Why Do Banks Refuse Loans?

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The loan approval process can be a nerve-wracking one. Taking on large amounts of debt can be scary and denied loans can be frustrating.

Knowing why banks refuse loans in the first place can help avoid a disheartening rejection in addition to saving you time and money.

The most common reasons for loan refusal are also the most well-known.

A lack of income (or revenue on the part of a business) to service the loan, insufficient collateral, mismatch between the declared and the real purpose of the loan, and a bad credit history are some of the most common.

There are also some reasons loans are declined that are also less obvious, however. Take a look at this list to familiarize yourself with some of the reasons borrowers are rejected to make sure it doesn't happen to you!

1. Bad Credit History

This is the first hurdle that any borrower has to clear. When you apply for a loan, banks send a request to one or more credit reporting bureaus.

These agencies collect information about your financial discipline. They collect information not only about your payment history, credit card balances, and loan balances but also fines, alimony or child support payments, and medical and utility bills.

Many loans are rejected based simply on a poor credit score or in some cases a lack of a credit history. The later is particularly relevant to new borrowers or new businesses.

2. Lack Of Credit History 

A lack of credit history can come from a number of sources. You (or your business) may have an insufficient credit history if:

  • You have never taken out a loan before
  • Your last loan was repaid over a decade ago - credit reporting agencies only maintain data for ten years or so in many cases

Lending institutions see a lack of credit history as worrying. Without a sufficient payment history there is no way for banks to verify a borrower's ability to repay.

As with all credit-related obstacles it is important to build up your credit over time by keeping your utilization low, paying your bills on time, and keeping credit inquiries to a minimum.

3. Undesirable Industry

 Before you apply for a loan, check to see if the bank you choose works with your industry. This information can often be gleaned from the bank's public statements, which give the percentage of loans that come from different industries.

Of course, if your industry is on a bank's blacklist, there is no way to know in advance without confirming it with a loan officer.

Crypto, gambling, cannabis, and others are on shaky terms with lenders - if you can confirm that a bank isn't interested in funding your industry you can save yourself time and hassle.

Not sure what your status is? Apply to several banks at once and see what comes back. It might take some time but it gives you the ability to shop around and compare rates as well as see which banks are willing to work with you and your industry.

4. Document Handling Mistakes

 A bank can ask for a number of documents to determine the ability of a borrower to repay their loan. Whether assembled by an accountant or gathered on your own it's easy to miss errors or inconsistencies that can tank a loan application.

For this reason its best to apply for a loan in person so you can talk through any concerns you have with the loan officer or bank manager.

To avoid mistakes and to ensure that you can always find the right documents on your income electronically, try using a paystub generator.

5. Existing Loans

Bank officers will see if you already have financial obligations to other institutions.

If you are regularly paying and aren't behind on these loans, that's great. Additionally, if the lender can verify that your income is sufficient to service all of your obligations this shouldn't be a problem.

On the other hand, multiple loans and insufficient income both raise eyebrows with lenders. These red flags can sink a loan application in short order.

The Bottom Line

Even if you aren't looking for a loan right now it pays to have a good credit score. This means paying your bills on time and minimizing your reliance on credit instruments. You never know when you may want (or need) a loan. Putting yourself in a good position to avoid rejections will avoid hassle and financial heartache.

Not sure you're in control of your finances? Use these tips to get ahead >>

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