Getting rejected is never fun. Getting a Small Business Administration (SBA) loan rejected is not only not fun but also hurts the prospective borrower’s future, bottom line and opportunities.
SBA Loan rejections often occur due to commonly occurring reasons. The more typical reasons for an SBA loan rejection are poor collateral, bad credit, an underperforming business and an incomplete business loan application. By improving all of these critical factors, a business loan applicant can significantly increase their chances of securing loan approval.
Optimizing Business Loan Collateral
SBA lenders only offer secured loans. These loans are secured by some type of collateral as a way to recoup some or all of their loss in the event that the borrower defaults on the loan.
SBA loans can be secured by different types of collateral. The business assets, themselves, are collateral for the business loan. This includes equipment, inventory, furniture, vehicles, etc. In the event that the borrower defaults on the SBA loan, then these assets are seized by the SBA lender. The SBA lender will then liquidate the forfeited assets to recoup whatever they can on the outstanding debt.
Borrowers with a less than perfect application profile could enhance their chances of securing loan approval by offering additional collateral. Applicants with investment real estate and other types of valuable assets may be able to improve their chances, assuming other aspects of their loan application are satisfactory, by including these assets as collateral. The borrower takes on greater risk but the lender now has multiple assets to pursue in the event of the borrower’s default.
Addressing Poor Credit Ratings In Your SBA Loan Application
Borrower’s with poor credit will have challenges securing SBA loan approval. Credit history is one of the primary means by which lenders determine whether a potential burrower is creditworthy. This makes sense of course in the sense that a lender does not want to risk issuing loans to someone who demonstrates a poor history with managing money. Failing to properly address past credit issues will lead to SBA loan rejection.
Yet, life happens. The borrower may have been in previous partnership or marriage where their partner caused the credit score impairment which is now being reflected on the borrower’s score.
If the business loan applicant can show the lender that their involvement was minimal in causing the poor credit score with compelling documentation, the applicant may be able to overcome SBA loan rejection. It will be critical for the applicant to provide sufficient supporting documentations and a through explanation to the lender.
Alternatively, the prospective borrower may just need to first focus on repairing their credit before they can realistically expect to be approved for a loan. Should the applicant’s credit show defaulted loans, bankruptcy and other mishaps, then their credit score may be improved by debt consolidation and regular payments in a timely and regular manner. One’s credit score will improve with consistent debt repayments which occur over a stretch of time.
Cash Flow Considerations
Cash is king. In terms of SBA business loans, cash flow is king. The bottom line to getting a business loan approved is showing that the business is profitable. The more profitable, then more likely the SBA loan will be approved. In terms of all the factors weighed by SBA lenders for SBA loan approval, this is probably the most significant and one of the better pathways to avoid SBA loan rejection.
Lenders will consider the business’ financial statements over the past 3-5 years. Specifically, they will examine the tax returns over the past 3-5 years, the Profit & Loss statements (P&L) and balance sheet. The lenders will be looking at the trends lines for both revenue and profit to determine whether it’s increasing, decreasing or level over the past few years.
Debt Service Coverage Ratio (DSCR)
The lender’s examination of the business’ finances provides lenders with insight as to the stability of cash flow of the business and whether the business generates sufficient profit for the borrower to both pay the debt and earn a living which is known as debt service coverage ratio or DSCR.
Ideally, SBA lenders are looking for a DSCR of 1.2. If the number falls short, then the SBA loan rejection is likely. If it’s at or above that number, that’s very good news for the applicant and SBA loan rejection may very well be avoided.
You can test to see whether you meet the DSCR 1.2 threshold with the following Debt Service Coverage Ratio Calculator.
Providing a Thorough & Complete SBA Loan Application
While it may be obvious, loan applications must be thoroughly completed. An SBA loan application that is incomplete or missing supporting documentation will be rejected if not properly remedied.
The SBA loan application will ask for a number of supporting documents including, but not limited to, the business purchase agreement, financial records for the business, the applicant’s credit profile, resume, bank statements, etc. Some of these documents will be independently verified by the lender, such as the tax returns for the business being purchased.
Failing to provide accurate and complete records can lead to SBA loan rejection both because it fails to comply with the lender’s application requirements but also as a reflection of the applicant’s failure to follow instructions.
Providing a through, complete application and responding to the underwriter’s further documentation request will enhance the applicant’s chances of loan approval.
Factors that affect SBA loan rejection for a business loan are numerous. By focusing on the most common failure points, good credit, adequate collateral, good cash flow, and a complete application, can increase an applicant’s chances of getting loan approval.
Lenders need to see that they are making a good choice when taking a risk in approving your loan application. The basis for loan approval is to make profit for the bank and they will only succeed in doing so by assuring that approving the applicant’s request for financing is worth the risk.
Check out our extensive SBA Loan Broker resources to help you secure loan financing and avoid SBA loan rejection. Contact our office to speak to one of our SBA loan brokers to help you get started on making your dreams of business ownership a reality.