10 Dos and Don'ts of Small Business Financing

If you want to level up your small business, but don’t have the cash on hand, you might be feeling a little desperate. 

But before you go selling your house for cash, know that getting a small business loan is probably easier to get than you think. And small business loans are anything but small — averaging $663,000, according to Federal Reserve data. 

Still, these loans aren’t necessarily a sure thing. In 2019, only 51% of small businesses received the full amount of funds they applied for, a figure that sunk to 31% in 2021. 

So how can you maximize your chances of getting that small business loan you need, and use it to maximum effect once you get it? Read on for our dos and don’ts of small business financing. 

Do Borrow Only As Much As You Need & Can Handle

Many small business owners think they should try to secure the largest loan possible. This is especially common among founders who recently exited out of a job they disliked, and are working for themselves for the first time. But the wiser course of action is to borrow only what you actually need.

When you’re looking at your options for financing, don’t just land on an arbitrary number. Carefully add up your probable expenses and needs, and come up with a firm number. Then use a business loan calculator to break that figure down into monthly payments. 

Using projections from your business plan, project how comfortably you’ll be able to cover those monthly payments with your projected revenues. If they’re out of your comfort zone, go back and cut your expenses — and your loan amount — until your payments are manageable.

Do Survey All Your Financing Options

As a small business, you’ll likely have a variety of financing options at your disposal. These will range from a traditional bank loan to an SBA loan, to conventional lines of credit, to online or alternative lenders. 

Once you’ve assessed your financial needs, carefully consider which of these options is the best fit for you. Each of them comes with their own pros and cons. For example, SBA loans have capped interest rates and moderately generous approval requirements. On the other hand, they can take a very long time to process and may require a down payment or collateral. 

When you’re looking at your options, carefully review all repayment terms, as well as basics like interest rates. 

Do Make the Best Impression Possible

Applying for a business loan is a lot like a job interview in a hot labor market — you’ll want to put your best foot forward. Make sure you’ve got both your personal credit score and your business credit score in good shape before you apply for financing. Lenders will look at both scores when deciding whether or not to approve your loan. 

If your credit score is subpar, there are a number of ways to improve it before you put in your loan application. Paying off debts, paying bills on time, moderating your use of credit, and not opening too many new credit accounts can all help clean up your credit score. 

Get all your required documents together to attach to your application. You’ll need tax returns, articles of incorporation for your business, financial statements, and a business plan. This business plan should go into significant detail, as your lender will give it extra scrutiny. Include your five- and ten-year plan, projected cash flows, marketing strategy, and past revenues. Also, be prepared to answer general questions about your business.

Do Time Your Loans properly

Once you’ve determined how much to borrow, you should determine when, exactly, you need the money. 

Borrowing too early can be a mistake. If your dream office becomes available two states over, and those loan funds earmarked for new hires or new equipment in the fall are just sitting in your bank account, you’ll be tempted to use that money for a long-distance move, instead of what you actually borrowed it for. Avoid this situation by not applying for financing until you actually need it. 

On the other hand, don’t delay too long. Waiting until the last minute to apply for necessary financing could result in disastrous shortfalls, missed bill payments, and a lot of stress.

Don’t Get Hung Up on Interest Rates

Many borrowers focus on interest rates to the exclusion of every other aspect of a loan. And while interest rates are important, they aren’t the be-all, end-all of a business loan. 

Look at all of a loan’s terms, such as the repayment period, the term of the loan, what kind of collateral you’ll be asked to put down, what kind of flexibility you’ll have if your situation changes, and what your obligations are in case of default. It can be worth paying a slightly higher interest rate if the trade-off makes your life easier.

Do Keep Your Business and Personal Money Separate

Experts suggest using a business bank account to keep your business assets from intermingling with your personal assets. There are several reasons to do this. First, it makes bookkeeping and filing taxes much simpler. Second, in the event of bankruptcy, your personal assets will be shielded. And third, it simply looks more professional and will increase your chances of loan approval. 

Don’t Be Afraid to Use Credit Cards

Credit cards can be a great financing tool, especially in a pinch. But use them judiciously. Because of their ease of use and high-interest rates, they’re better used for smaller, short-term purchases like fuel, food, supplies, and incidentals. Don’t use them for big purchases like payroll, rent, or buying major equipment.

Do Make Your Loan Payments On Time

Consider setting up auto-pay for your loan payments. Making them late will hurt your credit score, which can make it harder to access financing in the future. 

Don’t Panic If You Can’t Make Your Loan Payments

If you experience a financial shock or shortfall and can’t make your loan payment, don’t overreact or stonewall your lender. Most lenders will be ready to work with you to find an alternative arrangement. Remember, it doesn’t benefit you or the bank if your loan goes into default.

Do Invest That Money Wisely

Whether you spend the money from your small business loan on new hires, new equipment, or a new office, business experts agree that these funds should go toward growth. Scaling up responsibly and sustainably will allow you to increase your profits while keeping up your loan payments, and demonstrate in the future that you’re a good bet for more financing, should you need it down the road.