How to get a business loan even with a bad credit score
Banks consider several factors when assessing your business loan application. In particular, they try to understand:
- the needs of your business
- the project involved by the credit application
- your business’s current financial situation
- your personal credit score
- your personal net worth
A business’s financial position is the most important factor. If your business is strong, growing and has good long-term prospects, you could get a loan even if your credit score is poor.
What is a credit score?
A credit score (also called a credit rating) is one of the tools banks use to determine an individual’s creditworthiness. Individuals are creditworthy when they are able to repay their debts and meet their financial commitments. The credit score is based on your past credit behaviour, such as your ability to pay your bills on time.
The credit score ranges from 300 to 900. The higher the score, the better your chances of getting approved for new credit from the banks.
What is a bad credit score?
The lowest credit score is 300. A poor credit score ranges from 300 to 559.
The following table shows how the different scores are rated.
| Assessing credit scores | |
|---|---|
| Poor | 300 to 559 |
| Fair | 560 to 659 |
| Good | 660 to 724 |
| Very good | 725 to 759 |
| Excellent | 760 to 900 |
How are credit scores calculated?
Credit scores are determined by credit reporting agencies such as Equifax and TransUnion. The factors that affect an individual’s credit score include:
- credit history: length of time you have been using credit
- payment history: number of late payments, bankruptcy filings and debt collections
- usage: percentage of available credit remaining
- frequency: number of requested credit checks
When you apply for a personal or business loan, banks rely on the reports provided by credit reporting agencies. These reports, which include your credit score, help determine whether they should lend you money.
“Many people are not aware that their consumption habits can affect their credit score,” says Valérie Bornais, Manager, Sales Enablement at BDC. “And they don’t realize that this can hamper their business as well. “In fact, they should know that financing is often granted based on personal credit history,” she adds.
How do banks evaluate a business loan application?
Your credit score is an important tool for assessing your creditworthiness. However, this is not the only aspect banks will consider when reviewing your loan application.
Financial institutions review business loan applications based on the five Cs of credit.
The 5 Cs of credit
1. Character
This is the credibility you have as an individual with lenders. In other words, banks will not just be interested in your credit score. They will also consider your educational background, specialization, expertise and entrepreneurial experience.
2. Capital
This is the amount of money you can invest in the project. The more money you can contribute to the project as a percentage of the total investment, the lower the risk for the lender.
3. Capacity
Your capacity involves your income, expenses and debt. It is generally expressed as a debt-to-income (DTI) ratio, a comparison of income against recurring debts. A higher DTI ratio indicates higher debt levels relative to your income, increasing the risk for the lender.
4. Collateral
This is an asset or property the bank can seize should you default on payments. In other words, it’s another potential source of repayment for the bank. The greater the value of the collateral provided, the lower the risk for the financial institution.
5. Conditions
These are the terms of the loan, such as the amount, interest rate, and amortization period. The state of the economy in your industry can also impact the terms of the loan.
“The good news is that your credit score is just one of five criteria used by banks to assess your creditworthiness,” says BDC Business Centre Manager Jamohl Rutherford, . “So, if you’re very strong in everything but the character criteria, there is still a chance you can overcome your bad credit score.”
We won’t refuse you just because of a poor credit score. By highlighting the strengths of your business in the other four Cs, you can improve your chances.
Jamohl Rutherford
Manager, Business Centre, BDC
3 tips for getting a business loan despite a bad credit score
The following tips can help you improve your chances of having your application approved.
1. Present a strong case across all five Cs of credit
You can lower the risk your poor credit score poses to banks, which will make them more likely to approve your loan application. You can better prepare your application to increase your credibility with lenders. Consider doing the following:
Character: Highlight other character attributes than your credit score
You will be more likely to get a loan if, for example, you offer a high-demand service or if you have a highly specialized degree.
Capital: Invest in your business
If you can, invest in your business. The more capital you can contribute, the more likely the banks will contribute to your project.
Capacity: Have a clear and detailed repayment plan
Come prepared with supporting documents, such as contracts and purchase orders. This will demonstrate your ability to pay the principal and interest of your loan back, which will increase your credibility with lenders.
Collateral: Offer assets as collateral
Your application for financing is more likely to be accepted if you have certain assets that you can offer as collateral. You could also get better terms.
Conditions: Get informed
Inquire about the different financing options and the associated terms. Make calculations and choices based on your needs.
Many people are not aware that their consumption habits can affect their credit score. “And they don’t realize that this can hamper their business as well.
Valérie Bornais
Manager, Sales Enablement, BDC
Compared to established businesses, startups with bad credit scores have the added challenge of not being able to provide any historical data on their ability to repay a loan. It is crucial that they provide strong forecasts and demonstrate their ability to repay the loan.
“When you have a bad credit score, you need to be very strategic and paint a really favourable picture for the remaining criteria,” says Rutherford. “It’s challenging but not impossible.”
2. Be transparent
Always be honest and upfront about what led to your bad credit score. Lying or trying to hide facts won’t help your case. Provide the context and circumstances that led to your situation. This may help the bank look more favourably at your application, especially if you had a good credit score in the past.
“A bad credit score may be the result of an unfortunate event beyond your control, such as a divorce,” says Bornais. “If your business idea is sound, the bank will be more willing to take a risk and help you out. ”
There are often good reasons for a credit score being low. We always look at what’s behind the number.
Jamohl Rutherford
Manager, Business Centre, BDC
3. Find partners
Consider teaming up with one or more associates with impeccable credit histories. Having a more qualified and financially sound management team may help tip the scales in your favour.
If you do form a team, ask a lawyer to draft an agreement that determines everyone’s roles and responsibilities.
If you find a friend or family member to act as a guarantor on a loan, that person must meet the lender’s eligibility criteria. The lender’s decision will be based on a review of the guarantor’s credit history and net worth.
This person must also be aware of the commitment they are making. Being a cosignatory on your loan will appear in their credit history and may limit their borrowing power. They must also be clear on the extent of their liability should you be unable to meet your obligations.
What are the other implications of a poor credit score?
Having a bad credit score doesn’t mean you can’t get a loan. However, it can have other consequences on your business and your financial situation.
If you have a low credit score, expect higher interest rates than if you had an excellent credit score. Application processing times will also take longer if you have a low credit score due to the due diligence required by banks.
But poor credit is not forever. To improve your credit score, the first step is to be aware of what may have contributed or is still contributing to your bad credit score. The next step is to draw up a plan to improve your credit score. It will significantly improve your chances of getting your next business loan.
“Use your opportunities to improve your credit score and look at the process from the institution’s perspective,” he says. “Financial institutions want to help entrepreneurs and provide the financing they need, but they also need to make sound financial decisions.”
Free or low-cost credit reports
Ask for free or low-cost credit reports to assess your current situation and determine what actions you should take to improve your credit score.