October 31, 2013
Small Business, Bad Credit, And Fixing It In A Single Bound
Although everyone has a high-level understanding of what a credit score means and why a good personal credit score is important, it’s critical for every small business owner looking for a loan. Unless your company is a sexy startup poised to scale with a little investment from a venture firm or other equity investor, its likely you’re going to rely on debt to fund working capital or expansion. Granted, there are some lenders that weigh credit scores differently than others. For example, traditional lenders, like banks have a lower threshold for risk than do many alternative lenders so a credit score below 700 won’t get you very far with a banker.
Nevertheless, every lender, even alternative (non-bank) lenders look at your credit score to evaluate whether or not they’ll offer a borrower credit, so it makes sense for a small business owner to know what it is and what it says.
800 plus: Excellent rating. There are no late payments or collections on your credit report. You have a long history with the credit rating bureaus and will likely qualify for the lowest rates at any financial institution.
750-800: Very good rating. There are no late payments or collections on your credit report. You likely have a shorter history with the rating bureaus, but will also likely qualify for the lowest rates at any financial institution.
700-750: Good rating. You don’t have any recent late payments or collections on your report. You should be able to get a pretty good rate at any lender.
650-700: Fair rating. You may have some recent late payments or collections, but not currently. You should be able to get a pretty good rate at just about any lender. You should focus on repairing your credit.
600-650: Bad rating. You are struggling with collections now and have struggled in the past. Because of your credit rating, you are likely going to have to pay a higher interest rate, but there are some lenders that will offer better rates than others. You should focus on repairing your credit.
Below 600: Very bad rating. You are in the middle of collections now and have struggled in the past. You will pay a high rate for credit because of your rating and should focus on repairing your credit.
This might seem like an oversimplification for some readers because there are other factors that could impact your credit rating. For example, new borrowers that haven’t had a very long track record won’t have as high a credit rating as someone who has been utilizing credit for a while. The amount of your available credit you use also impacts your credit rating. For example, those with an 800+ rating probably use somewhere around 10 percent of their available credit at any given time while those with a rating of 600 or below are likely maxed out.
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Unlike large corporations, most Main Street business owners are judged on their personal credit as well as any business credit rating they might have. When any lender evaluates whether or not they will extend credit, there are other metrics, but credit score is at the top of the list:
Credit score—both personal and business score
Years in business—most lenders want to see at least two, most banks would like to see even longer
Annual revenues—this is one of the ways lenders will evaluate your ability to repay a loan
Collateral—there are different types of collateral depending upon the type of loan your looking for, but whether it’s a piece of real estate for a traditional small business loan, or your credit card merchant transactions in the case of a merchant cash advance, lenders typically want collateral
Credit score is #1 for a reason. Depending upon the lender it could be the primary reason your application for credit is rejected. That doesn’t mean an imperfect credit score will make it impossible to find small business financing, but it might dictate where you can look.
I think it’s safe to say that Main Street has taken a beating in the credit department over the last few years. Robbing Peter to pay Paul is something every business owner has to do from time to time, and the tightening of credit requirements for the smallest small businesses hasn’t let up much (as it has for larger small businesses and big business generally).
Because improving your credit rating is such a critical factor to successfully obtaining a small business loan, here are a few suggestions that might help you improve your score:
Monitor your credit report: Make sure the information is correct and that your credit report reflects reality. Make sure accounts that aren’t yours aren’t reported on your report. Bankruptcies over 10 years or the associated accounts shouldn’t be reflected on the report. Other negative information older than seven years should not be on the report either. Equifax, Experian, and TransUnion are where you’ll want to go to see your current credit reports.
Get a major credit card: A MasterCard, VISA, Discover, or Amex will help you start building your credit into the 700+ range. Remember, you need to wisely use credit to build more credit.
Arrange automatic payments on every card or loan: It’s easy to forget to make a payment when it’s due or when travel or a busy schedule distract you. Credit scores are very sensitive to whether or not you make payments on time.
Don’t let disputes go to collections: If you have a dispute with a vendor and you allow it to escalate to collections, it doesn’t look good on your report. Pay under protest and go to small claims court. Don’t get sued though, lawsuits and judgments are also major dings to your credit.
Consolidate your debt if you can’t pay it off quickly: The scoring criteria treats installment loan balances kinder than the same balances on a credit card. Once you’ve consolidated, be wise with your credit card balances and avoid running them up.
Take debt off your credit report entirely: This is a tough one, but family, friends, or dipping into your retirement plan is sometimes a good way to get credit off your report. Be careful when dipping into your 401k. If you change jobs without paying the balance, there are tax consequences.
Don’t close accounts or let them be closed: It might not help your scores and could hurt them. If you’ve got a card you haven’t used for a while, take it out to dinner or buy a tank of gas, just make sure they’re included with your other automatic payments.
Don’t apply for credit you don’t need: At about 5 points an application, if you have sketchy credit, it can add up.
Unless your company is one of the sexiest of the sexiest tech startups able to attract equity investors in a single bound, it’s more likely you’ll be relying on debt to finance your small business. Which makes monitoring and protecting your credit score vitally important. Depending on the status of your score today, you might need to invest some time to make it better, but remember, even if your credit score isn’t perfect, there are still options for small business financing.