Banker’s Guide to Startup Loans

Banker’s Guide to Startup Loans

Acquiring an SBA loan can sometimes be difficult. Commercial banks avoid startup loans due to the high risk and low profitability of this type of SBA loan. The limited SBA lenders who do startup funding tend to charge high fees and interest. Our guide seeks to educate entrepreneurs on what it takes to get a loan for their startup, franchise, or small business acquisition at reasonable terms.

Continue reading to learn how to apply directly for a business acquisition loan, franchise loan, or startup loan from one of Heritage Financing’s preferred lenders! Applying directly will save you time and money.

A Banker’s Guide to Startup Loans

By Jordi Arimany

The Challenge

No one begins a venture planning to fail, yet people commonly say that 9 out of 10 startups do. When it comes to funding a startup even your loved ones are reluctant to lend you money. The success or failure of your startup depends solely on the entrepreneur not on the availability of capital. For the purpose of hacking your funding strategy we will presume that your venture will be successful.

Capital Constraints

The limited availability of capital is an entrepreneurial reality. We must determine how much capital you have available to invest, raise and borrow to determine whether you are on the right track with your plan. Size your plan to your capital constrains and your risk tolerance. You should not start a venture that you cannot fully execute by a lack of funding.

The success of a startup is not dependent on the initial capital amount with which it’s started. The publisher Inc. compiles an annual list of the 5,000 fastest-growing companies in the US, surprisingly the vast majority of these successful companies are started with less than $20,000 and only a small percentage start with over $100,000.

A Word of Encouragement

In the capital markets, most of us are on-demand side. The lack of money is very painful and this makes us feel as though obtaining capital is very difficult. The supply side has the opposite problem. Banks and other institutional lenders have surplus liquidity. Lenders are under immense pressure to generate loans. When lenders cannot deploy this liquidity into loans they are forced to invest in temporary low-yield instruments such as US Treasuries. This is why the competition for loans between banks is fierce. The issue is whether the borrower is bankable.

Bank’s Aversion to Risk

Lenders cannot afford loan losses. Commercial lenders must keep loan portfolio losses at 50 basis points (0.50%) or below. This means that after a loan default and the bank exhausts all recovery efforts it should only impact their loan portfolio by 0.50%.
Let’s do the math:

  • For the purpose of example, Let’s say a bank does a loan for $100,000. The loan goes bad with a $80,000 balance. If after liquidating collateral our bank is able to recover $30,000 the final loss amount would, therefore, be $50,000.
  • A healthy lending institution wants to maintain its portfolio losses at 0.50% or less. Therefore, in order to support a $50,000-loss the lender must have a loan portfolio of $10 million ($50,000 / 0.50%).
  • It feels as though 50 basis points are a little exaggerated but it really isn’t. Lenders make money through interest spreads. Every lender has a different cost of capital. As an example, say the commercial bank has a cost of funds at 4.75%, the current US Prime rate. If your loan is at 7%, the interest margin for the bank would be 2.25% (7% – 4.75%). This 2.25% must support the bank’s operating expenses and its portfolio losses.

Pro Tip: An SBA loan reduces the bank’s exposure to losses significantly allowing the bank to further mitigate risk. SBA usually covers 75% of the bank’s losses. Therefore, our $50,000 loss with an SBA guarantee would be reduced to $12,500.

We must translate the entrepreneurial value creation opportunity into the lender’s risk aversion language. We must align our funding strategy to the appropriate loan programs, as each has a different tolerance for risk.

Pro Tip: A low personal credit score will result into a loan decline. Use credit repair services if your credit score is under 680 to improve your startup loan outcome.

Let’s explore how banks analyze commercial loans as this determines our borrowing capacity and lead the way to our funding hacks.

Loan Repayment Analysis

A loan can be repaid three ways:

  • Cash Flow – the first and foremost analysis of repayment ability is cashflow. Banks determine repayment ability by calculating the Debt Service Coverage Ratio (DSC). The higher this ratio, the better. Lenders will seldomly lend with a DSC ratio of less than 1.25X. For example, if your monthly debt payment is $1,000 your business must generate free cash flow of $1,250 to maintain a ratio of 1.25. Banks use 2 to 3 years of historical cashflows to calculate DSC ratio and are reluctant to take projections too seriously. This our main handicap to startup loans.

Banks can mitigate historical cashflow risk by requiring a higher equity injection, more collateral, the guarantors’ personal income and/or using an SBA loan guarantee.

Heritage Finance is able to do SBA startup loans above $500,000.

  • Sale of Collateral – the secondary form of loan repayment is through the liquidation of collateral. Banks use the Collateral Coverage Ratio to determine the loan’s collateral adequacy.

Each kind of collateral is discounted differently to determine its liquidation value, discount rates may vary a little between lenders. The discounted collateral value is divided by the loan amount. This may also be referred to as LTV (loan to value). This ratio should be at minimum 1:1. Below a common discount rate for each type of collateral:

  • Real estate is discounted at 80%
  • New machinery or equipment can be valued at 80%
  • Used machinery and equipment at 50%
  • Furniture and fixtures at 10%
  • Inventory at 10%

For example, if you purchase $100,000 in used equipment, the bank will give this inventory a collateral value of $50,000. This results in a collateral shortfall of $50,000. Banks can mitigate this collateral shortfall by requiring the pledge of additional collateral and/or by using an SBA loan guarantee.

  • Guarantor’s Global Cashflow – Banks will add up the cashflows of related companies or individuals guaranteeing the loan and subject them to a DSC ratio analysis as described above. The revised DSC ratio should be greater than 1.25X.

In a startup situation the loan approval may be dependent on the historical global cashflow but it cannot neglect the stand-alone forecasted DSC rate the project. The startup must forecast a DSC ration of at least 1X for loans under $350,000 and 1.25x for larger loans within the first three years. In other words, regardless of global cashflow, the bank would not approve a loan if startup is not going to make money.

Obtaining a startup loan has challenging obstacles. Thankfully, we have some available startup funding hacks.

Hack 1 – Get an SBA startup loan

This hack as it requires stellar credit risk mitigants. If you are a strong borrower with great personal credit, comfortable personal liquidity, sufficient collateral, and a sizeable equity injection you may be able to make up for the lack of historical financial statements with an SBA loan.

SBA Startup loans between $20,000 and $150,000

For SBA startup loans under $150,000 you will need at least 10% equity injection; personal credit score above 675, high risk industries such as restaurants will require a score of 750+; $25,000+ in personal liquidity; credit card balances below 30% and; personal debt to income ratio of 40% or less, this means that if you have monthly income of $5,000, you personal debt payments should not exceed $2,000 (40% of $5,000).

Apply directly with our funding partner at:

Pro Tip: Need help with your loan application? Visit your local Small Business Development Center or Score Chapter to meet with free business counselors at:

SBA Startup loans above $350,000

Our funding partners carry more risk with larger loans. There will be a greater emphasis on your business plan and projections. You will need to have a congruent plan and industry experience. You should plan a minimum equity injection of 10% or more.

Reach out to us to apply.

Hack 2 – Get a personal loan with your business as the borrower

Personal loans are analyzed very different than commercial loans. Loan amounts and interest rates are quickly determined on the basis of your credit score and personal income. There are many lenders that will provide personal loans of up to $100,000, some will go up to $250,000. These loans are typically unsecured, meaning they will not require the pledge of collateral. This also means the interest rate will be higher than a commercial loan due to the lender’s additional risk.

The key here is that while the loan is approved as a personal loan it should be disbursed in the name of the business. This makes the business the borrower, not you. Therefore, the loan is not reported in your personal credit score and will not reduce your ability to borrow as an individual. Only a few lenders are willing to do a business loan underwritten as a personal one.

At Heritage Finance, our unsecured business startup loans range from $20,000 to $200,000. You can expect 7% to 12% interest and a loan origination fee between 1% to 3% but it may be higher if the loan amount is small.

Apply directly with our lending partner here:

Application will not affect your personal credit score and will help you determine your loan eligibility amount.

Pro Tip: Adding a guarantor such as your spouse will increase your combined personal income, thus increasing the amount you will be approved for.

Hack 3 – Use an SBA loan to buy a business instead starting one

Buying a business will allow the commercial lender to use the target business historical income to analyze debt repayment ability, this will increase your ability to borrow significantly.
SBA requires an equity injection of 10% and sellers commonly finance between 10%-20%. Seller financing enhances a loan but is not required. Some of our lending partners are able to fund deals with equity injections as low as 5%. Therefore, a $50,000 equity injection could be leveraged to buy a business worth $1,000,000.

Heritage Finance specializes in business-acquisition loans. Contact us to apply.

Hack 4 – Have you 401K buy stock in your company

A little tricky and expensive compliance wise but it is possible to issue stock as a C-corporation and have your 401K buy this stock. This shouldn’t be done unless your 401K is investing $100,000 or more into your business.

Pro Tip: Use this hack to source your required equity injection for a business acquisition loan. We recommend

Hack 5 – Use a HELOC

Getting a Home Equity Line of Credit (HELOC) is the cheapest source of funding for your business. A HELOC allows you to draw only the amount you need and is interest only for the first 10 years. Since a HELOC is given under your personal name the proceeds of this loan must be either injected as equity into the business or given to the business as a shareholder loan. Many people are reluctant to borrow against their homes. Keep in mind the following, if you have equity in your home and your credit needs increase, a commercial lender may require the pledge of your residence as collateral.

Hack 6 – Maximize the use of supplier credit & leases

Negotiate trade financing with your suppliers. For example, an inventory supplier may be able to give you 30-day payment terms thus reducing the amount of required working capital. In addition, an equipment provider may offer leasing. Consider leasing before buying in order to minimize the cash outlay amount needed to run and start your business.

Pro Tip: You will find startup loan offerings at 0% financing for 12 to 24 months. These are straight forward credit card promotions. Interest rates will readjust after promotional period ends.

Hack 7 – Use business credit cards

Along the lines of maximizing supplier credit, business credit cards should be used strictly to extend your payment cycles a little. This will further reduce your needed capital outlay. Business credit cards are based on your personal credit score and your self-declared annual income. A business credit card is not reported in your personal credit score.

Hack 8 – Borrow from your friends and family with institutional formality.

Friends and family hate the idea of chasing you to collect their monthly payments. What if you could use a third-party to service the loan for them? This is the premise of peer-to-peer lending. Your friends and family use a platform such as to lend you money. Kiva formalizes the loan and collects payments from you on behalf of your friends and family.

Pro Tip: Check out if Kiva partners with your city under the Kiva City program. Some cities provide matching funds to promote access to capital meaning your friends and family may only need to lend you $5,000 for you to get $10,000. See,

We hope these startup funding hacks prove helpful and that you choose Heritage Finance for your business credit needs. You may reach me at


Jordi Arimany is co-founder of Heritage Finance. He is an expert in SBA and commercial lending with over 10 years of banking experience. He is a passionate entrepreneur advocate that has been involved in dozen startups as co-founder or advisor.

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