Borrowing for the Business: What the Bank Looks At Before the Rate

The gate is coverage, and nobody sets its height by law

The debt service coverage ratio is one division: the cash the business has available to service debt over a period, divided by the principal and interest falling due in that same period. Above 1.00 the business can pay from its own operations; below 1.00 it is paying from somewhere else — the shareholder, an overdraft, an unpaid supplier. A bank does not lend at 1.00 because 1.00 leaves nothing for a bad quarter, so it sets a floor above it and writes that floor into the contract as a covenant it will test every year.

Two things about that floor are worth knowing before you go in. The first is that no statute sets it. There is no legal minimum coverage ratio anywhere in the European Union — the number in your term sheet is a commercial decision by that bank about that sector at that moment, and it is negotiable in the way any contract term is negotiable. The second, and more useful, is that the numerator is not standardised either. One bank puts EBITDA on top; another deducts tax and maintenance capital expenditure to get what project finance calls cash flow available for debt service; a third adds back the owner's discretionary remuneration and a fourth refuses to. The same business can show 1.42 or 1.05 depending only on the definition, so before arguing about the threshold, find out what goes into the fraction.

Run the case in the other direction and it becomes a target rather than a verdict. With 60,000 of existing service and 400,000 borrowed at 4.5 % over seven years, total service is 126,721 a year. To clear a covenant of 1.25 the business needs 158,401 of cash available; at 1.20 it needs 152,065 and at 1.50 it needs 190,081. Shorten the same loan to five years and those requirements become 186,858, 179,384 and 224,230 — the covenant did not change, the amortisation profile did. That is the single most useful thing to compute before the meeting: not whether you pass today, but how much of the answer is being set by the shape of the repayment rather than by the health of the business.

The term is the lever, and it is twelve times the rate

This is the computation that reorders the whole conversation. Same business, same 400,000, three variations. At 4.5 % over five years the annual service is 89,486 and coverage is 1.2041. Cut the rate to 3.5 % — a full percentage point, which almost nobody gets — and the annual service is 87,320 and coverage is 1.2218. The rate concession bought 0.0177 of coverage. Now put the rate back at 4.5 % and take seven years: annual service 66,721, coverage 1.4204. The term bought 0.2163, which is 12.2 times what the rate cut bought.

The third variation is the one that ends the argument. Accept a rate a full point worse than the original — 5.5 % — and take the seven years anyway. Annual service is 68,976, total service 128,976, coverage 1.3956. That is 0.1915 of improvement, still 10.8 times what a point off the rate delivers. In other words, a borrower who trades away an entire point of margin in exchange for two years of term ends up more than ten times better off on the ratio the credit committee actually votes on. The rate is the number the borrower brings to the meeting; the term is the number that decides it.

None of which makes the term free, and the article would be dishonest if it stopped there. The five-year loan at 4.5 % costs 47,432 in interest over its life. The seven-year loan at 5.5 % costs 82,833 — 35,401 more, for the same 400,000 of borrowing. The point cut you did not fight for was worth 10,831 over five years. So the trade is explicit: you buy roughly 0.19 of coverage headroom, and the covenant compliance that comes with it, for about 35,000 of interest spread over seven years. Whether that is worth it depends on how close you are to the floor and on what breaching it triggers — which is a clause you should read before you read the rate.

What the regulator makes the bank ask you

The document list is not the bank being difficult. Since 30 June 2021 the European Banking Authority's guidelines on loan origination and monitoring, EBA/GL/2020/06, require institutions across the Union to base the creditworthiness assessment on the borrower's ability to generate cash rather than on the value of what could be seized, and to test that ability against adverse scenarios rather than a single base case. The same guidelines have applied since 30 June 2022 to existing loans that come up for renegotiation. That is why the file asks for projections and not only for history, and why a business plan with one column is worth less than one with three.

National law adds hard edges to that. Paragraph 18 of the German banking act forbids an institution from granting credit exceeding 1.5 million euros in total, or 10 % of its core capital, unless it has had the borrower disclose their financial position, in particular by producing the annual accounts — a statutory duty on the bank, not a preference, and one it can only waive where security or co-obligors make the request manifestly unreasonable. In France, the Banque de France assigns companies a cotation used by lenders and by the Eurosystem when deciding which claims are acceptable as collateral; the scale moved to twenty-two notches on 8 January 2022, replacing the previous thirteen, and the reference guide is public. A rating you have never looked at is nonetheless in the room when your file is discussed.

Spain went further than either and gave the borrower a right rather than a duty. Articles 1 and 2 of Law 5/2015 of 27 April 2015 require a bank that intends to cancel or cut by 35 % or more the flow of financing to an SME to give at least three months' notice, and then to hand over, free and within ten working days, a standardised Financial Information document. That document contains the declarations made to the central credit register, five years of credit history, the account movements of the last year and — the part that matters — the bank's own rating of the borrower, computed under a standard methodology fixed by the Banco de España in Circular 6/2016 of 30 June 2016. It is the only place in the four countries where the bank has to show you its opinion of you in a comparable form.

The personal guarantee is the second price, and France changed it in 2022

A personal guarantee moves the lender's exposure off the company's balance sheet and onto yours: cover half of a 400,000 loan and 200,000 of the risk stops being a business risk. Everyone treats this as a formality signed at the end of the meeting. It is the second price of the loan, and it is usually larger than the first — a point of rate on 400,000 is worth about 4,000 in the first year, while a guarantee can be worth the whole 400,000 against everything you own.

France reformed this in a way that went the borrower's way on form and against it on substance. The ordonnance of 15 September 2021, in force since 1 January 2022, moved the proportionality rule into article 2300 of the civil code: a guarantee given by a natural person to a professional creditor that was manifestly disproportionate to the guarantor's income and assets when it was signed is now reduced to the amount they could have committed at that date. Before the reform, the creditor simply could not rely on such a guarantee at all. Reduction instead of annulment is a real narrowing of the protection, and it is not what most summaries say. Article 2297 governs the wording the guarantor must write in their own hand, and article 2299 obliges the professional creditor to warn a natural-person guarantor where the debt is manifestly beyond the debtor's means.

Germany protects the form and then removes the protection for business people. Paragraph 766 of the civil code requires a guarantee to be given in writing and expressly excludes electronic form — a signed scan is not a guarantee. Paragraph 350 of the commercial code then disapplies that requirement where the guarantee is a commercial transaction on the guarantor's side, which is exactly the position of a merchant guaranteeing their own company's debt. Add that most bank forms are drafted as a self-debtor guarantee, waiving the defence that the lender must pursue the company first, and the practical result is a fast, informal, immediately enforceable personal liability. The lesson is the same in every country: the guarantee clause deserves more of your reading time than the rate does.

Why the rate comes last, and what is actually negotiable

The rate arrives last because it is computed, not chosen. The bank funds itself at some cost, holds regulatory capital against your exposure according to a risk weight that depends on the internal rating and the exposure class, provisions for expected loss, adds an operating margin and prints the result. Because capital is one of the inputs, the size and classification of your total exposure changes the price directly: article 501 of the capital requirements regulation, as amended by regulation 2024/1623 applying from 1 January 2025, adjusts the capital charge on non-defaulted small and medium enterprise exposures below a threshold measured on what the whole group owes that institution. Cross the threshold and the same borrower becomes structurally more expensive for reasons that have nothing to do with the borrower.

So the list of things you can actually move is short, and none of it is the headline rate. The term and the amortisation profile, as the arithmetic above showed. A grace period on principal, which is the same lever concentrated in the first year. The covenant definition and the covenant level, and above all what a breach triggers — an information duty, a margin ratchet or an immediate acceleration are three very different contracts wearing the same word. The scope of the guarantee, its duration and whether it steps down as the loan amortises. The arrangement fee and any early repayment indemnity. And whether the loan is secured on the asset it finances rather than on you.

One last asymmetry is worth carrying into the room, because it applies after the loan is signed. Continuing facilities — the overdraft, the receivables line — can be withdrawn, and the notice you get is set by law and not by the contract. In France, article L. 313-12 of the monetary and financial code requires written notification and a notice period agreed when the facility was granted, which may not be shorter than sixty days on pain of the termination being void, and obliges the bank to give its reasons on request; no notice is due where the beneficiary has behaved in a seriously reprehensible way or the situation is irremediably compromised. In Spain the equivalent is three months under Law 5/2015 plus the standardised information document. That difference matters more to a going concern than any rate, because it is the difference between two months and three to find a replacement lender.

Frequently asked questions

What coverage ratio do banks require?

There is no legal answer, and anyone who gives you one figure is quoting a habit rather than a rule. No statute in the European Union sets a minimum coverage ratio for business lending; the level in your term sheet is a commercial choice by that bank for that sector at that moment. What matters more than the level is the definition, because the same accounts produce very different ratios depending on what the bank puts in the numerator — EBITDA, EBITDA less tax and maintenance capital expenditure, or cash flow with the owner's discretionary pay added back. Ask which one before you argue about the threshold, and model your own case both ways.

So should I stop negotiating the rate?

No — negotiate it, but stop treating it as the decision. A full percentage point off a 400,000 loan over five years is worth 10,831 of interest, which is real money and worth an email. It is simply not worth as much as the term: the same point improves the coverage ratio by 0.018 while two extra years improve it by 0.216. Put differently, if the loan is refused at 4.5 % over five years, winning the rate will not rescue it and restructuring the repayment might. Negotiate the rate after the structure is settled, not instead of settling it.

Can the bank make me guarantee the whole loan personally?

It can ask, and in most small business lending it will. What it cannot do, in France, is enforce a guarantee that was manifestly disproportionate to your income and assets on the day you signed — since 1 January 2022 article 2300 of the civil code reduces it to what you could have committed at that date. Note what changed: before the 2021 reform of security law the creditor could not rely on such a guarantee at all, so reduction is a weaker protection than the one most summaries still describe. In Germany the written form required by paragraph 766 of the civil code does not protect a merchant guaranteeing their own company, because paragraph 350 of the commercial code disapplies it. In every country, the negotiable parts are the amount, the duration and whether the guarantee reduces as the loan amortises.

Can the bank cut my overdraft without warning?

Not in France or Spain, in the ordinary case. Article L. 313-12 of the French monetary and financial code requires written notification and a notice period fixed when the facility was granted, which may not be less than sixty days, on pain of the termination being void; the bank must also give its reasons if the business asks, and those reasons may not be disclosed to a third party. In Spain, articles 1 and 2 of Law 5/2015 require three months' notice before a facility to an SME is cancelled or cut by 35 % or more, plus a free standardised Financial Information document within ten working days. Both regimes fall away where the beneficiary has behaved in a seriously reprehensible way or the situation is irremediably compromised — which is precisely when a business most wants the notice.

Why does the bank want three years of accounts for a business that is two years old?

Because the file it has to build is defined by the rating model, not by your history, and a missing year is an input the model cannot fill. Where the history does not exist, the substitutes are projections tested against adverse scenarios — which is exactly what the European Banking Authority's guidelines have required since 30 June 2021 — plus third-party comfort: a mutual guarantee scheme, a public guarantee institution, a co-signer, or security over the financed asset. That is why a young business is often offered a smaller amount over a shorter term against a stronger guarantee rather than a higher rate: the bank is not pricing the risk, it is refusing to hold it. Build the projections in a form the bank can stress rather than in a form that flatters, and expect to be asked what happens if revenue falls by a fifth.