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- Interest rates have been steadily increasing since 2022, making borrowing money more expensive and making it more difficult to get approved for small business loans
- Reasons for loan denial include having too much debt, having a bad credit score, not meeting the lender’s eligibility requirements and insufficient collateral
- There are alternatives to small business loans, such as grants, business credit cards, crowdfunding and personal loans
Higher rates cool borrower demand and encourage lenders to tighten their credit standards. As a result, we’ve seen a notable drop in small business loans being issued. In the first quarter of 2023, data from the Federal Reserve Bank of Kansas City shows a 15 percent decrease in new term small business loans and a 17.2 percent decrease in new lines of credit compared to the same period in 2022.
So, what’s going on? And perhaps more importantly, how can you get the business loan you need in 2023? Here’s a closer look.
Why are business loans hard to get?
To fight the sky-high inflation we saw in recent years, the Fed decided to continually raise the Federal Funds Effective Rate between March 2022 and August 2023. A higher Fed rate encourages all lending institutions to raise their interest rates accordingly, making borrowing more expensive.
Over the same period, the July Senior Loan Officer Opinion Survey (SLOOS) shows that a majority of banks reported tightening their lending standards for small business loans.
Ultimately, this means business loans are harder to get for two reasons. First, they come with high eligibility criteria, eliminating many business owners from the borrowing pool. Plus, high business loan interest rates make financing unaffordable for some businesses.
Rising interest rates impact on business lending
Rising business loan interest rates impact borrowers in two ways. First, the cost of borrowing might be enough to keep would-be applicants away. But even if you decide to apply, lenders factor the cost of your loan payment into your overall finances. The more that payment is — something interest rates directly impact — the harder it is to get approved.
That’s tough news because both variable and fixed interest rates have steadily increased. Between Q1 2022 and Q1 2023 alone, the Kansas City Federal Reserve’s Small Business Credit Survey shows fixed rates on term business loans jumped 275 median basis points from 4.25 to 7 percent. Over the same period, variable term loan rates rose from 4.4 to 7.9 percent, a 350 basis point climb.
All told, borrowers are looking at paying far more in interest thanks to rising business loan interest rates.
A basis point — which you might see abbreviated as bp or bps — equals 0.01%. It’s a common finance measurement used to describe interest rate changes. So, in the example above, a 275 basis point increase means an interest rate bump of 2.75% (275 basis points x 0.01% = 2.75%).
Reasons your business loan can be denied
When approving or denying small business loans, lending institutions apply their own proprietary lending standards. These vary from lender to lender, but they’re used to evaluate your ability to manage that loan and repay what you borrow.
When it comes to business loans, borrowers often fail to meet lending standards — and consequently get denied because of:
- Having too much debt
- A bad credit score (usually, this is your personal credit score)
- Inability to meet the lender’s eligibility requirements (like annual revenue or time in business)
- Insufficient collateral to back the loan
- Insufficient cash flow
- A lack of a business bank account
- Operating in a risky industry
- A lack of a business plan
Where to turn for small business financing
For many, small business loans are possible to get. There are plenty of places you may be able to turn to potentially find the money you need.
The majority of businesses with employees go this route. According to the Federal Reserve’s 2022 Small Business Credit Survey (SBCS), 87 percent of employers said they turned to small or large banks for small business loans.
The big perk of getting a bank business loan comes down to the interest rate. These well-set-up lenders have lower risk than newer players in the game because of their place in the industry and because they generally have tighter lending standards. As a result, they can charge less. In other words, banks are a solid option if you want a low-interest business loan — assuming you can get approved.
If a bank turns you down for a business loan, you have another option. You can join roughly one-third of nonemployer companies (according to the Federal Reserve’s 2023 Report on Nonemployer Firms) and go with an online lender.
These companies bypass traditional lending practices like mountains of paperwork in favor of tech-enabled processes. They also generally have looser eligibility requirements, making them a good fit for startup businesses and business owners with bad credit. The downside? They generally charge higher business loan interest rates than banks and credit unions.
The 2022 SBCS showed that 23 percent of would-be borrowers sought out a specific type of loan: one backed by the Small Business Administration (SBA).
Because SBA loans get government backing, they offer risk mitigation to the lending institution issuing the loan. As a result, even borrowers with bad credit, entrepreneurs looking for a startup business loan and those operating in historically underserved communities might have luck getting approved. Plus, SBA loans can come with low interest rates, large loan amounts and long repayment periods.
One caveat here: getting an SBA loan usually isn’t a quick or easy process. Expect to invest a fair amount of time and energy in your loan application if you go this route.
Alternatives to small business loans
Your hunt for money for your company doesn’t have to stop at business loans. Many business owners have success improving their cash flow with options like:
- Grants: If you can meet the requirements of the grant program, this route means getting money you don’t have to pay back.
- Business credit cards: Business credit cards come with several features you won’t find with business loans. You can earn rewards and discounts on shopping. You can also build credit while avoiding interest charges. How? Take advantage of a card’s grace period.
- Crowdfunding: Rather than getting one financial institution to cut you a check, you could collect money from a large number of investors, potentially including your own friends and family.
- Personal loans: If your business is too new or otherwise unable to qualify for a loan, you could always seek out the financing yourself. Lenders like Upstart offer incredibly low eligibility requirements for personal loans.
As business loan interest rates climb, the number of small business loans getting issued has been on a downturn over the last year.
While these loans might be hard to get in 2023, finding the money you need is far from impossible. If you don’t qualify for business loans from banks, you can always explore other options like loans from online lenders, SBA loans, grants, business credit cards and more.
Frequently asked questions
There are several options to help you get funding for a business idea. The SBA has invested billions of dollars in startup businesses in 2023 alone. You could also raise money from investors or crowdfunding platforms. You could apply for business grants. And if all else fails, there’s always bootstrapping (using your personal funds to get things off the ground).
It’s possible to get a business loan with bad credit. Online lenders are much more likely to approve you even with credit scores as low as 500. Getting an SBA loan might also help to offset your low score. But you’ll have to deal with high interest rates, and loan amounts may be small.