5 Reasons Banks will Reject your Loan Request

5 Reasons Banks will Reject your Loan Request

December 12, 2020 0

Why will a bank reject your loan request? Running a business comes with many challenges and one of the biggest is lack of access to financing. Small business owners often find themselves in a need to inject more cash either through equity or debt. Many businesses, despite the plethora of loans from financial institutions, find it difficult to access loans. The SME Finance Forum estimates that 131 million or 41% of  MSMEs do not have access to finance. To bridge this gap, we would need 5 trillion dollars. That is 103 percent of the current funding of MSMEs globally.

5 Reasons Banks will Reject your Loan Request
There are several reasons why a bank can reject your loan request

While there are many reasons why businesses fail, lack of access to finance is a major contributor to business failure. A World Bank report suggests that 39 percent of small firms and 37 percent of medium firms in Nigeria lack adequate financing to continue running their businesses. Small business owners often complain of lack of access to finance or stringent conditions one would face when attempting to borrow from a financial institution, especially commercial banks.  The following are some of the reasons banks may reject your loan request.

1. Lack of Financial Records

Running a business comes down to numbers. And there are no better ways to break down the numbers without setting up accounting procedures for measuring different aspects of a business. When you approach a bank for debt financing, the first thing a bank officer will request for are your financial records. The bank will want to see how well your company is doing financially.

Is your business profitable? What are the assets available to the company? How well has the company performed in past years? Presentation of your financial records is the basis for discussion with a bank. If you have not been keeping these records, it is not too late to start. The first step is to engage the service of an accountant to help you look at your past transaction history and develop an audited financial report.

The next is to ensure going forward you properly document all financial transactions. Fortunately, there are digital tools (some free) available nowadays that can help you with this aspect of your business. Keeping financial records will not only help you when you need to borrow from a bank, but it will also help you understand what you are doing well and where you need improvements.

2. Capacity to Pay and Willingness to Pay

The next hurdle you need to jump is the test of capacity and the test of character. Is your business generating enough cash to meet all your financial obligations? Can your business pay salaries, pay suppliers and other clients and still make the loan repayments? It is important to state here that the banks will look at your historical performance more than they will look at your projections.

In other words, what you have done as a business is much more important than what you will do. On the other hand, the bank will also look at your willingness to pay. Your bank will need to establish that you will use the loan for the purpose intended for. Your capacity is not enough, you will need to prove that you are willing to pay back. One of the ways to determine your willingness to pay is your credit history. The bank will carry out a credit check on both your company and you as a person.

If you have defaulted on a loan before, there is a chance that you will default on the new one. Your credit history becomes your judge here. If you have not borrowed especially from a financial institution, it will be difficult to determine your willingness to pay. Some banks will go as far as asking your creditors (suppliers), workers, other businesses you deal with to see if you always meet your obligations when due. They can also as far as checking your digital footprints to see if you have been accused of anything questionable as a business.

3. Borrowing too early

One of the mistakes you can make as a business owner is to borrow from a bank too early in your startup journey. Interest payments will likely kill that business. Most banks hardly lend to startups and the reasons are not far fetched. A Startup is more or less an experimentation. The business is still trying to figure out what works and what doesn’t. It is still trying to attract sales, develop its distribution channels and develop business processes.

At this stage, the risk of failure is extremely high; one wrong decision can collapse the business. Do I need to remind you that 95 percent of startups fail? The implication of this is that for every 100 startups banks lend money to, 95 businesses may end up not repaying. If you need money at this stage, equity financing is the best option. You should look for people or institutions who believe in your vision and are willing to put down resources to help you realise your vision.

4. Mixing Personal and Business Transactions

When I check your business account statement and I see narrations like school fees, and groceries, it triggers a major risk concern- diversion. One of the major risks banks face when giving out loans to small businesses is diversion risk. It is the risk that the loan granted will be used for other activities other than what it is intended for.

If you have been using your business account for personal transactions, please stop it.  Apart from diversion, it also indicates a lack of financial discipline. Separate your personal transactions from your business transactions. Ensure the only time money is transferred from your business account to your personal account is when you pay yourself a salary. Other ones should be properly narrated and reflected as stipulated by your corporate governance procedure.

5. Lack of Sufficient Collateral

Many people think that the lack of collateral is the reason a bank rejects their loan request. Collateral is actually the last thing a financial institution considers when approving a loan request.  The aforementioned reasons are more important than collateral. Banks are not in the business of selling real estate, it is too much hassle converting collateral to cash. However, depending on the risk appetite of a bank, collateral is sometimes required in case the borrower defaults on repaying the loan. There are a number of SME loans provided nowadays by Nigerian banks that do not require collateral. You may need to do your research to identify them, work on the requirements for accessing the loan facilities.

If you have not been conducting your business activities in a manner that will make it attractive for banks to lend you money, you can start doing so today. The first step will be to review your past financial activities, at least for the last three years. Get an accountant to help you do this. You can start building your credit history by borrowing small amounts of money available and ensuring you deal with all stakeholders fairly when money is involved. In the finance world, reputation is everything; if you do not have a good one, banks are likely to reject your loan request.

Temitope Adeyemo
Temitope Adeyemo
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