When you apply for a small business loan, lenders will assess your creditworthiness to determine if you’re a good fit. A bad credit score isn’t necessarily a deal-breaker, but it can make it more challenging to get approved. You can also expect fewer loan options and higher borrowing costs. Read on to learn more about how your credit rating could negatively impact your approval odds and what to do to increase your chances of getting approved for a small business loan with bad credit.
Understanding Credit Scores
Before exploring business lending options, it’s crucial to understand how your credit score works. You should also get a feel for what constitutes “bad credit” and what that means for you.
How Your Credit Score Works
Your credit score represents your creditworthiness or the likelihood you’ll repay what you borrow. It is calculated based on your credit report, which contains information on your past and current loans, payment history and outstanding debts. Lenders use credit scores as a risk assessment tool when deciding whether to approve you for a loan or line of credit.
Your personal credit score typically ranges from 300 to 850 – the higher, the better. FICO scores, which are used by more than 90 percent of lenders to make credit decisions, are calculated as follows:
- Payment history: 35 percent of your FICO score
- Amounts owed: 30 percent of your FICO score
- Length of credit history: 15 percent of your FICO score
- Credit mix: 10 percent of your FICO score
- New credit: 10 percent of your FICO score
Adopting positive financial habits, such as paying bills on time, maintaining low debt levels, and only applying for credit as needed, can help improve your credit score over time.
Defining Bad Credit
Here are the FICO credit score ranges:
- Poor FICO score: 300 to 579
- Fair FICO score: 580 to 669
- Good FICO score: 670 to 739
- Very Good FICO score: 740 to 799
- Excellent FICO score: 800 to 850
Regarding business loans, a bad credit score is generally anything less than a FICO score of 670. While bad credit can make getting a business loan hard, options are still available for those with less-than-stellar credit.
Past financial missteps, such as missed payments or high credit utilization, often cause a poor credit score. Regardless of the cause, having bad credit limits your access to certain types of loans and financing options. However, there are lenders that specialize in providing business loans for applicants with lower credit scores.
Keep in mind that while some lenders may be willing to offer you a business loan with bad credit, the terms and interest rates may be less favorable than those available to borrowers with higher credit scores. Securing a loan with bad credit may also require additional documentation, collateral, or a personal guarantee from the business owner.
Maintaining good financial habits, paying off debt, and regularly checking your credit reports can help you work towards improving your credit score. Doing so also increases your chances of obtaining a better business loan in the future.
How Your Credit Score Impacts Your Business Loan Approval
Your credit score plays a significant role in determining your eligibility for a business loan. Financial institutions assess your creditworthiness based on this score, and it can significantly influence the loan amount, interest rates and repayment terms offered to your business, assuming it’s eligible for a loan. Lenders may consider both your personal credit score and business credit score during the loan application process.
A good personal credit score is necessary for securing a business loan, especially for small business owners and startups without an established business credit history. In fact, small business owners who qualify for an SBA loan typically have a personal credit score of at least 680.
On the other hand, your business credit score is a separate figure that sheds light on your company’s credit history and financial health. Like your personal credit score, a higher business credit score indicates lower risk to lenders, increasing the likelihood of receiving favorable loan terms. Maintaining your personal and business credit scores is essential to improve your chances of approval for a business loan.
However, having a low credit score does not necessarily mean you will be unable to secure a business loan. Some lenders offer bad credit loans or no-credit-check business financing options for borrowers with subpar credit. These options may come with higher interest rates and more stringent repayment terms. They can still provide essential funding for your business needs.
Can You Get a Business Loan with Bad Credit?
It’s possible to get a business loan with bad credit. Though it might be more challenging, there are options available for businesses with less-than-perfect credit scores. Traditional lenders may have stricter criteria, but alternative lenders often offer more flexible requirements for borrowers.
Here’s a closer look at how lenders view bad credit.
How Lenders View Bad Credit
Borrowers with lower credit scores are generally viewed as riskier by lenders. A bad credit score often results from late payments, defaults, or excessive debt, which can signal difficulties in repaying a loan. This means the likelihood of you defaulting on subsequent loans is also higher. As mentioned earlier, In the world of business loans, bad credit usually means having a FICO score lower than 670. However, alternative lenders might have more lenient policies.
When you are applying for a business loan, remember that lenders look at not only your personal credit score but also your business credit score. It’s important to check both and make sure there are no errors in the reports before applying for financing.
Traditional lenders, such as banks, often have stricter credit requirements, making it harder for businesses with bad credit to secure loans. However, alternative lenders, such as online financing companies or peer-to-peer lenders, tend to be more open to borrowers with lower credit scores. They might have more flexible terms and higher approval rates.
The Challenges of Getting a Business Loan with Bad Credit
Securing a business loan with a low credit score means you may have to jump through a few hoops to get approved. Here’s what to expect when you’re ready to start your search for funding.
High-Interest Rates and Fees
With a bad credit score, you will likely face higher interest rates and fees when applying for a business loan. Lenders perceive you as a higher-risk borrower, which means they need to charge higher rates to minimize the risks that come with lending to you. This can make borrowing more expensive and put a strain on your company’s finances.
Lower Borrowing Amounts
Another challenge you may encounter when trying to secure a business loan with bad credit is lower borrowing amounts. Lenders may be more hesitant to lend larger sums of money to borrowers with poor credit histories. Consequently, you might struggle to find a loan or financial option that covers all of your business needs, which could limit your growth opportunities.
Strict Repayment Terms
Lenders may also impose strict repayment terms on borrowers with bad credit. This means you will be required to pay off the loan within a shorter period compared to borrowers with better credit scores. This can prove to be challenging, as faster repayments can put additional financial stress on your business, leaving you with less cash flow to use for other expenses.
Risk of Losing Collateral
If you are able to secure a business loan with bad credit, it often comes with the requirement of providing collateral. Your company’s Collateral is used as security in case you default on your loan, but it also increases the risk for you. You could lose your valuable assets if you fail to make the necessary repayments. Depending on what you put for collateral, the outcome can be drastic for your business and, in some instances, force you to shut your doors and cease operations.
Are There Business Loans for Bad Credit?
Although obtaining a business loan with bad personal credit can be challenging, it’s not impossible. Below are some options that may be available to you.
Short-term Loans
Short-term loans are a popular option for business owners with bad credit. Unlike traditional small business loans, short-term loans usually have less stringent credit requirements and shorter repayment periods.
Many online lenders specialize in providing short-term loans for businesses with poor credit. Be sure to carefully review the terms and conditions before accepting a short-term loan, as interest rates and other borrowing costs may be higher than those of conventional loans.
Secured Business Loans
Secured business loans require collateral to back up the loan. Still, they’re an option worth considering if you need funding sooner rather than later and can’t get approved for a traditional unsecured business term loan.
By offering assets as collateral, you may be able to secure a loan even if your credit score is low. However, be aware that you could lose your collateral if you fail to uphold your end of the loan agreement by not repaying what you borrowed on time.
Lines of Credit
A line of credit is another financing option for businesses with bad credit. They are a flexible lending solution that lets you borrow only what you need on an as-needed basis. Plus, you’ll only pay interest on the funds you pull from the line.
Some lenders offer business lines of credit with less stringent credit requirements, making them more accessible for entrepreneurs with poor credit scores.
Merchant Cash Advances
Merchant cash advances (MCAs) are suitable for businesses with poor credit and who have consistent credit card sales. With an MCA, you receive an upfront sum of money in exchange for a percentage of your future credit card sales.
This financing option is typically easier to qualify for than traditional business loans because it focuses on your business’s sales performance rather than your credit score. That said, it comes with high borrowing costs that should be considered before applying.
Invoice Factoring
Invoice factoring is another alternative for businesses with bad credit. Instead of taking out a loan, you sell your outstanding invoices to a factoring company at a discount. This allows you to access funds more quickly without affecting your credit score.
Be cautious, though, as invoice factoring can be more expensive than traditional financing options. Inquire about the factor rate before moving forward so you’re fully aware of the costs that accompany this form of business financing.
Microloans
Microloans are small loans for business owners. The U.S. Small Business Administration (SBA) has more generous eligibility requirements for its micro-loans and lets companies borrow up to $50,000. Banks, credit unions, and other financial institutions offer these loans and have lower minimum credit score requirements for these financial products.
Business Credit Cards
Business credit cards work the same as any personal credit cards you may already be using. With bad credit, you may qualify for a business credit card, but be aware that the interest rate you pay could be higher. As you may already know, late fees will have a long-term effect on your credit score, so be sure to make timely payments on your business credit card. In fact, try not to carry a balance and only use the business credit card as a last resort. It’s smart to keep your personal and business purchases separate for easier bookkeeping and tax purposes.
Equipment Financing
This type of financing allows you to purchase equipment instead of getting stuck with endless lease payments. Since the equipment becomes collateral, you can typically secure a lower rate and better terms. While having a good credit score will help you secure a lower rate, you can still receive financing even if you have bad credit.
The monthly payments are higher for an equipment loan than they are for a lease. However, you’ll eventually own the equipment outright and can save a lot of money in the long run.
Personal Loans for Business Use
You don’t have to rely on business lenders to get the financing that you need. Some business owners have bad business credit scores but good FICO scores. Under that scenario, you can qualify for a competitive personal loan and use those proceeds to fund your business. It’s also possible to receive a personal loan even if you do not have good credit.
What is the Minimum Credit Score to Get a Small Business Loan?
You can find a small business loan that does not require a credit check, but if you want to get the best rates and terms, you should aim for a FICO Small Business Scoring Service (SBSS) of 140-160. A FICO credit score above 620 will give you a better chance of obtaining a small business loan that requires a personal guarantee.
How to Get a Business Loan with Bad Credit
Understanding Your Credit Situation
Knowing your credit score can help you gauge the best business loans to apply for. Here’s how you can get a better understanding of your current credit situation.
Analyzing Your Credit Report
Your credit report shows your payment history and can help you see your strengths and weaknesses. You can find which accounts you’re behind on and get them up to date. Reviewing your credit report can also reveal errors. Disputing those errors can result in a higher credit score if you demonstrate that they are inaccurate.
The Role of Credit Rating Agencies and Business Credit Ratings
Credit rating agencies and business credit ratings help lenders and other creditors determine the risk level of each business owner. Small business lenders only want to give money to companies that can pay them back. While annual revenue is a useful metric, a business credit score gives lenders additional insights into how a company manages its financial obligations. Credit ratings give creditors a quick and reliable snapshot of a company’s payment history.
The Impact of Bad Credit on Loan Approval
You can still get a loan if you have bad credit. In fact, some lenders specifically serve this subset of business owners. However, a bad credit score will make it more difficult to obtain a loan. Furthermore, you will end up with a higher interest rate on your bank loan if you have a low credit score.
That’s why it is essential to address a poor credit history and get up to date on your financial obligations. Payment history is a critical component of your business credit score, but factors like credit utilization ratio also play a role. If you pay off your debt and keep your balances low, you can turn a bad credit score into a good one. Then, you’ll be in a better position to secure loans with competitive rates and terms.
Finding the Right Lender
Small business owners can choose from many lenders, but it’s important to work with the right lender for your needs. These are some of the factors to consider when comparing lenders.
Alternative Lenders vs. Traditional Banks
You’ll likely find better rates and terms with traditional banks, but they take longer to give you a small business loan. Traditional banks also tend to have more stringent requirements that aren’t as friendly toward new businesses.
You can find competitive rates with alternative lenders, but these loan providers shine with quicker turnarounds and more flexibility. It’s possible to receive capital within a few days instead of a few weeks. Some alternative lenders can give you capital within 24-48 hours. Alternative lenders also offer more leeway with your business credit score and annual income. They tend to give startup founders more options.
Online Lenders Specializing in Bad Credit
While these lenders have higher interest rates than the average financial institution, they make capital more accessible to companies that have bad credit scores. You can also use these loans as an opportunity to rebuild credit since your payment history will be reported to the major credit bureaus.
Local Credit Unions
Credit unions are nonprofit organizations that offer competitive loan programs. You can check in with some of your local options and see if they have suitable business loans for your company.
Improve Your Chances of Getting a Business Loan with Bad Credit
Even if you have bad credit, getting a business loan is still possible by taking steps to boost your approval odds.
Preparing a Solid Business Plan
As a business owner with bad credit, presenting a comprehensive and well-prepared business plan to the lender can make a significant difference in your loan application. Your business plan should include key objectives along with your target market, competitive advantage and financial projections.
This demonstrates to potential lenders that you are serious about your business and have a clear plan for using the loan effectively. Be sure to highlight your business’s strengths and show how the loan will contribute to your growth and success.
Offering Collateral
Lenders are more likely to consider your application despite a low credit score if you can provide collateral for the loan. Collateral could include business equipment, commercial real estate, or personal assets like your home.
Keep in mind that offering collateral gives lenders a sense of security, as they can seize these assets in case you default on the loan. Make sure to evaluate your risk tolerance and weigh the pros and cons before pledging collateral.
Proving Steady Business Revenue
Demonstrating a history of consistent revenue shows lenders that your business has cash flow and can repay the loan. Provide them with financial statements, bank statements and tax returns to prove your business’s revenue over time.
By showing that your company has the capacity to generate a stable income, you make your case stronger for obtaining a business loan despite your bad credit. You will also prove that you have the means to make timely payments.
Improving/Fixing Your Credit Score
Taking steps to improve or fix your credit score is crucial for increasing your chances of obtaining a business loan. Start by checking your credit reports for any inaccuracies that may be negatively affecting your score and dispute them if necessary. Establishing a history of on-time payments and reducing outstanding debt can also positively impact your credit score.
It may take time to see significant improvement. However, being proactive about fixing your credit will typically position you for more attractive business funding opportunities in the future.
