percent of loan officers said standards for small businesses had not changed in the previous three months, and only 6 percent said they had eased somewhat. (There's a tiny bit of good news: Only 1 percent said standards had tightened somewhat.)
It's also getting easier to find an attractive deal. The of credit lines for small firms stayed static at 74 percent of the banks, but improved somewhat in 26 percent of the cases.
It is smart to protect your personal credit, since you will most likely be asked to personally guarantee a small business loan from a bank. Rohit Arora, CEO of Biz2Credit, an online matchmaker between borrowers and lenders based in New York City, says that normally, each time you make a loan application with an individual bank, your credit gets hit. However, when you apply through a matchmaking site like his, he says, "We do one soft pull and then qualify the customers, as we have underwriting criteria of all the lenders already in place." There are a number of online matchmakers similar to Biz2Credit, so if you opt to use one, ask if they bundle loan applications in this way.
Now let's look at your individual business, which is a startup. Banks have always been cautious about lending to brand-new businesses. To avoid rejection of your application, get "proof of concept" before you apply for a loan. Figure out if there is some way to market what you plan to sell in the business on a limited scale, to illustrate that people will buy it -- at a sufficient pace to cover your overhead.
Doing this tells the banker that you not only have a viable idea but also have the initiative to execute on it. It will also tell you if you actually like running the business, before you borrow money to fund it.
There are many ways to get proof of concept. Let's say you do want to make and sell your own handbags. If you are getting purchases from your friends and family, that's a good sign -- but it doesn't tell you if you have a sustainable business. Try setting up a storefront on an online crafts marketplace such as Etsy or selling them at fairs and see how that goes.
The same can be done if you work in professional services. If you work as a marketing director and want to start your own marketing company, start looking for freelance projects you can do from home on evenings or weekends. (Just make sure you're not violating any agreements you signed with your employer that prohibit moonlighting.) Keep good records on how much money you're generating, so you can show them to the banker. Many online accounting systems make it easy to create a profit and loss statement, which is something the banker will want to see.
Also consider other types of financing. Credit card financing is often ideal for startups, especially if you have good credit and have access to low interest rates. It is quick and easy, relative to applying for a bank loan.
And don't overlook financing the business with your own salary from a day job. Research released in April 2014 by Gallup shows that for 54 percent of microbusiness owners, another job is the main source of income for the first year. Running a business doesn't have to be an all-or-nothing prospect. Often, easing into full-time business ownership gradually works best -- and it's easier on your bank account.
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