How to make banks lend money for businesses?
Access to capital is often the lifeblood that keeps enterprises thriving and innovative. Whether it’s a startup looking to transform an idea into a reality or an established company seeking to expand its operations, lending money is crucial. So, what does one need to borrow money for a business? What do banks check before lending money to businesses? Let’s find out!
Statistics on lending money for businesses worldwide
Due to the economic repercussions of the Covid-19 pandemic, the Bank of England implemented quantitative easing measures. In March 2020, an infusion of new money supply was introduced to stimulate the economy, resulting in a significant business lending surge.
For example, the lowest borrowing costs in 2022:
- Italy, Switzerland, Israel: < 3%
- China: 4.35%
- India: 8.6%
- USA (2021): 3.25%, but increased later.
Following the reduction of the UK bank base interest rate to 0.1 percent on March 19, 2020, this measure has led to an annual increase of approximately 24.2 percent in loans to small and medium enterprises (SMEs) as of October 2020. Statista report shows it with the data from 2013 to 2020.
8 Points banks consider when lending money for businesses
Before banks lend money for businesses they have to check them. If companies, whether big or small, follow their rules, they can lend the money. Thus, the reasonable limitations/restrictions for a company seeking to borrow money from a national bank may include:
1. Creditworthiness
The company must demonstrate a strong credit history and financial stability to qualify for a loan. Creditworthiness is a critical factor that lenders, including national banks, consider when assessing a company’s eligibility for borrowing money. It refers to the company’s ability to repay the loan based on its previous financial performance and overall credit profile.
For established businesses, creditworthiness consists of analyzing the company’s credit history, financial statements, cash flow, and repayment track record for previous loans. However, evaluating creditworthiness can be more challenging for new companies with little to no credit history. We prepared information for ways out to help new companies to take loans.
2. Collateral
Appropriate collateral secures the loan and mitigates risk for the bank. Collateral is typically an asset or property that a borrower offers to secure the loan, assuring the lender that the debt will be repaid even if the borrower defaults.
3. Loan Purpose
The funds should serve legitimate business purposes, not personal or non-business activities. Companies seek loans for various purposes, such as business expansion, working capital, equipment purchase, inventory financing, debt consolidation, technology upgrades, marketing, research and development (R&D), acquisitions and mergers, and real estate investment.
4. Loan Limits
Loan limits refer to the maximum amount of money a borrower can obtain from a lender, such as a national bank or financial institution. These limits are set to manage risk, ensure responsible lending practices, and protect both the borrower and the lender.
The loan limits can vary based on several factors, including the borrower’s creditworthiness, income, and the type of loan being applied for.
There may be caps on the maximum loan amount based on the company’s size and financial standing. Borrowers need to be aware of loan limits and only borrow within their capacity to repay comfortably. Excessive debt can lead to financial strain and difficulties meeting monthly loan obligations.
5. Interest Rates
Interest rates refer to the cost of borrowing money, expressed as a percentage of the principal amount (the original loan amount). When someone borrows money, they are required to pay back the loan amount along with an additional amount, known as interest, to compensate the lender for the risk of lending and the opportunity cost of not using the money elsewhere. The interest rates charged should be reasonable and in line with market standards.
6. Repayment Terms
Repayment terms, also known as the loan term, specify the duration for borrowers to repay the loan, including interest and fees. The terms can range from short to long periods, with regular monthly payments for most loans. Amortization reduces both principal and interest over time. Early repayment options and balloon payments may apply. Borrowers should consider their financial situation and plan accordingly. Companies must adhere to the agreed-upon repayment schedule and terms.
7. Compliance
The company must comply with all relevant laws and regulations governing lending practices. Financial institutions and borrowers must adhere to the legal frameworks of each country’s regulatory authorities. The point is to ensure fair and transparent lending practices and protect the rights of both parties.
For example, financial institutions (including banks and lenders) must obtain the necessary licenses and authorizations from the regulatory bodies in each country they operate. These licenses ensure they meet the minimum requirements and standards the government sets. Besides, there are requirements for AML (Anti-Money Laundering) and KYC measures. Thus, institutions prevent money laundering and verify the identities of their customers.
Loan agreements should comply with contract law in the respective country. They outline the terms and conditions of the loan in a legally binding manner.
8. Financial Reporting
Regular financial reporting and transparency are vivid ways to monitor loan performance. It involves preparing and disseminating financial statements. The latter provide a comprehensive view of the entity’s financial health. It helps stakeholders to make informed decisions.
Note: The limitations and restrictions may vary. They depend on the national bank’s policies and regulations.
What to do before borrowing money for business from bank:
1. Agree on Terms when asking banks lend money for businesses
First of all, clearly define the loan terms with the lender. Discuss the loan amount, interest rate, repayment schedule, and any collateral requirements. Ensure all terms are agreed upon and put in writing to avoid future misunderstandings.
2. Provide Legal Documentation
Seek legal advice to review and understand the formal loan agreement drafted by the lender. Ensure the agreement complies with relevant laws and regulations, protecting your interests as a borrower.
3. Consider Collateral (if applicable)
If the loan requires collateral, carefully consider the assets you are willing to pledge to secure the loan. Understand the risks associated with using collateral and its potential impact in case of default.
4. Think on Repayment Plan
Think about the further steps to get your financial freedom back. Work with the lender to establish a realistic and feasible repayment plan. Understand the frequency of payments and ensure you have a clear understanding of your repayment obligations.
5. Do Your Best for Risk Mitigation
Assess the risks involved in borrowing and consider diversifying your borrowing sources. Explore multiple lenders and loan options to spread the risk and secure favorable terms.
Conclusion
Banks play a pivotal role in lending money to businesses, but before approving loans, they thoroughly evaluate various aspects. From creditworthiness and collateral to loan limits, interest rates, and compliance with regulations, banks consider multiple factors to ensure responsible lending practices and protect both borrowers and lenders. Understanding these critical points is essential for businesses looking to secure funds and propel their ventures forward.
About Author
Ben Adam is a dedicated in-house copywriter at Wittix, a leading money transfer services company. With a passion for crafting compelling content and respect for clients, Ben has created engaging and informative articles that captivate readers and provide valuable insights into finance, money transfer, and related topics.