Small business owners sometimes need outside financing to help cover a shortfall, purchase equipment or expand. When you have good credit, many lenders are more than willing to offer you affordable business loans.
But qualifying for a business loan with bad credit can be difficult, and it likely won’t be cheap. Lenders who provide loans to small business owners with bad credit charge higher interest rates and may even throw in additional fees to help offset the risk of loaning money to risky borrowers.
When you have bad credit, the first step is to try to improve it. But that can take months or years. If you can’t wait and need a business loan now, there are some steps you can take to improve your chances of approval. Here are our tips to help you get approved for a bad credit business loan.
A bad credit score can be a FICO score of 300 to 629. This is based on personal credit. Some popular business credit reporting agencies like Dun & Bradstreet assign scores on a scale of 1 to 100. Any score from 0 to 49 indicates a high risk.
Credit score
Your credit score is one of the first things that lenders look at when deciding whether to approve a loan application. If you have poor credit, getting a loan will be much harder. Banks and credit unions are less willing to offer you financing or may not lend you the full amount you need.
Online lenders have more lenient eligibility requirements. You can still get a loan, even if your credit score is in the 500s, but you’ll pay a much higher interest rate.
Based on average loan rates, those with poor credit might see APR rates of 40 percent — or much higher.
Check your credit report
Lenders will look at your personal and maybe even your business credit reports to see if you are eligible for a loan. Some common factors that have negative impacts on your credit score and your chance of getting a business loan include:
- Recent bankruptcies
- Delinquencies of $1,000 or more
- Unpaid tax liens
If you see any of these on your report and the information is inaccurate, get it corrected by contacting the credit bureau.
For delinquencies and tax liens, the best thing to do is to pay off your debt before applying for a business loan. Some online lenders may be willing to work with you, but you will have limited options and face high rates and fees.
If you’ve gone through a recent bankruptcy, you might be stuck playing the waiting game. There are a select few lenders who will offer you a loan if you’ve declared bankruptcy within the last year or two. But most typically don’t approve a business loan if you’ve filed for bankruptcy in the last three to five years.
Annual revenue
Most business loans have revenue requirements. The more money your business makes, the less trouble it is likely to have with making monthly payments.
Some lenders have low or no minimum revenue requirements, but many business lenders will only lend to companies with revenues of $100,000 or more each year.
If you don’t have revenue, you’re not completely out of luck. Some types of loans, like equipment financing, may not have a revenue requirement.
Years in business
You’ll have an easier time securing a loan if you’re an established business. Lenders see businesses that are less than two years old as riskier ventures than companies that have been around longer. The older your business, the more experience you’ll have with running it and the more likely it is to keep operating successfully.
If your business is still in its early stages, you have options. Many lenders provide startup business loans, though some may require you to be in business for at least six months before applying.
Type of business loan
If you have bad credit, some types of business loans are easier to qualify for than others. But each has its own advantages and disadvantages.
Term loans
Term loans are traditional loans where you receive a lump sum of cash and pay it back with regular payments and typically at a fixed interest rate. Repayment terms can be anywhere from three to 10 years or longer.
It’s not easy to qualify for a term loan when you have bad credit. Banks and credit unions prefer to work with business owners that have good or excellent credit. The best bad credit business loans will likely come from an online lender, but these will have high rates and fees. And the longer you hold on to the loan, the more it will cost you.
Lines of credit
A business line of credit gives you the flexibility to draw funds from the line when you need them. You can draw funds multiple times and only pay interest on the outstanding balance.
Rates for business lines of credit tend to be higher than term loans and may also have additional fees like maintenance and draw fees. If you have bad credit, you’ll likely have to work with a lender that requires short repayment periods of anywhere from six to 18 months.
Equipment financing
Equipment financing loans may be easier to qualify for than other types of loans for one key reason. The equipment you purchase with the loan serves as collateral. If you miss payments, the lender can take the equipment and sell it to recoup its losses, reducing its risk.
While qualifying will be easier, you can still expect to pay higher interest rates than those with strong credit.
Invoice financing and invoice factoring
Invoice factoring and financing can help you cover short-term expenses. With invoice financing, you borrow money against your customer’s outstanding invoices. With invoice factoring, you sell your invoices to an invoice factoring company. In both cases, the lender charges fees for the service.
Because the loans are backed by invoices, the lender is more concerned with the customer’s credit and payment history. That makes them easier to qualify for than other forms of financing. But these types of business financing can end up being costly, especially compared to term loans or lines of credit.
Merchant Cash advances
A merchant cash advance (MCA) is another form of short-term financing that can help cover immediate expenses. A lender gives you a lump sum advanced against future debit and credit card sales, plus fees. You then repay the loan, typically on a daily or weekly basis based on sales.
MCAs can be easy to qualify for even with bad credit since lenders are more interested in your cash flow. But the main disadvantage is that they are far more costly than traditional loans.
Merchant cash advances typically charge factor rates of 1.1 to 1.5. An advance of $30,000 at a factor rate of 1.1 would cost at least $33,000 while that same advance at a rate of 1.5 would cost at least $45,000. And then there are the fees to consider along with the short repayment periods. In some cases, you only have anywhere from three to 18 months to pay your debt.
Business lender
Not all lenders are willing to work with business owners with bad credit. Your bank may be willing to work with you if you have a relationship with them. But typically, you’ll need to look for an alternative business lender like an online or direct private lender.
Choosing the best bad credit loan for your needs could take time. You’ll need to shop around and compare loans from multiple lenders. Since most don’t share all the important rates, fees and repayment terms on their websites, you’ll have to prequalify or apply and get multiple quotes to compare total costs.
Down payment
Businesses with bad credit are seen as risky borrowers while those with good credit are seen as safe borrowers. If you can do something to appear less risky, it can help you get a loan.
One way to reduce the lender’s risk is to offer a larger down payment. Many SBA loans, for example, require down payments of 10 percent. If you can offer a larger down payment, it reduces the lender’s risk and shows that you’re serious about repaying the loan, which can help you qualify.
Collateral
Collateral is an asset or assets that you offer to a lender to help secure a loan. If you default on your loan, the lender can take the collateral to recover the money it lost.
Most loans for bad credit will require you to provide collateral. The assets you provide will typically need to be worth the loan amount you are seeking. Even if you are able to do that, you may only receive 80 percent to 90 percent of your asset’s total value.
To improve your chances of getting approved for a bad credit business loan, you may want to provide assets that are more valuable than the loan. Typical business loan assets that can be used for collateral include:
- Real estate
- Automobiles
- Stocks
- Business equipment and inventory
Business plan
Many lenders, such as the SBA and traditional banks, will want to look at your business plan when you apply for a loan. Having a strong plan that clearly shows how you’ll use the funds and how you’ll make money to repay your debt can help you qualify for a loan. An unclear or bad business plan will hurt your chances.
Highlight your company’s strengths and mention your management’s experiences. Cover everything from what industry you’ll work in and how you’ll market your services.
Don’t be afraid to mention weaknesses or risks and how you’ll address them. This shows that you’re being realistic and have a plan for dealing with issues that might come up.
Alternatives to bad credit business loans
If you’re struggling to find a loan for your company or don’t think a bad credit business loan is right for you, consider these alternatives.
- Business credit cards. You can use an existing card to finance small purchases, though it’s best to pay the balance off in full each statement. If you don’t have a business credit card already, there are secured cards and cards for companies with bad credit that you may qualify for.
- Business grants. Grants aren’t loans, which means you don’t have to pay back the funds you receive. There are many grant programs that focus on different groups, including women, veterans and minorities, which can help underserved demographics start companies.
- Crowdfunding. With crowdfunding, you can raise money from friends, family, and people who like your business. Many crowdfunding campaigns act as a way to pre-sell a product, using the funds to make the product you’re planning to sell.
- Peer-to-peer lending. Peer-to-peer lending is a common way for companies and people with bad credit to get loans. Because each investor typically lends a small amount, their risk is smaller. That often makes it easier for people with bad credit to get loans, though the interest rates can be quite high.
- Special purpose credit programs. If you are an economically disadvantaged small business owner, you may qualify for business loans that come with lower borrowing costs, lower down payment, lower credit scores and discounted interest rates.
Bottom line
Getting a business loan with bad credit can be tricky, but it’s doable. If you’re willing to deal with the higher rates and fees, make sure you’re prepared before applying. Following the above steps can go a long way to helping you get approved for a business loan.