What Changes the Terms on Business Loans?
Why can two businesses apply to borrow the same amount with the same type of loan, but get two very different offers? The answer is a risk. Lenders assess the risk of default and then make their offers accordingly; the higher the risk, the more unfavorable the terms. This is to protect a bank’s investment and ensure that if you fail to repay your loan, it can still make a profit or at least recoup its losses.
So what tells banks the level of risk they should anticipate when lending? There are several factors to consider.
Business History
The longer you’ve been in business, the less of a risk you pose to lenders. Start-ups have a high failure rate, so banks may be hesitant to lend. If you’re able to weather the first few years, however, and show financial success, you can get more favorable terms.
Credit History
When you apply for business loans, expect lenders to look at both your business and personal credit history. They want to gauge your creditworthiness.
The better your credit scores, the more favorable the terms are likely to be. However, if even one of your scores is poor, you can expect a more expensive lending process.
Business Type
Banks are well aware that some types of businesses are more stable than others. Certain industries have regular ups and downs, which make them a riskier investment. Some are threatened by developing technologies. If you’re in an industry that sees regular upheaval or isn’t expected to grow over the next few years, lenders may increase fees and interest rates.
Down Payment Size
A down payment is a strong indicator of your personal investment in a business or project since it’s money you won’t get back in the event of default. For this reason, a larger down payment can often positively affect your loan terms. In fact, some banks may require you to put down a certain percentage as part of the financial agreement.
Business Plan
Depending on the lender, your business plan may have a big impact on loan terms. If you’re seeking alternative lending options with angel investors, for example, they may be more interested in how you plan to turn a profit, since their compensation comes in the form of stocks. Even if you’re applying for business loans with a traditional lender, you should make a business plan to show professionalism and personal investment in your endeavor.
