Understanding SBA Loans and Bankruptcies: Factors to Consider for Financing

Securing financing for a business venture can be a challenging task, especially when dealing with bankruptcy filings and less-than-optimal credit scores. This article aims to shed light on the intricacies of Small Business Administration (SBA) loans in relation to bankruptcies with a real-life example of a recent exchange between a potential borrower with a bankruptcy and an SBA lender contemplating the SBA loan request. Below we explore the factors that lenders typically consider when evaluating loan applications, the questions they may ask regarding bankruptcies, and the impact of credit scores on the borrowing process. By understanding these key elements, entrepreneurs can navigate the loan application process more effectively and increase their chances of securing funding.

Factors Influencing SBA Loan Consideration

When it comes to SBA loans, lenders have certain guidelines and risk assessment criteria that they adhere to. One of the crucial factors in evaluating loan eligibility is the bankruptcy history of the business owners. While many lenders may hesitate to finance ventures with recent bankruptcies, there may still be room for discussion if certain mitigating factors come into play. Lenders typically prefer a clean financial slate with no bankruptcy filings within the past seven years and higher credit scores, ideally in the 700s.

Bankruptcy-related Questions: To assess the potential impact of bankruptcies on loan applications, bankers often pose a series of questions. These inquiries help them understand the circumstances surrounding the bankruptcy and evaluate the creditworthiness of the applicants. Any SBA loan inquiry we see from a borrower with a credit score below 670 and a personal or business bankruptcy will make SBA financing very challenging for most SBA lenders, but providing detailed information to those lenders may help the borrower’s lending prospects, especially if there are mitigating circumstances.


Common questions related to bankruptcy

Identification of the Bankruptcy Filer: Who among your partnership/proposed owners filed bankruptcy and when?

Bankers seek to identify which partner or proposed owner has filed for bankruptcy and when the filing occurred. This information helps them gauge the level of financial responsibility and assess the timeframe since the bankruptcy was resolved. Note that this assessment will be done for any business owner of 20% or more of the business, as each of those owners will be asked to personally guarantee the SBA loan.

Understanding the Events Leading to Bankruptcy: What were the events surrounding the bankruptcy and why it was the chosen path?

Exploring the events leading to the bankruptcy filing is crucial. Bankers want to comprehend the underlying factors that led the individual to choose bankruptcy as a path forward. Understanding the context helps lenders assess the applicant’s ability to learn from past mistakes and make informed financial decisions.

Implications for Creditors: Did any government entity or bank sustain a loss due to the bankruptcy?

Bankers inquire whether any government entities or banks incurred financial losses due to the bankruptcy. This question aims to evaluate the potential risk the applicant poses to future creditors and lenders.

Credit Scores of Other Proposed Owners: If there are other proposed 20%+ owners, please provide their estimated credit scores (and if further explanation is needed for their scores, please provide).

If there are multiple owners involved in the business venture, bankers often request the estimated credit scores of each individual. This additional information helps lenders assess the overall creditworthiness and financial stability of the ownership group.

Factors Affecting Credit Scores: Please discuss what factors are affecting your own credit? What derogatory items are still on the report that are keeping the score in the mid-600s? 

To gain a comprehensive understanding of the creditworthiness of the applicants, bankers inquire about the factors impacting their credit scores. Applicants are expected to discuss any derogatory items still present on their credit reports that are contributing to their mid-600s scores. This allows lenders to evaluate the extent to which the applicants have resolved past credit issues and improved their financial standing.

Navigating the loan application process, particularly when bankruptcies and lower credit scores are involved, requires careful attention to mitigating factors. While recent bankruptcies and suboptimal credit scores can pose challenges, understanding the questions bankers may ask and preparing well-thought-out responses can increase the chances of securing SBA loans. By demonstrating a commitment to financial responsibility, providing comprehensive explanations for past events, and showcasing improvements in credit management, entrepreneurs can strengthen their loan applications and embark on their business ventures with the necessary financial support.