Unsecured business loans are a popular financing option for many small and medium-sized enterprises (SMEs), especially those that may not have significant assets to offer as collateral. Unlike secured loans, unsecured business loans don’t require you to pledge any assets, which can be a relief for business owners who want to protect their property or equipment. However, because the lender is taking on more risk, the eligibility criteria for unsecured business loans can be stricter. In this blog, we’ll break down the key factors that lenders consider when approving unsecured loans and offer tips on how you can improve your chances of getting approved.
1. Credit Score
Your credit score is one of the most important factors that lenders consider when evaluating your application for an unsecured business loan. Both your personal and business credit scores can play a role in the decision-making process. A high credit score indicates to lenders that you have a history of managing debt responsibly, which reduces their risk.
- Personal Credit Score: Lenders often look at the business owner’s personal credit score, especially if the business is relatively new or small. A score of 700 or above is generally considered good, but the exact requirements can vary by lender.
- Business Credit Score: If your business has been around long enough to establish its own credit history, lenders will also consider your business credit score. A strong business credit score can offset a lower personal credit score in some cases.
Tips to Improve Your Credit Score:
- Pay all your bills on time, including credit cards and utility payments.
- Reduce your overall debt load, especially on revolving credit accounts like credit cards.
- Regularly check your credit report for errors and correct any inaccuracies.
2. Business Financials
Lenders will carefully review your business’s financial statements to assess its financial health. These documents give lenders insight into how well your business is performing and whether it generates enough revenue to cover loan repayments.
- Profit and Loss Statements: These show your business’s revenues, costs, and expenses over a period of time, giving lenders an idea of your profitability.
- Balance Sheets: This document provides a snapshot of your business’s financial position at a specific point in time, showing assets, liabilities, and equity.
- Cash Flow Statements: Lenders are particularly interested in your cash flow, as this indicates whether your business has enough liquid assets to cover day-to-day operations and repay the loan.
Tips for Strengthening Your Financials:
- Maintain up-to-date and accurate financial records.
- Focus on increasing revenue while managing expenses to improve profitability.
- Use accounting software to track your financial health regularly.
3. Business Age and Stability
The age and stability of your business are also critical factors in determining your eligibility for an unsecured loan. Lenders prefer to work with businesses that have a proven track record and have been in operation for several years.
- Established Businesses: Lenders typically prefer businesses that have been operating for at least two years. These businesses are seen as less risky because they have a history of surviving market fluctuations.
- New Businesses: Start-ups or newer businesses may find it more challenging to secure unsecured loans because they lack a proven track record. However, strong personal credit and a solid business plan can sometimes help overcome this hurdle.
Tips for Newer Businesses:
- Focus on building a solid business plan that demonstrates your potential for growth and profitability.
- Consider starting with smaller loans or alternative financing options to build your business credit.
4. Debt-to-Income Ratio
The debt-to-income (DTI) ratio is a key metric that lenders use to evaluate your ability to manage additional debt. This ratio compares your total monthly debt payments to your monthly income. A lower DTI ratio suggests that you have a healthy balance between debt and income, which makes you a more attractive borrower.
- Calculation: To calculate your DTI ratio, divide your total monthly debt payments by your gross monthly income. For example, if your monthly debt payments are £5,000 and your monthly income is £20,000, your DTI ratio is 25%.
- Preferred DTI Ratio: Lenders typically look for a DTI ratio below 40%, although this can vary depending on the lender and the type of loan.
Tips to Improve Your DTI Ratio:
- Pay down existing debt to lower your monthly payments.
- Increase your income by boosting sales or finding new revenue streams.
- Avoid taking on new debt before applying for an unsecured loan.
5. Loan Amount and Purpose
The amount you’re requesting and the purpose of the loan are also important considerations for lenders. They want to ensure that the loan amount is reasonable given your business’s financial situation and that the funds will be used in a way that will enhance your business’s ability to repay the loan.
- Loan Amount: Be realistic about how much you need to borrow. Requesting a loan that’s too large relative to your business’s size or revenue can be a red flag for lenders.
- Loan Purpose: Clearly articulate how you plan to use the loan. Whether it’s for expansion, inventory, or working capital, a clear and specific purpose will make your application stronger.
Tips for a Successful Loan Request:
- Prepare a detailed plan showing how the loan will benefit your business and how you’ll repay it.
- Ensure that the requested amount aligns with your business’s financial capacity.
Additional Factors That May Influence Approval
Apart from the primary criteria, several other factors can influence your eligibility for an unsecured business loan:
- Industry Type: Some industries are considered higher risk than others. If your business operates in a high-risk industry, you may face stricter lending criteria.
- Personal Guarantees: Some lenders may require a personal guarantee, which means that if your business is unable to repay the loan, you’ll be personally responsible for it.
- Lender-Specific Criteria: Different lenders have different risk appetites and may have their own specific criteria for approving loans.
Tips for Improving Your Eligibility for Unsecured Business Loans
To improve your chances of securing an unsecured business loan, consider the following strategies:
- Strengthen Your Credit Scores: Work on both your personal and business credit scores by paying bills on time, reducing debt, and correcting errors on your credit reports.
- Organise Your Financial Documents: Ensure that all financial statements are accurate, up-to-date, and readily available for review by lenders.
- Build Relationships with Lenders: Developing a relationship with your lender can improve your chances of approval. Consider meeting with your bank’s business advisor to discuss your needs.
- Explore Alternative Lenders: If traditional banks are not an option, consider alternative lenders who may have more flexible criteria.
Securing an unsecured business loan can provide the financial support your business needs to grow and succeed. However, understanding and meeting the eligibility criteria is crucial to getting approved. By focusing on improving your credit score, maintaining strong financials, and clearly articulating your loan needs, you can increase your chances of securing the financing your business needs.
Ready to explore your options? Reach out to Funding Guru today to assess your eligibility for unsecured business loans and prepare a strong application.
