Business Loan Do’s and Don’ts

When you are just starting a business, you might be overwhelmed with how many things you need to think about. Probably at the top is how to finance their business.

Applying for a business loan is a great source of capital, but it can be difficult to navigate all the options that are available to small business owners. Some of the types of loans your business can be eligible for are SBA loans, conventional bank loans, online working capital loans, and peer-to-peer loans.

There are certain factors to look out for so that you make sure you are getting the right kind of loan and are not overspending. Today we will talk about what you need to keep in mind when searching for a business loan.

Do Not Apply to Too Many Loans

When you are just starting out in your business and are looking for a loan, you might be tempted to apply to as many loans as possible hoping that you get at least one approval. However, if you do this your credit score will be hurt making it harder to qualify for a loan.

The lender checks for your credit every single time you apply for a business loan. Lenders will do a soft credit pull when getting an initial quote, but a soft pull does not affect your credit score.

After you submit your full application, the lender will do a hard credit pull. A hard credit pull does affect your credit score by a few points for each application.

What you should do is first find out the qualification criteria of the lenders you find and apply to only two or three options that you are likely to qualify for. Make sure to also ask the lender about tis credit check policies so you are not thrown off by a surprise.

Understand the Costs

Lenders describe the cost of alone in different ways. Some will tell the interest rate on the loan and others might tell you the total amount you will need to pay back. It can be hard to compare your loan options because lenders will describe the loans in different ways. One way to make this easier is by asking them for the Annual Percentage Rate (APR) of the loan.

APR is the total cost of a loan over one year with fees. You might have heard of an APR when buying a car or a home. The APR of a bank or SBA loan ranges from around six to nine percent. It can be higher for alternative lenders that provide fast funding and work with credit borrowers.

Having a low APR is not always better than a high APR loan. Short term loans have high APRS, but they are paid fast so you are not paying interest for a long time. The total amount of money that you must pay back is low.

Be Aware of Prepayment Penalties

It is important that you know what the prepayment penalties are because they can be a trap for some borrowers. A prepayment penalty is a fee that s charged if you pay off a loan before the due date. By paying off the loan early, you will reduce the amount of interest that the lender earns on the loan, so they charge a penalty. The penalty fee is about two to three percent of the outstanding balance of the loan.

Not all loans have prepayment penalties so when you are shopping for a loan, you need to read the fine print. Standard SBA loans do not have prepayment penalties for example. Be sure you understand how much you will be charged for when you prepay a loan.

Choose Between a Line of Credit and a Traditional Loan

Depending on what the needs of your business are, a line of credit might be a better option for you than a traditional loan. A loan is a fixed amount that you pay back with interest over a period of time and a line of credit works like a credit card. You access the amount you need and repay it over a period of time. The advantage of a line of credit is that you only have to pay interest on the funds you use.

A line of credit is flexible and provides a safety net to cover unexpected business expenses. Loans work better when you need to finance a long-term investment like real estate and equipment.

Understand What Is at Stake

Many lenders will not give a loan to a business unless it is secured by collateral, a lien, or personal guarantee. If you do not pay back the loan, our valuable personal and business assets may be at stake. When a loan is backed by a general lien, the lender can take any or all business assets to satisfy the loan that is unpaid.

Loans with no collateral or liens may require a personal guarantee. This allows the lender the right to seize assets such as your home and car if you are unable to pay back the loan.

Bottom Line

There are lot of things to consider when you are trying to get a business loan. Following the tips in this article will help you get a business loan and avoid making common mistakes. Having a business loan is a huge commitment so you want to cover your bases and make sue you know what you are getting and what you are paying for it.

A business loan can be a great source of capital but it can be overwhelming for small business owners because of all the options available. Learn the do's and don'ts here.