Five Reasons Why Business Loan Applications Are Rejected

Unanticipated financial obligations in business can push anyone to make wrong decisions. It may affect both life and business at lightning speed. Rather than procrastinating, it is good to confront the crisis and resolve the issue. But how?

One option is to apply for business loans. However, not every loan application is approved by banks and non-banking finance companies (NBFCs). Most lenders approve business loan applications based on certain criteria. Borrowers failing to meet the eligibility criteria may have their loan application rejected.

Some of the reasons why a loan may be declined are as follows.

Poor Credit Score

The primary concern of every lender is timely repayment of loans. The interest charged by every borrower on a debt obligation is the lender’s reward for taking the credit risk. Hence, they consider several factors before sanctioning a loan. Of these factors, the credit score is an important one.

The credit score helps the lenders to evaluate if the prospective borrower has the ability to repay the borrowed sum. It is a number between 300 and 900. A threshold limit of 750 and above is considered ideal for loan approval. A poor payment track record because of delayed or missed payments, or even administrative errors, can damage the credit score and may prompt the lender to reject the loan application.

Inadequate Cash Flow

When borrowers apply for business loans, they must demonstrate a strong positive cash flow. Cash flow gaps arise due to less cash inflow and more cash outflows. Insufficient cash flow slows down normal operations and, if it lingers for long, may threaten the survival of the business.

A negative cash flow resulting from less seasonal demands, excess investment, high overhead expenses, low profits, overstocking and poor financial planning is an indication of cash shortages and financial difficulties. This may limit the borrower’s ability to repay the loan, forcing the lender to deny credit.

Unpaid Debt

Lenders may reject business loan applications of borrowers who are already sitting on a pile of massive debt. To lenders, a large unpaid debt may be a warning about the business owner’s inability to afford future monthly payments.

Even a decent credit score may not be of much help and lenders may even consider the firm’s entire credit usage ratio to re-evaluate. It is the total credit utilized to the total credit limit available. It is typically expressed as a percentage. Usually, lenders do not want borrowers to use more than 30% of the entire business loan available.

A low credit utilization ratio is an indication of lower dependence on credit. This, in turn, helps to secure a high credit score.

Lack Of Collateral

Most business loans are secured in some aspect. It can be secured with a collateral or a personal guarantee to minimize risks. Suitable properties as collateral can fetch lenders good resale value in the event of a default.

Therefore, any intangible or old property or property with disputed ownership title could also result in rejection of a business loan application. So, borrowers planning to apply for business loans must choose proper tangible assets as security.

Unrealistic Business Plan

Borrowers must have a clear picture of the purpose of the loan. Not asking for enough capital that a business needs or asking for too much that a business doesn’t need may deter lenders.

Young entrepreneurs with the zeal to do more in less time often come up with unrealistic business plans that may turn away lenders. Well-conceived details of a company's financial goals and the steps to implement them can help banks and non-banking financial institutions to analyze the plan in depth.

Additionally, traditional lenders may at times not want to associate themselves with risky ventures.

Those who have faced rejections and wish to reapply for business loans must first find out the reason for the loan rejection. If one still faces difficulties, here are a few tips to solve the problems quickly:

• Pay off the outstanding debts
• Building a good credit score by timely repayment of loans
• Manage a positive cash flow

Conclusion

When entrepreneurs apply for business loans, they must get all legal documents like contracts, leases, licenses, etc. associated with the firm in place. It decreases the chances of rejection of business loans.

Also, it is crucial for borrowers to be transparent to banks about their past records. Inaccurate information provided to the lender may misfire. Borrowers must also take care not to make mistakes in the loan application form.

Most banks and NBFCs such as IIFL Finance notify the borrowers about the reason for declining a loan within a stipulated time period. Whatever is the cause of the loan rejection, identifying the root cause increases the chances of the loan getting approved at a later stage.

At IIFL Finance, borrowers can determine their business loan eligibility and secure a line of credit with the type of loan that best suits their needs.