7 Key Lending Ratios That Banks Check for Business Loans

Applying for a business loan can feel overwhelming, especially when you know that lenders will closely examine your company’s finances. But what exactly are they scrutinizing? The answer: a set of important financial ratios that tell them how healthy and stable your business is. 

These lending ratios serve as a financial report card for your business, showing banks how likely you are to repay their money on time. For MSME owners and small businesses, understanding these seven key ratios is crucial – not only for loan approval, but also for long-term business health. 

Why Do Banks Care About Lending Ratios?

Lending ratios help banks quickly evaluate the financial strength and stability of your business. These ratios reveal how well you manage debt, generate profits, and maintain enough liquidity to handle unexpected expenses. By checking these numbers, lenders can assess the likelihood that you’ll repay your loan on time and measure your overall eligibility for credit. Strong financial ratios indicate a healthy, dependable business, making it more likely for your loan application to be approved.

Let’s break down the seven most important lending ratios that banks check when you apply for a business loan.

Debt Service Coverage Ratio (DSCR)

This is one of the first numbers a bank will look at. The DSCR measures if your business generates enough cash to cover its current loan payments (and the new one you’re applying for). 

What it means: Do you have enough income to pay your debts as they come due? 

Formula:
DSCR = Net Operating Income / Total Debt Service 

• Net Operating Income: Revenue minus operating expenses (before taxes and interest) 

• Total Debt Service: The sum of all principal and interest payments you owe each year 

What to aim for:
A DSCR of 1.25 or higher shows you have a comfortable buffer. If it’s below 1.0, it signals a risk to the bank. 

Current Ratio

The current ratio tells lenders whether your business can pay off its short-term debts with its short-term assets. 

What it means: Can you cover your immediate bills and obligations? 

Formula:
Current Ratio = Current Assets / Current Liabilities 

• Current Assets: Cash, inventory, receivables (convertible to cash within a year) 

• Current Liabilities: Bills, short-term loans—anything due within a year 

What to aim for:
A current ratio between 1.5 and 2.0 is ideal. Below 1.0 may worry lenders that you can’t meet your obligations. 

Debt-to-Income Ratio (DTI)

Often used for individuals but relevant for small businesses, especially sole proprietorships. This measures how much of your income is already committed to paying debts. 

What it means: How stretched is your business with existing debt payments? 

Formula:
DTI Ratio = Total Monthly Debt Payments / Gross Monthly Income 

What to aim for:
Banks prefer a DTI below 43%. The lower, the better—it shows you have breathing room for a new loan. 

Debt-to-Equity Ratio

This ratio compares what your business owes to what it owns (your equity). It tells lenders about your financial leverage. 

What it means: Are you funding your business more with borrowed money or your own investment? 

Formula:
Debt-to-Equity Ratio = Total Liabilities / Shareholder’s Equity 

What to aim for:
Lower is typically better—high debt may signal risk, although what’s “high” can depend on your industry. 

Gross Profit Margin

Banks want to see that your company is efficient in its production or sales. 

What it means: How much money is left after covering the direct costs of goods sold? 

Formula:
Gross Profit Margin = (Revenue – Cost of Goods Sold) / Revenue 

What to aim for:
A higher margin means greater efficiency. Compare with others in your industry to set benchmarks. 

Net Profit Margin

This shows what percentage of revenue remains as actual profit after all expenses. 

What it means: How much does your business actually keep from what it earns? 

Formula:
Net Profit Margin = Net Income / Revenue 

What to aim for:
Consistent and healthy net profit margins show strong business management. 

Inventory Turnover Ratio

For retail, manufacturing, or trading businesses, this ratio tells banks how quickly you sell and replace your inventory. 

What it means: Is your stock moving—or sitting idle? 

Formula:
Inventory Turnover = Cost of Goods Sold / Average Inventory 

What to aim for:
A higher turnover rate means you’re efficiently turning stock into sales. Too low could suggest overstocking or slow-moving goods. 

How TallyCapital Supports Your Business Loan Journey 

Juggling all these ratios while running your business can feel like a lot. That’s where TallyCapital comes in. Our tools are designed to help MSMEs: 

• Quickly Check Loan Eligibility: See where you stand with lender requirements using your real business data via TallyPrime. 

• Easily Track Financial Ratios: TallyPrime lets you generate up-to-date reports, so you always know your important numbers. 

• Make Confident Loan Decisions: Armed with a strong understanding of these ratios, you can apply for loans with greater confidence and success. 

By paying attention to these seven key lending ratios, you’ll put your business in a stronger position, not just for loan approval, but for growth and sustainability. Regularly review these numbers and use TallyCapital’s supportive tools to guide your financial strategies. That way, the next time you approach a bank for funding, you’ll be more than ready. 

While lenders look at your entire business profile, these financial ratios provide a quick and powerful snapshot of your company’s health. By understanding and actively working to improve your DSCR, Current Ratio, DTI, and Profitability Ratios, you’re not just preparing for a loan application—you’re building a stronger, more resilient business. 

Don’t wait until you urgently need funds to start thinking about these numbers. Regularly monitoring your lending ratios will put you in a position of strength, ready to seize growth opportunities with the right financial backing.