7 Questions to Ask Before Applying For a Small Business Loan

This article was paid for by SBG Funding.

It’s not unusual for small businesses to require a cash infusion from time to time — whether to cover operating expenses, expand operations or invest in new equipment. 

When the need arises, a business loan is a common solution: Between September 2023 and September 2024, nearly a third of all small businesses applied for a business loan, according to the Federal Reserve System’s 2024 Small Business Credit Survey. One in four turned to the Small Business Administration (SBA) for financing.

But taking on debt is a significant decision. Failing to repay a loan can result in damaged credit, the seizure of personal or business assets, legal action and more.

If you’re a small business owner thinking about applying for a small business loan, ask yourself these seven critical questions first.

Before you begin shopping for the best rates, think about why you need financing, says Jeremy Gilpin, chairman of the board for Community Bankshares. That will help you identify the type of loan (and lender) that best suits your situation. 

Do you need to stock up on inventory for the holiday rush or to cover the cost of an emergency repair?

“It’ll also assist the lender in determining risk and ensure that your business secures the correct funding,” Gilpin added.

Advertisement

There are many financing options available to small businesses, from term loans and business lines of credit to SBA loans and equipment loans.

Beyond identifying why you need a loan, it’s essential to assess how the loan fits into your overall strategy and trajectory. A well-developed business plan includes an executive summary, company description, market analysis and financial projections.

It should serve as both an internal roadmap and a guide for potential investors or lenders. 

“A good business plan will help answer questions related to how the business will service the debt and how the debt will help produce future net profit,” says Luke Middendorf, a business broker and business coach with Ascentrix Advisory Group.

Having a plan to share with a lender also increases the chances of getting approved and receiving better loan terms, says Middendorf. Most lenders require one along with the loan application. 

A clear-eyed assessment of your company’s financial position is another critical step when considering any type of borrowing. Ask yourself whether you have a reliable, sufficient funding source to repay the loan. 

“Cash flow is king,” says Craig Veurink, SVP for business banking at U.S. Bank. “It’s critically important for a business to demonstrate that it can produce cash flow when it’s applying for a loan.” 

Your lender will want assurances that you have the means to support payments, both now and in the months and years to come. Before taking out a loan, carefully review the terms and estimated monthly payments, including interest and fees, to confirm you can comfortably afford them.

While the loan may be intended for your business, your personal credit history will play an important role in whether you’re approved and what rate you’re offered. 

“When evaluating a loan, lenders will look at your personal credit score, your business credit score and your cash flow,” Veurink said. They’ll want to know how you’ve personally handled financial obligations, he added. 

Advertisement

“Have you made payments on time, fallen delinquent on a loan or even filed for bankruptcy?” Veurink said. “This is all part of the track record that a lender will consider.”

You can review your credit reports every week for free by enrolling at AnnualCreditReport.com. Experian and TransUnion share your credit score free of charge, as do many major credit card companies.

Transparency builds trust. Lenders will want to see financial statements, tax returns, ownership details and a clear explanation of how you’ll use the funds, according to Henry Magun, founder of business credit reporting agency Hansa. 

“Having all of that ready to go makes the process smoother. It also shows you’re on top of your business,” Magun said. “It can help you get faster decisions and potentially better terms.”

Requirements vary by lender, but typically, business owners need to provide two to three years of business returns, along with profit and loss statements for the current and past few years. It’s also a good idea to have three to six months of business bank statements and a business debt schedule outlining your company’s long-term debts.

As a small business owner, you need to do your homework and understand the differences among various financing options.

• Term loans: Available as a lump sum, term loans are often best for large, one-time expenses and typically require a personal guarantee, such as providing personal or business assets as collateral. SBG Funding offers term loans from $5,000 to $5 million
   
• Business line of credit: Like a credit card, a business line of credit is a revolving pool of funds you can repeatedly tap and make payments toward.
• SBA 7(a) loans:  Although eligibility requirements are stricter, SBA 7(a) loans come with longer repayment terms and more flexible credit score requirements than a traditional business loan
• Equipment loans: As the name suggests, these loans are designed to fund the purchase of new equipment. They’re available from many banks and online lenders, with the equipment you’re buying serving as collateral. 

Don’t overlook short-term financing options, like merchant cash advances and invoice factoring.

Taking out a loan involves risk, and not just for the borrower. Your lender has to consider whether you’ll be able to fulfill your obligation and how they can recoup the loss if you default.

You may be required to make a personal guarantee,  which involves using your personal assets as collateral. 

“Especially with longer-term loans, business owners should anticipate having to make a personal guarantee,” said Cannon Carr, regional director with EP Wealth Advisors. “Many really struggle with that, particularly the first time.”

Talk to several lenders to learn what their loan guarantee requirements are. Don’t be shy about requesting a limited personal guarantee, which caps your financial obligation at a specific dollar amount.

Advertisement

“It requires providing strong collateral and agreeing to tighter covenants and a higher interest rate,” Carr added. “I tell business owners to think through what the ‘worst case scenario’ would be for their business — one that would put them at risk personally. Not to create fear, but to stress-test the loan terms.”  

Before taking out a business loan, consider the requirements and ramifications of such an important financial decision.

• How does the loan fit into your business plan? 
• Does your cash flow comfortably support the repayment terms? 
• Have you explored all the loan options available to you? 

Answering these questions can help you clearly assess whether taking on debt is the right move and which lender is best for your business.

At CNBC Select, we work with experts with specialized knowledge and authority. For this story, we interviewed Jeremy Gilpin, chairman of the board for Georgia-based lender Community Bankshares. We also spoke with Luke Middendorf, a business broker with Ascentrix Advisory Group; Craig Veurink, SVP for business banking at U.S. Bank; Henry Magun, founder of business credit reporting agency Hansa and Cannon Carr, regional director with EP Wealth Advisors.