Beyond Credit Scores: Additional Factors that Small Business Lenders Consider

Beyond Credit Scores: Additional Factors that Small Business Lenders Consider

While most small business owners know that personal credit scores are the primary factor that lenders consider for loans, many don’t realize that there are additional criteria that can influence lenders’ decisions. These can ultimately sway a decision one way or another, particularly for borrowers who may just meet or fall slightly short of lenders’ credit-score minimums.

In this article, we look at several of the additional criteria that lenders may consider – knowing these in advance can help you best position yourself and your business for approval.

Additional key credit criteria

A high credit score is always an excellent indicator of borrower responsibility, but for many lenders, it’s only one part of the story. Additional factors that influence lenders’ decisions include: 

1. Character:

Although some lenders will nearly always decline applications that don’t meet their minimum credit score requirements, others may dig deeper to get a better understanding of a borrower’s financial history and why their credit score may be low. When lenders do this, they’re evaluating your “character” as a borrower.

When reviewing your financial history, sometimes circumstances are revealed that may have caused temporary financial setbacks and may have impacted your credit score. These could include divorce, loss of employment, illness or other factors that have had a negative impact on your score. Some lenders will take these factors into consideration when assessing your ability to repay a loan.

Additionally, some lenders are more willing to work with small business owners who show that they’ve taken steps to resolve issues and get on solid financial footing again, such as negotiating payment plans, because they’re demonstrating responsibility and are on the right track for success.

Beyond just your financial history, character can also be measured by your educational background and business experience and reputation. Lenders may also consider the quality of your references and the experience of your employees. This information is important in determining your ability to repay the loan.

2. Cashflow and Debt-Service Coverage Ratios:

While credit histories and credit scores are primary considerations, cashflow and debt-service coverage ratios are the next-most important factors that influence lenders’ decisions, because they demonstrate your ability and capacity to take on the new debt.

Lenders use financial documents, such as tax returns and interim financials, to evaluate a business’s cashflow and calculate its debt-service coverage ratio relative to the loan amount that is requested. For that reason, businesses that demonstrate good cashflow and healthy debt-service coverage ratios are more likely to be viewed as creditworthy.

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3. Collateral:

Collateral is any asset, whether personal or business-related, that a borrower can offer as repayment in case they default on a loan. Essentially, collateral is a promise that you’ll repay your loan, should you default.

When evaluating a business owner’s loan worthiness, lenders will assess the value of collateral relative to loan being requested and determine the collateral coverage ratio. Business owners who offer sufficient collateral often have high collateral coverage ratios, which can help strengthen their application. It can also help them qualify for a higher loan amount, longer repayment terms, and a lower interest rate.

4. Conditions: 

Lenders consider a number of outside circumstances that may affect your ability to repay a loan, such as the local economic climate, industry-specific risks, competition and your local market. When meeting with a potential lender, demonstrate that you have a good understanding of current and forecasted conditions that could potentially impact your business. This shows lenders that you’re a forward-thinking and responsible business owner who is committed to growing your business through changing economic conditions.

Additionally, lenders will want to know if the current conditions of your business will continue, improve or deteriorate. Here are some steps you can take to demonstrate your business’s capacity for growth:

    • Develop a plan: Depending on which stage your business is in, a business plan or growth plan is essential. Include detailed revenue and expense projections and discuss these with potential lenders. You’ll make a great impression if you show that you understand your business’s financials, have a clear plan for growth and an have created contingency plans in the event that unexpected challenges arise.  
    • Show how your business is trending and identify your market: Lenders want to ensure that they’re lending to businesses operating under favorable market and industry conditions. Before approaching a lender, perform a market review to identify the demand and market for your products and services.
    • Communicate how you’ll use the funds and the impact on your business: It’s important to communicate how funding will help you make your business stronger. If your loan will enable you to hire staff, do more marketing, add inventory or get a better location, it’s important to show this. Along these lines, be sure to include any additional expenses that you may incur and how you’ll manage these long-term.

Credit scores can always be improved

Even if your personal credit score or other factors aren’t strong right now, you can improve them. Be diligent about upholding your financial responsibilities and take advantage of help and resources that are available to you.  If your personal credit score has some weak points, check out our four-step guide to improving your credit score.

And if you need help or simply want to learn more, contact EGF’s Business Advisors today. We help small business owners gain access to a range of support services that can help you repair credit, strengthen your business plan, manage your financials and get the funding you need for small business success. Contact us today.