Guide to SBA Microloans: What they are and how to apply

Small business owners often struggle to access the financing they need to start or grow their company. Traditional bank loans usually require strong personal credit, significant collateral, and a long history of profitability - tough criteria for a fledgling venture to meet. The U.S. Small Business Administration's microloan program aims to fill this funding gap by offering smaller loans with more flexible eligibility standards. In this comprehensive guide, we’ll cover everything you need to know about SBA microloans to see if they may be a good funding option for your business.

What is an SBA Microloan?

An SBA microloan provides up to $50,000 in financing to small businesses and certain nonprofit childcare centers. The average microloan distributed is around $13,000. These loans are funded by the SBA but issued through mission-driven “intermediaries” - nonprofits with lending experience that also deliver management training and technical assistance.

SBA microloans can be used for a variety of business expenses like purchasing inventory and equipment, upgrading facilities, meeting payroll in a pinch, or expanding marketing efforts. The proceeds cannot, however, be put toward repaying existing debts or buying real estate.

Microloan Eligibility and Requirements

The SBA designed its microloan program specifically to serve entrepreneurs and small business owners not typically served by conventional lenders. Participants needn’t have perfect personal credit, significant collateral, or years in business to qualify.

That said, eligibility criteria varies by intermediary. Most have minimum credit score requirements in the 600s and will ask that your score hasn’t drastically declined recently. Some also stipulate that bankruptcy filings, tax liens, and overdue payments are grounds for denial if too recent. The majority necessitate borrowers put up collateral and personally guarantee repayment as well.

While microlenders realize applicants may lack lengthy track records, at minimum they want to see your venture demonstrates potential viability. For example, through steadily increasing revenue, strong cash flow, or concrete expansion plans.

Benefits of SBA Microloans

Compared to online small business loans from alternative lenders, SBA microloan interest rates are extremely competitive - averaging between 8% and 13%. This favorable pricing comes from the government backing that reduces intermediaries’ risk. Low origination fees are another perk, with maximums capped at 3% of the loan amount.

Because microloans are issued by community organizations rather than big banks, loan officers can take a more holistic, personalized approach throughout the application and funding process. They also can provide mentoring and training to borrowers that private financial institutions wouldn’t be able offer.

Repayment terms are another advantage, ranging from just a few months up to six years. That flexibility allows borrowers to structure installments according to their business’ needs and projected cash flow.

How to Apply for an SBA Microloan

Small business owners interested in an SBA microloan must apply through an approved intermediary lender in their area rather than going through the SBA itself. The agency maintains a frequently updated list of participating nonprofits searchable by location. After finding options in your region, compare interest rates and funding requirements to identify the best fit.

The application process entails submitting both personal and business documentation to prove you meet the microlender’s criteria. Information requested generally includes some combination of:

• Identification
• Business formation documents
• Business plan
• Two years of personal tax returns
• Recent pay stubs
• Two years of business tax returns
• Balance sheet
• Income statement
• Cash flow projections
• Existing debts schedule
• Collateral list

Microlenders review materials for eligibility and creditworthiness before distributing loan offers to qualified applicants. You can accept the offer and finalize loan terms to then receive your funds.

Tips for Getting Approved

With criteria less stringent than conventional financing yet still substantive, putting your best foot forward is key to microloan approval. Consider taking the following steps to boost your candidacy:

• Pay down existing debts and maintain timely payments
• Build savings to improve your debt-to-income ratio
• Only apply for the amount truly needed
• Thoroughly complete all documentation
• Be ready to explain derogatory financial history
• Provide ample assurance you can repay the loan

Even with poor credit or minimal collateral, coming across as reliable and competent could sway an officer. So can conveying your passion for the business and logical plans to deploy financing proceeds.

Seeking mentorship from a microlender prior to applying can also help you present a more appealing and informed application.

Alternatives if You Don't Qualify

If you fail to obtain a microloan, SBA 7(a) and 504 loans allow higher borrowing amounts - over $5 million - with similar advantages. The agency also offers disaster relief lending options, as well as grants and investment capital to businesses in underserved demographics.

Numerous online lenders provide small business loans with instant decisions, though likely at higher interest rates. Personal loans also represent potential alternatives, especially secured options using collateral. 401(k) business financing lets some entrepreneurs borrow from retirement savings too.

Before pursuing pricier, risky financing vehicles, consult with a microlender anyway to see if they have advice to improve your chances next application round.

The Takeaway

SBA microloans enable small business owners traditionally shut out from institutional capital to access essential, reasonably priced financing. Competitive interest rates, forgiving qualifications, and nurturing support separate them from standard bank loans and online alternatives. Through mission-driven intermediaries expressly serving enterprising members of their community, the SBA microloan program embodies the American dream.