Three Questions Contractors Have About Financing

Like many small businesses, contractors leverage borrowed capital to fuel business growth and often fund business operations. It’s not uncommon to have questions when contemplating a business loan application. Here are three questions contractors (and many other small business owners) have about financing when they’re considering a small business loan.

Can my business qualify for a loan?

This is a question every small business has, and is a good place to start. There are more options available than ever before for a contractor to borrow, but different lenders have different qualification criteria. Understanding your business’ current situation and how that relates to the basic qualification criteria of different lenders will help you decide which lenders it could make sense to approach and submit an application with.

Regardless of the lender you choose, your personal credit score will likely be a part of any business loan decision. Some lenders weight the value of your FICO score more than others, but you should expect that most business lenders will be interested in your personal credit score.

1. Traditional lenders like banks: Banks typically want to see several years in business, a million dollars in annual revenue, and a business owner with a FICO score above 700. That being said, if other business metrics look good, banks will sometimes consider a loan application if the business owner has a FICO score as low as 680. Banks will also require specific collateral for a small business loan, even if the purpose of the loan does not include equipment. If the purpose of the loan is to purchase construction or other business equipment, the equipment is typically used to collateralize an equipment loan.
2. An SBA-guaranteed loan: Although the SBA is not a lender and works through participating banks and credit unions, an SBA-guaranteed loan can be a source of borrowed capital for the contractors that qualify. Although the SBA does offer a financing program for start-up businesses, the business owner will need a strong personal credit history and have adequate collateral. Expect the qualification criteria to otherwise be similar to what is required at the local bank. The SBA’s minimum threshold for personal credit score is 650. They will also require collateral for any SBA-guaranteed loan, including those that are not intended for the purchase of equipment.
3. Online Lenders: There are several online options available to small business owners, including contractors who are looking for financing. What’s more, the qualifying criteria is different from either the local bank or the SBA. Most online lenders will want to see at least a year in business, $100,000 in annual revenue, and in OnDeck’s case, a FICO score of at least 600 (some lenders will go below that). One of the primary benefits associated with an online business loan application is the simple nature of the application and the speed with which they can respond. Applications are often approved in a matter of a day or two with accessibility to funds within another couple of days. Online lenders don’t typically require specific collateral for a small business loan, but will use a general lien on business assets until the loan is paid off. This enables healthy businesses that may not have assets that could be used as collateral to qualify for a small business loan. Most online lenders who offer equipment loans will require the equipment being purchased to collateralize the loan.

How Much Money Can I Borrow?

Different lenders will have different criteria based upon you loan application, so before you ask that question, ask yourself, “What is the reason I am looking for a business loan?” I’m of the opinion that your loan purpose should drive the answer to the question of how much you should consider borrowing.

Because there are costs associated with borrowing, borrowing more than what you need or borrowing at the wrong time, can actually hurt your business. There are times when accessing borrowed capital can make a lot of sense—for example, when it has the potential to improve the ROI of a project or when it will increase the value of your business.

You should also look closely at your revenue and cash flow to confirm that your business is in a position to service the debt. Your cash flow metric is one way to validate that you have the cash flow needed to support the periodic payment.

How Quickly Will I Be Required to Pay Off the Loan?

This is another good question and will depend upon the lender you choose. Traditional loan terms like four years, five years, or 10 years are not the only options available today. Loan terms as low as three to six months, 12 months, or up to 36 months are also available. These shorter terms, depending upon your loan purpose, could make more sense depending upon your loan purpose.

As a rule of thumb, you should be aware that the longer the term, the more accrued interest (or the higher overall dollar cost) you will pay over time—but you will have a smaller monthly payment obligation. A shorter-term loan will likely have a higher monthly payment obligation, but the overall dollar cost of the loan could be smaller because the accrued interest will be less.

Your loan purpose will also help you determine the appropriate loan term. Something like borrowing to purchase inventory for example would likely be better suited for a different type of loan than a new dump truck or excavator.

There are more loans for contractors available today than ever before, but before you start looking, make sure you evaluate your current credit profile (both your personal and  your business profile), make sure you have an identified loan purpose in mind, and take the time to investigate your options. In the right circumstances, borrowing to fuel growth or fund other profit-generating initiatives can help you take your business to the next level.