Top 5 Reasons Why Lenders Hesitate to Grant SME Loans

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The MSME sector is a vital part of Indian economy, since it helps to drive the country’s growth by generating employment for a large part of the population.  However, one of the significant challenges faced by this sector is lack of proper financing.

According to a recent survey, total bank credit advanced to small and micro enterprises has dropped from 17.3% in 2010 to 13.6% in 2019. This has led many of the small businesses to avail loan from unorganised sectors at high interest rates, often resulting in debt accumulation.

In such cases, borrowers have to ensure that their application for credit gets approved without any risk of rejection. Thus, borrowers must have a comprehensive idea regarding why lenders reject business loans. There are several reasons why a business loan application risk rejection One must keep them in mind to improve their chances of approval for an SME loan. They include – 

  • The age of your business

Lending institutions consider the vintage of a business while approving a business loan application. The age of a company is indicative of its performance. Furthermore, lenders again try to ascertain the prospects based on its past track record. If the organisation shows potential for growth in future, then lenders will be more willing to advance funds.

  • Low credit score

Credit score is one of the chief parameters that lending institutions refer to while sanctioning business-related credits like SME loans to assess the organisation’s repayment capacity. However, most business organisations do not have a clear credit history. As such, their credit score can also be nil or non-existent. Consequently, lenders either reject the loan application or charge high interest to cover the risk associated.

Consequently, entrepreneurs and owners should try to maintain a healthy credit score which will enable them to get approved for a business credit quickly. To ensure that their business CIBIL score stays above 700, they can adopt the following measures – 

  • Repaying loan EMI, bills on time
  • Maintaining a credit utilisation ratio within 30%
  • Improving their fixed obligation to income ratio

Individuals who have a high credit score will not only get approved for credit quickly; they can also negotiate with lending institutions for better interest rates and terms.

Lending institutions such as Bajaj Finserv also provide pre-approved offers to borrowers which streamlines the loan application procedure. Besides a personal loan, these offers can also be availed on other unsecured credits like business loans, credit cards etc. One can check their pre-approved offers by entering nominal information like name and contact information.

  • Inadequate collateral

Lending institutions offer secured business loans against an asset such as building, inventory, etc. The loan value provided by lending institutions will be equal to the value of the asset pledged.

In case the borrower fails to repay the loan amount, the lender will acquire the property and sell it to raise the loan amount. However, since most small and micro-enterprises do not own any asset of substantial value that can be pledged as collateral, they cannot qualify for secured SME loans. 

  • Not enough cash flow

Lending institutions also verify the cash flow of business before sanctioning the loan application. It is done to assess whether it will be able to pay the EMI on time. Cash flow can be defined as the measure of money earned and utilised to keep the business operational.

Inadequate cash flow is one of the main reasons why lenders reject loan application of start-ups and seasonal businesses. However, seasonal businesses can use flexi-loans to boost their revenue.

Lending institutions may also tend to deny financing to businesses from several high-risk industries since they have a lesser chance of attaining success, in which case, they may default on SME loan repayment.

Besides understanding the reasons why lenders reject loan applications, they should also go through the eligibility parameters set by lending institutions before applying for a loan for business, as failing to meet any of these will cause immediate rejection of one’s loan application. These include the following – 

  • Business vintage of a minimum of three years
  • Applicants must be within the age of 25 – 55 years
  • They should maintain a high credit score and positive repayment history
  • Income tax returns should also be filed at least for the previous year

Additionally, individuals must remember to submit proper documentation for verification procedures which will ensure fast approval of their SME loan.

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