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Start Up Business Funding - What Lenders Want to See

Pre-Qualify for a start-up loan

Start up business funding and construction loans are considered to be riskier than loans to established businesses therefore lenders will scrutinize the reasonableness of your assumptions in your business plan and projections. Different lenders have different business financing criteria or "credit boxes", these vary from lender to lender and also by loan type and locale. Generally lenders will consider risk mitigating factors such as the following and the importance assigned to each factor may also vary from lender to lender:

  • Debt Service Coverage This is the ratio of the cash flow available from operations available to pay the scheduled loan payments divided by the scheduled loan payments. Business lenders will want to see a sufficient cushion of excess cash flow, in a start-up you can expect many lenders to require a 20% cushion (i.e. 1.2:1) or greater. In a construction loan, the lender will generally hold the loan payments and disburse them during the construction period.
  • Capital When considering business funding, the lender will want to ensure that you have sufficient capital to succeed. In addition to the loan proceeds they will undoubtedly require a significant equity contribution from you, 20% of the project costs would be at the low end of acceptability for a new business. The greater your equity infusion the greater your chances of getting a loan on favorable terms. Lenders want to see that you have a significant financial commitment to the business i.e. "skin in the game". Make sure that you provide for adequate working capital to cover expenses until the business is open and operating and generating sufficient cash flow. Make sure you have a large enough cushion in case the business lending process does not go as expected.
  • What will lenders think of your application? Find out before you commit. Discover if you pre-qualify for startup financing with a bQual Report
  • Collateral
    Although business lenders look primarily to the cash flow from the business as the primary source of repayment of the loan, collateral is a strong secondary source of repayment that will mitigate the risk for the lender. When reviewing a business financing request, many lenders favor real estate as their primary collateral, usually a first mortgage. You may hear lender's state, give me something that doesn't move and doesn't breathe. They will require their own appraisals and usually discount the fair market value to come up with their ratio of loan to value or LTV. Generally the lower the LTV (e.g. 75% or lower) the greater the chances of getting a loan. If you are planning to pledge your primary residence as collateral you must make sure that you can do so, since some states, like Texas have homestead laws that impose limitations on lenders' rights.
  • Personal Credit
    Small business lenders tend to rely heavily on your personal credit history and if available your business credit history. This provides a good indication of how you manage your finances. Do you pay your bills on a timely basis, are you overextended on your loans and credit cards. Your FICO score may be a good indication of your creditworthiness (the higher the score, the better your rating). However your score can be adversely affected by non-credit issues such as the number of requests made by lenders for your score, these are called "hard pulls" as opposed to "soft pulls" where you request your own score.
  • Business Credit Score
    Most lenders use some type of scoring system for making small-business lending decisions. The SBA announced that commencing in January 1, 2014, all SBA loans up to $350,000 must first be screened to see if they have a minimum business score (which as of this writing is 140). This score is generated by Fair Isaacs Corporation and is commonly referred to the SBSS score. The score relies upon your asset and liabilities, personal credit data, business data and other application information. A SBSS score can be generated even for a start-up business. The SBSS score has been validated for larger loans and is available at
  • Management Experience Lenders are cognizant of the fact that the success of a business will often depend upon the skill of the management team. As a borrower you will want to clearly layout the aspects of your prior experience, education and skill set that you believe will enable you to succeed. If your business is a franchise, you need to specify the training that the franchisor provides. If you do not have relevant prior experience, it would be helpful to have someone on your management team that does.
  • Personal Financial Strength and Liquidity There are several reasons why small business lenders review your personal financial statements and historical tax returns (usually 3 years of tax returns are optimal). In a start-up situation, for construction and SBA loans, lenders will require the owners to personally guarantee the loan. They want to determine whether you have sufficient assets and liquidity to meet your personal obligations and living expenses and if not, how much will need to draw from the business to cover your expenses. Equally important, they would like to see that you have sufficient liquid assets to inject into the business if for some unforeseen reason the business needs more capital. If you lack liquidity and personal financial strength, you can expect a lender to ask for a strong third party guarantor.

Some Other Considerations

  • Franchise Loans - the performance history of the franchise, is the franchise eligible for SBA financing, is it listed on SBA's franchise registry.
  • Industry Default Rates - what are the default rates for the industry in question.
  • Economic Trends - What is the condition of the economy where your business is located, what are the trends and what impact will the national and global economy have on your business.
  • Investment Real Estate Construction - What are the vacancy rates in the area, how do your projected rents compare to the market in general? What is the potential for competing new construction in the future, i.e. over saturation of the market? How strong is the contractor and will a surety bond be required?

Related Resources

How to get a Start-Up Loan
Business Plans for Start-Up Loans

Start Up Business Funding Resources