What is the secret for receiving an approval for a Business Loan?
There are 5 critical characteristics a lender takes into consideration for businesses seeking a loan, commonly known as the 5 C’s. Although many know what they are, below is an explanation of each specifically from the perspective of the lender.
- Character: The most important tool a lender uses to determine how risky you are is your credit history. It enables lenders to see your history of transactions and if you have been late or not on your payments. Your personal credit history is the best way to determine the reliability of your character.
- Capital: In addition to your credit, lenders will determine their risk based upon the project at hand. In a perfect world, lenders would like to have zero or the least amount of risk as possible. In most cases this does not happen, which is why lenders like to see how much money or capital you have personally invested into your project. The more you invest in the project, the less risk a lender takes; therefore the more likely your project will be funded.
- Capacity: The ability one has to repay the loan. Due to their short history, new businesses lack this. However, existing businesses can provide capacity by providing previous years tax returns. This is the only way to evaluate how the company has done in the past and to measure the potential it has to grow in the future. Nevertheless, new businesses can provide capacity through secondary sources of income or an outside source of revenue that does not come from the business, such as a spouse’s income or rental real estate.
- Collateral: Any individual asking for a loan should be ready to give up something to satisfy the lender. A lenders objective is to minimize risk and one way to accomplish this is by taking collateral. Collateral can include anything from equipment to real estate, depending on the amount of the loan requested. In some cases collateral is not necessary, but individuals seeking a loan in excess of $25,000 should be prepared to offer some form of security.
- Conditions: Conditions largely relate to circumstances that we have little to no control over. In recent years, the economic recession has been a condition in which lenders have taken a more conservative stand on lending and have instituted stricter guidelines. If your business is sensitive to economic downturns, lenders will want to know that you are competent at managing productivity and expenses.
Typically, lenders like to see a borrower secure 4 out of the 5 C’s when applying for a loan. This way, they can be certain that their money will be repaid in a timely manner and in full. If you do not secure 4 out of 5, then we recommend putting a plan together to map out how you will be securing at least 4 out of the 5 C’s in the future.
Paul Mazbanian (2011 SBA Young Entrepreneur of the Year – Los Angeles District Office)