How A Bank Actually Decides On Your Small Business Loan

Business owners tend to imagine loan decisions as judgement calls made by someone who either likes the business or does not. In practice, underwriting runs through a sequence, and applications usually fail at a specific, identifiable step.

Capacity comes before character

The first question is whether the business generates enough cash to service the debt. Lenders test this with a coverage ratio: cash available to service debt, divided by the payments due on it. Every lender sets its own minimum, and it is above one — they want headroom, not a business that exactly breaks even.

This is why profitable-looking businesses get declined. If profit is tied up in stock or in receivables that pay in ninety days, cash available to service debt is smaller than the profit line suggests.

Then the balance sheet

Next comes leverage — how much debt already sits against the business — and the quality of what secures it. Receivables from a diversified customer base are strong collateral. Receivables from one customer who provides most of your revenue are not, because the collateral and the risk are the same thing.

Then the file itself

A surprising share of declines are administrative. Filed accounts that do not reconcile to the management accounts, a tax position that is not current, an entity whose registered details do not match the applicant, unexplained transfers between the business and the owner — each is a reason to stop, and each is fixable before you apply.

What to do with this

Work the order. Before applying, calculate your own coverage ratio and be ready to explain it. Clean up owner-business transfers for at least two quarters beforehand, because a reviewer reads those as evidence of how the business is run.

And apply when the numbers are good rather than when the need is urgent. The facility you can raise comfortably is almost always the one you arrange before you need it.