What if your lender rejects your loan application? You’re not alone. Banks reject 73% of business loan applications. Here is what you do next.
What to do if your lender rejects your business loan application
Don’t be surprised if your business loan application gets rejected. Contrary to common belief, banks aren’t allowed to take a risk on a good business without following strict guidelines. Banking law doesn’t let them loan without collateral, no matter how promising the business.
Now, a good business doesn’t end with the first rejection. What’s important after the loan rejection is what you do next. Here are the concrete steps you should take.
1. Get good feedback from the lender
Dig into why your loan was denied. Don’t settle for a form letter or secure message, be sure that you follow up with a specific person. If you don’t already know who the loan manager is, then do some research and find out.
Which doesn’t mean you ignore a form letter, especially if it offers you an explanation. Pay close attention to what the rejection says about problems such as collateral or financial position.
When you get to a person, bear down on the details and ask questions. Ask what would have made a difference and which credit reporting agencies your bank used to get information about your business. Determine when and how you can reapply, as well as what you’d need to change to get an acceptance.
As you do this, frame the conversation right. Don’t act angry or argumentative, but like you respect the decision and want to know more about it. You’re looking for feedback to fix whatever problem you find, not trying to second-guess the decision.
2. Determine why your business loan was rejected
There are some very standard and quite common reasons for business loan rejections. Expect that it might be one of the following:
Common business loan rejection reasons
- Poor credit
- Bad ratios
- Incomplete financials
- Quality of cash flow
- Insufficient collateral
- Too much debt
- Not enough credit history
Some of these are easy to fix. Incomplete financials, for example, gives you a path to submitting again with more detailed information to turn the decision around. Too much debt presents the option to pay some existing debt off, or potentially identify errors in the financial reports provided to the banks.
On the other hand, some of these are not easily fixable so you’ll have to look for alternative solutions to your financing problems. For example, not enough credit history is hard to change quickly.
Remember it may take a bit of digging to identify the actual reason why a lender denied your application. For example, I ran into one case in which the loan manager blamed a rejection on a lack of monthly financial projections for the next 5-years. In reality, the bank didn’t want to deal with the key people because of some old issues.
3. Deal with your credit report
Is bad credit holding back your chance at a loan? It’s worth taking the time to review your credit report to be sure that everything is accurate. It also provides insight into what you should do to improve your credit.
Start by pulling copies of your credit report from the three major national credit bureaus: Equifax, Experian, and TransUnion. You can do this for free once a year through Annual Credit Report.com. You can also request a copy of the credit report used by the lending institution you applied through.
Explore the details of your credit report and look for errors. Each of the credit report companies has an explicit process for adding favorable information and correcting errors. Sometimes you’ll find significant errors that can be fixed quickly.
If you don’t find significant errors then you need to improve your credit rating. Focus on making on-time payments, lowering your credit utilization, and creating a healthy mix of debt that you hold. Maybe you look for investment capital instead of debt, and use it to pay down your debt or renegotiate some terms with your vendors.
4. Assess your important financial ratios
Bankers use standard business ratios derived from your financials, including your Profit or Loss, (Income Statement), Balance Sheet, and Cash Flow Statement. Some of the most important financial ratios bankers review are:
Total Debt to Total Assets
That’s your total debt / total assets. A score of one means debt equals assets. A score of .5 means debt is equal to only half of the assets. Any higher than .5 or so is a concern to bankers.
Measures a company’s ability to meet financial obligations. Expressed as the number of times current assets exceed current liabilities. A high ratio indicates that a company can pay its creditors. A number less than one indicates potential cash flow problems.
This ratio measures a company’s ability to meet its current obligations using its most liquid assets. It shows Total Current Assets excluding Inventory divided by Total Current Liabilities.
This ratio is a lot like the quick ratio. It is calculated by dividing Current Assets (excluding Inventory and Accounts Receivable) by Current Liabilities.
Pre-Tax Return on Net Worth
Indicates shareholders’ earnings before taxes for each dollar invested. This ratio is not applicable if the subject company’s net worth for the period being analyzed has a negative value.
Pre-Tax Return on Assets
Indicates profit as a percentage of Total Assets before taxes. Measures a company’s ability to manage and allocate resources.
Don’t forget that many of these ratios have similar drivers, such as capital, sales on credit, accounts receivable, inventory, payment patterns, etc. Do any of your ratios look unhealthy? Check out how you can improve vital financial ratios for your business.
5. Improve your cash drivers
Back to the fundamentals—sell more, sell more in cash than on credit, sell off unused or old inventory, and coax your customers to pay their invoices more quickly. Maybe you have a big promotion to spark new sales or offer a discount for paying on time.
I worked with a chain of computer stores that held a big inventory promotion to turn inventory into cash; and offered special upgrades and training to all existing customers. The rejection of their business loan application spurred them on an aggressive campaign to improve their financial performance.
And the influx of new sales provided cash to pay debts and improve both credit ratings and financial ratios. This is just one method for improving your cash flow. For a full list of options check out our full write-up on strengthening your cash flow.
6. Change lenders and loan tactics
If your numbers are not so bad, and you question your bank’s decision to reject your loan application, then you may want to consider alternative lenders. Banks compete for small business customers and sometimes a borderline case can get approval from a different bank.
If you try that, make sure you set the stage properly. Be transparent about your situation when you talk to the next bankers. They talk to each other, so don’t fudge the truth.
You might also consider looking for venture debt. Where you borrow money from angel investors or venture capitalists willing to lend money to startups for more interest and usually an equity kicker as well. Investors are not subject to banking laws because they are not spending depositors’ money, so they can be more flexible.
For venture debt, you usually pay higher interest on a loan and give some ownership as well. Giving a small percentage of ownership is called giving an equity kicker. For example, even after that loan is paid, the investors who lent the money end up with one or two percent of your business, as shareholders.
You can also ask your bank about SBA-backed borrowing. SBA stands for Small Business Administration, a federal agency that often provides partial guarantees on small business loans to promote small businesses.
7. Explore other financing options
You may find that funding through a traditional bank just isn’t going to work. Maybe your borrowing history is too minimal or you don’t have enough sales traction to show your business is viable. In that case, it may be worth exploring alternative financing options.
It’s a brave new world and lending is no longer limited to just the traditional. You can explore grant funding, financial technology (fintech) lenders such as Kabbage and Ondeck, and crowdfunding platforms such as Kickstarter and Indiegogo. As mentioned before, angel investment and venture capital, and even peer-to-peer lending are also great options.
There are also more traditional alternatives such as leasing to reduce capital expenditures, receivables, and inventory financing. For a full list of available financing options, check out our roundup of 40 proven ways to fund your small business.
8. Get a co-signer
Bringing on a co-signer can help alleviate some of the concerns a bank may have about lending to you. However, co-signing a business loan is a lot to ask of a business ally, friend, or family. The co-signer takes on a heavy risk because they are on the hook for the amount of the loan if the business fails to repay the loan.
Maybe you can sweeten the deal for a co-signer. Can you offer free service or free products? Shares of your business? A lifetime subscription? These are possibilities but generally, they are not very likely and you’ll need to convince your co-signer with your plan and possibly some collateral.
9. Change your business plan
Sometimes there’s no obvious reason why your bank loan was rejected. In that case, you may need to go back to basics. To review and revise your business plan.
Maybe you need to grow slower. Focus on stabilizing certain parts of your business, narrow your focus, and become more profitable. Debt is risky, good financial ratios are good to have, and you might have to hunker down and improve the business without bringing in more money.
Start by adjusting your milestones and forecasts. Remove the need for funding until you reach a specific goal for business health. It could be a specific revenue number, the elimination of other debt, or a lengthier cash runway. Whatever goals you set, the intent is to make your business healthier and better prepared to apply for and use funding.
Need help writing or revising your business plan? You might want to check out our full business planning guide.
What if your loan is rejected again?
All business owners tell stories of their setbacks and disappointments. But in this case, it’s not like business loan rejections go on some permanent record and hurt you in the future. Your credit rating shows only that your credit was checked.
It shows loans you took but not loans you tried for but couldn’t get. Follow the steps above that apply, and try again. And you can also try with different banks or different funding sources. Take a look at our business funding guide for a full walkthrough of your funding options and tips to improve your chances.
Small business loan FAQ
The vast majority of lending decisions depend on credit ratings and the financial position of the business owners more than the business itself. You will almost always have to bolster a business loan application with a personal guarantee of the owner(s). My business was profitable, selling more than $4 million annually, with no debt and we still couldn’t get a business credit line without signing a lien on our house.
According to Fundera, The small business loan rejection rate is 73% and only 43% of businesses even apply for financing.
According to Shopify, The average short-term business loan amount is around $20,000. The average medium-term business loan amount is $110,000. The average SBA loan amount is $107,000. The average business line of credit loan amount is $22,000.
According to Experian, one of the three major keepers of credit score data, a business loan rejection does not hurt your credit score. However, the credit score details do show that a credit inquiry was made.
It’s generally best to wait 30 days before applying again after your business loan application is rejected. Then the assumption is that you corrected the form, changed the information, or took some other action to improve your application.
Credit experts agree that it is not a good idea to apply for multiple loans at once. This shows up on your credit score report as multiple inquiries at the same time.