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Understanding business credit

Managing Money

2 min read

When your business experiences or anticipates big growth, it will impact every area of business. Big growth means big changes. In addition to the logistical and management issues that come up, it's also likely that you'll need to raise some (or a lot) of money.

When the time comes to borrow money to grow your business, it's essential that you approach a bank with the best possible chance of being approved. The best way to do that is to assure that your business has good business credit. Notice that we used the term "business credit" not "personal credit." This is an important distinction that some business owners don't fully appreciate.

One of the skills that every business owner needs to learn as a part of growing a business is to look at the business as something separate from yourself. You own a business. But you are not your business. And one of the most important places to practice this mindset is by separating business and personal finances.

Our recent poll question addressed this issue, asking "To what degree are your business finances separate from your personal finances?" Here are the results from 1428 respondents:

  • 33% - Complete separation
  • 26% - Finances are mixed
  • 21% - Very little mixing of finances
  • 17% - Moderate separation, some mixing
  • 3% - Don't Know

Personal credit

As a business owner, you've already gone through the process of building good personal credit. Perhaps you used personal credit to set up your business; if so, it should Stop There. Using personal credit to fund a business is a losing proposition which puts an owner at risk of damaging his or her personal credit score.

If you use personal credit to secure money for business, you reduce your personal credit score with each inquiry made by each bank for each loan request. If you use the credit, the business debt appears on your personal credit report, increasing your debt-to-income ratio and lowering your personal credit FICO score.

And consider: personal credit is attached to your social security number (SSN). Any outstanding debts incurred by your business will follow you, even if you are no longer in business. Therefore, establishing a line of credit under your business tax ID number instead of your SSN can be extremely important.

Business credit

Your chances of obtaining business financing can increase by more than 250% if you have business credit, and building business credit can protect you from business liabilities, as business credit may not require an owner's personal guarantee. An owner with good business credit can also increase his or her chances of getting a attractive interest rate if ratings with the five main business credit bureaus are good.

A business credit profile can be established for common C-Corporations, S-Corporations or an LLC, which are all businesses based on tax ID numbers. Note that sole proprietorships are typically based on the owner's SSN and are not recommended for building business credit.

Create good business credit

Like good personal credit, building good business credit takes time and requires many steps. And since there are no laws protecting business owners from business credit bureaus, it is imperative to set up business credit properly. Here are some points:

  • Don't buy business credit from companies offering to sell trade references. Not only can this be an expensive rip-off, but should a credit bureau find out you've taken this approach, you risk having your business labeled "High Risk". And it is extremely difficult to remove "High Risk" status from your business credit profile.
  • An important goal is to obtain a paydex score, and your business will need at least five trade references in order to obtain paydex score. Therefore, make sure you're working (and spending) with companies that will report your good payment history to the business credit bureaus. If your good payment history goes unnoticed, you won't get those good trade references.
EMyth Team

Written by EMyth Team

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