How to get a bank loan for your small business — and other ways to raise cash

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Money is one of the biggest hurdles when starting a business, and sometimes a helping hand is needed to fund the cost of scaling or keeping a business afloat.

The most traditional way for companies to close their financing gaps has been to take out a business loan. They enable small businesses to finance their ongoing operations or further growth.

But getting a loan can be an intimidating experience because of so many different products and providers, and confusing jargon.

We’ve put together a guide that explains what you should consider before applying for a bank loan, including whether you should take out a short-term or long-term loan and what other financing options are available.

Startup Sagas: Starting a business is hard work, so securing external funding can be a burden off small business owners’ shoulders

Check if you are eligible

The first step is to find out if you qualify for a business loan.

Each lender has specific sales requirements for the applying companies and the health of the company is also considered.

Most will require that your company is officially registered in the UK, the owner is over 18 and has been actively trading for at least six months.

You have to decide how much you want to borrow and calculate how long you’ll need it.

Decide what type of loan you need

Once you know you’re eligible, you should calculate how much money you need, what you can afford to pay back, and how long you’ll need the money.

A short-term loan may be best when you need a quick injection of cash to relieve cash flow constraints or to purchase products or equipment.

The main advantage of short-term loans is that they are repaid quickly, often within a year. This limits the time that interest can build up, meaning the borrower often has to pay less interest overall.

David Fishwick

They also usually have quicker application procedures – however, the interest rate is significantly higher than if you opt for medium or long-term loan repayment.

Medium and long-term loans usually allow you to borrow to support the growth of the business, which means they are spread over a long period of time and the monthly installments are lower.

A medium to long-term loan may be more suitable for those looking to start a business or expand their existing business.

Medium-term loans can be repaid in monthly installments over one to five years, while long-term loans can range from five to 30 years. Short-term loans are usually repaid between three months and one year.

It’s also worth noting that it’s harder to get approved for a long-term loan because lenders need assurances that you can pay it back.

It pays to calculate monthly loan repayments before applying so you know you can afford to pay it back.

Secured or unsecured?

Some loans are secured by an asset you own, usually your home. So if you don’t keep up with the repayments, you could lose your home.

A secured loan allows you to borrow more money, but this largely depends on the equity available in the asset against which the loan is secured.

Most secured loans come with upfront payments to cover administration and can be slow to obtain due to things like property appraisals and legal reviews.

The other option is to take out an unsecured loan. This does not require an asset to be secured, but your personal credit history will be subject to closer scrutiny.

Put your finances in order

After figuring out what type of loan and how much you want to borrow, you need to make sure your finances are in order.

Debt consolidation might help. This is when you combine multiple debts into a single debt, making repayment easier to manage.

Lenders will review your business accounts, so make sure you have new accounts submitted before applying for the loan.

You must also submit a detailed profit and loss account and a balance sheet.

It is worth having all the documents ready to hand before submitting the application, including legal documents, business and private tax returns and annual financial statements.

You also need to make it clear what the funds will be used for.

What other financing options are there?

You may have gone through all of these steps only to find that your bank denied your application.

Given the economic backdrop and rising costs, banks have started tightening their stress tests on new borrowers.

Recent research from Altenburg indicates that tests that previously assumed a 2 percent annual increase in a company’s cost base now assume 5 percent or more.

It makes the already difficult environment for small businesses even more difficult — but there are other options.

The most common short-term facility for small businesses is an overdraft, but these can be expensive so be sure to check interest rates.

You can usually borrow more with a business credit card than with a personal credit card. Some banks allow you to spend interest-free for a period of time, but once the 0 percent offer ends, the rate is likely to go up.

>> Read our guide to the best bank accounts for small businesses and compare fees, interest, and overdrafts.

Stress test: Banks have tightened their eligibility criteria for new corporate borrowers, resolving an overdraft or applying for a government-backed start-up loan might make more sense

Stress test: Banks have tightened their eligibility criteria for new corporate borrowers, resolving an overdraft or applying for a government-backed start-up loan might make more sense

You can apply for one State-sponsored start-up loan from £500 to £25,000 to start growing your business and you also get 12 months of free mentoring.

Unlike a business loan, however, this is an unsecured personal loan. The loans bear interest at a fixed rate of six percent per year and can be repaid over a period of one to five years. The average loan amount is £7,200.

Crowdfunding could be another way to raise funds. There are many platforms where businesses can ask individuals for small amounts of money.

You need to have a target size, present the details of your business to your potential investors, and then raise the money.

You can also raise money through equity – when people invest in exchange for something in return – or through peer-to-peer lending, where money is lent out at a set interest rate.

Former Dragons’ Den star Piers Linney told This Is Money: “If you can get an equity fundraiser to work, think about building a business that you sell or sell to investors.

“If you’re in that place, there’s a lot of new platforms there… new angel investment networks. But investors are also taking a hit to their own portfolios, so you may find that financing supply may be falling, it’s going to be a difficult time.’

“The advice must be to understand your financing options. Make sure you really understand them… You didn’t just go to a big bank and then go home. There are many opportunities.”

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