September 13, 2022 | Last Updated on: April 25, 2024
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There are many reasons entrepreneurs explore small business loan options. Getting a loan from a lender can give business owners the capital they need to cover startup costs, make large purchases, expand, or simply increase the available working capital in the business. But what about businesses with bad credit? Can they still secure needed capital, or does their creditworthiness (or lack thereof) have them up a creek and out of luck?
If you’re a business owner or entrepreneur with a startup, you’ll be relieved to learn that it is still possible to finance your business even with a low credit score.
In this article, we’ll start by defining “bad” credit and then discuss some options for you if your company fits under that definition.
When a small business applies for a loan, the application is reviewed by the lender’s underwriting team. The purpose of the application process for the lender is to assess the risks of lending money to the applicant. The lender may review the following factors:
While creditworthiness is just one factor in the decision-making process, the reality is, lenders weigh it heavily in their considerations, and it will be a major factor when they assess risk and determine interest rates and repayment terms, so it is worth taking more of a deep dive into both business and credit history.
The business credit score is used by the lender to evaluate the borrower’s ability to repay a loan. Business credit scores are calculated and provided by three main business credit bureaus, Dun & Bradstreet, Experian, and Equifax Small Business. Business credit scores range between 1 and 100, with 81-100 generally being recognized as excellent credit, 31-80 as good credit, 16-30 as high risk, and 0-15 as being high risk.
To formulate the business credit score the bureaus use the following data which is collected in your business credit report:
Personal credit scores of the business owner may also be used when reviewing the eligibility of a small business. The data used to compute an individual’s credit score is presented in the personal credit report. A personal credit report contains similar information as a business report, including the individual’s payment history on personal loans, auto loans, mortgages, and more. Credit scores, or FICO scores, range from 300 to 850. The range that is considered “bad personal credit,” depends on the lender, but generally, the scores can be categorized in the following way.
Small business owners with less-than-perfect credit can still get approved for bad credit business loans. In fact, small business financing options are a good tool for entrepreneurs and businesses to rebuild bad credit and build good business credit history. When a borrower is able to get approved for financing and repay the loan according to the repayment terms, the business credit score increases. The personal credit score of the business owner may also be positively impacted if the entrepreneur’s personal credit information was included in the credit decision or if they provided a personal guarantee for the funding.
The following small business loan options have varying eligibility requirements and may be a great option for borrowers with no credit or bad credit.
Equipment loans, or equipment financing, are used by small businesses to purchase equipment or machinery, including computers, computer software, vehicles, construction equipment, commercial kitchen appliances, office copiers, and other fixed assets. The purchased equipment acts as collateral to secure the loan, so equipment financing is a great option for borrowers with bad credit. The eligibility requirements for an equipment loan include the value of the asset, the useful life of the asset, and the creditworthiness of the borrower.
A Merchant Cash Advance (MCA) is a fast-funding option commonly available for new business owners or entrepreneurs with bad credit. When approved for an MCA, borrowers receive a lump sum payment upfront and repay the loan plus financing fees using future credit card or debit card sales. The financing costs of an MCA are higher than other types of financing, but typically borrowers with low credit scores can be approved if their business has been operating for 18-24 months.
Invoice financing is a type of working capital loan that uses unpaid invoices as collateral. The main difference between invoice financing and invoice factoring is that with invoice financing the small business is still responsible to collect on the unpaid invoices to repay the loan. Invoice financing has high interest rates and fees for the borrowers but is an option for borrowers that are not able to qualify for traditional loan options.
Invoice factoring is a business financing option where the business’s accounts receivable balances are used to receive capital. With invoice factoring, the small business owner sells their unpaid invoices to a factoring company at a fraction of the invoice’s value. The factoring agent is then responsible for collecting on the invoices and paying the business any excess funds, less the factor rate and agent’s portion. Since only a portion of the unpaid invoice is returned to the business the borrower loses a portion of earned revenue, but the approval odds are good for entrepreneurs with poor credit.
If you’re an established small business owner, you may be surprised to learn that your credit is better than you originally thought. Entrepreneurs with decent credit scores may qualify for one of the following loan options, which will likely have lower interest rates and shorter repayment terms.
A term loan is a traditional type of financing where borrowers receive a lump sum payment upfront and repay the debt over time with monthly payments. Long-term loans may be right for large loan amounts or for very large purchases, like commercial real estate. Short-term loans are common for small business owners that need additional cash flow to pay operating expenses, implement growth strategies, or compensate for seasonal revenue fluctuations. Secured term loans use the borrower’s collateral to minimize the lender’s risk, which is an option for borrowers with lower credit scores. Term loans typically offer lower interest rates and better repayment terms than other types of bad credit financing.
SBA loans are a type of loan program where the U.S. Small Business Administration guarantees a portion of each small business loan. There are many programs through the SBA including the SBA 7(a) loan program and SBA Microloans. The eligibility requirements for SBA loans typically require a higher credit score and at least two years in business, and the approval process can take up to 30 days. For entrepreneurs that can get qualified and wait for funding, SBA loans offer a great, low-interest financing option.
A business line of credit is a type of revolving credit that works similarly to a business credit card. When a borrower is approved for a line of credit, a maximum credit limit is also approved. The borrower can then withdraw funds on the line of credit anytime they need cash for their business needs. Monthly payments are made up of principal and financing costs, calculated according to the annual percentage rate (APR). When the balance is paid down, the funds can then be accessed again.
Business loans come from traditional lenders or alternative lenders, but entrepreneurs that have bad or even fair credit should be selective about where they apply for financing so that they don’t waste time or energy talking to banks that will never grant them a loan. Moreover, some banks and lenders will make an inquiry on the business’s credit before approving them for financing, which can negatively impact the credit score.
These are banks and credit unions with a physical location. Traditional lenders offer lower interest rates and better repayment terms, but they have a longer business loan application process and stricter eligibility requirements. To get approved for a business loan at a bank or credit union, a borrower should have good credit.
Alternative, or online lenders, work with clients in every credit range. Since they partner with many financial institutions, working with an online lender can provide more loan products for a small business owner to choose from. Online lenders offer an online application and a fast-funding decision and are a great fit for borrowers with less-than-perfect credit scores.
Finding a small business loan can be a stressful experience, but when you have bad credit, the process can feel impossible. It doesn’t have to feel that way. Use the following tips to make the process of finding a loan with bad credit a little simpler.
Creditworthiness is one of the most important tools a lender uses when deciding which borrowers will get approved for financing, so it is important that you know and understand your scores. To get a copy of your personal credit report, you can go to annualcreditreport.com. Business credit reports can be obtained the same way on Dun & Bradstreet’s website. Knowing where you stand and talking with lenders about the minimum credit score requirements will allow you to make the best choices about which lenders to work with.
Review your credit report for accuracy. If there are any items or account details that are reported incorrectly, you can dispute these items with each credit bureau. If you can successfully get a derogatory account removed from your credit report, your credit score will increase. Another way to increase your score is to pay down revolving credit and increase your available credit.
Securing a loan with collateral is a great way to increase the approval odds for borrowers that have trouble qualifying for unsecured loans. Collateral enables a lower-interest, longer-term loan. Collateral can be a business asset, like equipment or real estate, or a personal asset, like a vehicle or home. The collateral acts as a form of security for the lender. With a secured loan, the lender can seize the collateral if the borrower defaults on the loan.
Working with the right lender is the key to a smooth loan process, no matter what range your credit falls in. Lenders can recommend the right financing tools and present the eligibility requirements to their clients in a way that will work for their business. Online lenders, like Biz2Credit, approve more bad credit loans than traditional banks. Checking out online testimonials or reviews is a good place to start when looking for lenders. Publications frequently publish lender reviews, like this one by Forbes, that names Biz2Credit as the “best place to get working capital loans with bad credit.”
It is possible to get a small business loan with bad credit. Some bad credit financing options include equipment financing, MCAs, invoice financing, and secured term loans. Online lenders, like Biz2Credit, offer better approval odds for borrowers that struggle with creditworthiness. For example, the team at Biz2Credit was able to help Jeff Carreras secure a merchant cash advance for $70,000.
