As a general practice, banks and other traditional lending institutions do not extend loans to people or business entities with bad credit. This is because these institutions have clearly defined policies for loan approvals and disbursements. They also have compressive SOPs or standard operating procedures.
The officials working in these organizations follow these SOPs to the letter. Any kind of deviation is not allowed. When their SOPs state that the institution should not offer loans to prospective borrowers with bad credit, they will never approve such a loan under any circumstance.
The above scenario essentially means that if you have bad credit and you still want to obtain a loan, you will have to look at venues other than traditional lending that are willing to extend bad credit small business loans.
What is Bad Credit?
It is not possible to pin down an exact figure that would demonstrate the bad credit of an entity because the cutoff is not similar for every lender. However, it can be safely stated that any score of less than 620 is generally regarded as a bad credit score.
Reasons for Bad Credit
There are many reasons that either individually or collectively result in bad credit for a person or an entity. If you are late in making payments to your creditors or you have serious cash flow problems, or even if you have a negative public opinion, all these things would damage your credit score.
The more negative elements on the credit report, the lower its score will become. The business will needlessly suffer due to the bad credit when it will be unable to meet its financial obligations.
Financing options if you have Bad Credit
If you have bad credit it does not mean that you will not be able to obtain financing from any source. However, if you are opting for a loan, you should be aware that you will be required to pay a higher rate of interest because the lender will also like to be paid for the risk he is taking by lending you money despite your unfavorable score. The increased rate will eventually increase your borrowing costs.
Friends, Family, and Relatives
This is your first and foremost financing option outside of the conventional lending sphere. But it depends on the amount you need for your business. If it is a reasonable amount, you can ask for loans from your friends, family members and, your acquaintances.
One disadvantage of this kind of loan is that you will need to repay several loans simultaneously. Another drawback is that when money gets involved in any relationship, it becomes impaired. At the end of the day, if you cannot discharge your financial obligations towards your relatives and acquaintances, it will have a very adverse impact on these relations.
Even if you still want to obtain cash from your relatives, you should convince them to invest in the business rather than giving you a loan. Apparently, when a relative invests in your business and it fails, he may be able to obtain a tax write off for the amount he had invested.
In fact, a professional taxation lawyer will be able to impart great advice to both of you in this regard.
Peer-to-Peer Loan
This kind of lending allows several investors to combine their resources towards a single loan. The entire process is carried out through the internet. The prospective investors carry out an analysis of your loan application as well as your business profile and then decide whether or not to approve your loan.
The advantage of such a loan is that despite the presence of several investors, as a borrower, you will have a single loan in your books of accounts. You will also be required to make a single repayment at pre-agreed intervals as agreed earlier.
Another advantage of peer to peer lending is that it has a very swift procedure as compared to traditional lending. This would mean that you will be able to get your hands on the required amount of cash without any delays. You may have to submit a personal guarantee in case of a loan default which will expose your personal finances to risk in case the business fails to take off.
There are many peers to peer lending options available including Lending Club and Street Shares.
Invoice Financing
This is another great option that you can explore when you have bad credit due to which you are unable to secure financing from traditional lenders. In simple words, invoice financing allows you to get cash against the invoices that you have raised on your customers.
The lender would buy these invoices, and advance a percentage of the total invoiced amount to you. He would hold onto the rest of the amount until the time your customers pay the owed amount in full.
The lender will analyze the credit repayment history of your customers in order to determine if it is a safe bet to expect repayment from them in the short run. He will only approve the loan after he is satisfied with the health of the invoices. You will also be required to pay weekly fees to the lender until the time the invoice gets paid. This means that you will not only have to account for a higher rate of interest but also the weekly fees when you opt for invoice financing.
Merchant Cash Advance
If you need cash on an immediate basis, a merchant cash advance is your best bet. The lender would loan you an amount based on the future anticipated sales of the business.
There are two ways of repaying this kind of loan: through the revenue generated through your sales or by allowing automatic bank transfers from your own account to the merchant’s on a periodic basis.
Before agreeing to obtain a merchant cash advance, it is advisable to check the rate of interest being charged for the amount disbursed. Also, ensure not to pay off the loan early from your cash flows because it will not provide you any extra benefits.
Conclusion
Most people wrongly believe that they cannot obtain loans for anywhere if their credit score is not good enough. Such is not the case. There are many options available for obtaining loans despite the bad credit. However, the mechanics of these loans are very different from that of traditional loans. Further, there may be higher interest rates associated with these unconventional loans. As a business owner, you must decide which loan option is best for you that will offer you the best value without becoming a burden on your cash flow.
