Why is personal credit history so important for a small business? How can a small business improve its business credit standing? How does one choose a business credit card?
To get a better handle on the biggest issues hurting growing small businesses when it comes to building and qualifying for credit, I reached out to John Ganotis, founder of Credit Card Insider, a resource website that has supplied financial guides and credit card reviews since 2013.
Ganotis is committed to helping people understand how credit works and use it to their advantage. Since 2007, when he first worked in the finance industry, he’s been building his credit knowledge. Here are his thoughts on how small businesses can build and manage their business credit.
What is the biggest issue you see hurting growing small businesses when it comes to qualifying for credit?
One of the biggest issues may be bad personal credit. I frequently hear from business owners who want to get business financing or credit cards, but don’t have good personal credit history established. When a business hasn’t established its own credit history yet, banks will want to check the business owner’s credit history and probably ask for a personal guarantee. Without the foundation of good personal credit, it can be impossible to get financing for a new business.
Why is the separation of personal and business finances important for a small business?
One reason is for simplicity of bookkeeping and taxes. Separation of personal and business accounts makes it easier to understand profits and losses for the business independent of the business owner’s finances. A second major reason is to help limit the legal risk to the business owner. Legal business entities, like LLCs, can protect business owners from personal liability. When business and personal finances are intermingled, though, and the separation is not clear, it can be possible for courts to “pierce the corporate veil” and hold business owners liable in certain legal situations.
How much does a business owner’s personal credit difficulties unrelated to the small business impact whether the small business can obtain the credit it needs?
When the small business hasn’t established credit history on its own, the business owner’s personal credit is paramount. Without good personal credit history, it can be impossible for a business owner to get approved for credit and loans.
How do business and personal credit differ?
It’s important to note that personal credit and business credit are not the same. Business credit reports and scores are entirely separate from personal credit reports and scores.
Business credit operates similarly to personal credit, however, it is credit associated with a business as opposed to an individual. Unlike personal credit, you may be required to proactively set up your business credit files with the main business credit bureaus. These are Equifax Business, Experian Business, and Dun & Bradstreet. You can check online to see if a report for your business exists with each of these bureaus.
If your business has been in operation for some time, it is possible that the credit bureaus may already have files on your business. If not you will be required to take steps to establish your business credit files in order to build business credit.
What are your three top tips for improving your personal credit score?
- Pay all bills on time. Late payments can have a long-lasting negative impact on personal credit scores.
- Don’t spend more than you can afford to pay in full or strategically each month. If you rack up debt and can’t pay it off in full, the percentage of your available credit that you’re using will go up, which generally makes credit scores go down.
- Don’t apply for too many cards in a short amount of time. A normal part of the credit application process is a “hard inquiry” on personal credit, but too many of these in a short amount of time (more than about 3–5 per year) can make someone appear riskier and desperate for credit, decreasing credit scores.
What is your advice for improving your small business’s credit standing?
- Start with the fundamentals of building good personal credit. Build good personal habits first, with an understanding of how credit scoring models work, since the factors for building business credit are similar. Early on in a business, before the business has established credit history, the business owner’s personal credit plays a huge role.
- Get a business credit card that reports to business credit bureaus, and use it responsibly. This will help establish some positive business credit history and stand on its own feet credit-wise.
- Always pay business bills on time. Like with personal credit scores, late payments can have a long-lasting devastating impact on business credit scores. Even worse, late payments on small business credit cards are often reported to personal credit bureaus, so they have the potential to impact both personal and business credit history for many years.
How does one choose a business credit card and use it responsibly?
The best credit card for you and your business depends on your spending needs. If you’re looking to finance large purchases over time to get started, you may value a 0% introductory APR more than rewards. On the other hand, you may be a business that is already making significant business purchases each month that could be made with a credit card instead, earning you rewards. In that case, you may want a simple cash back card that earns a flat rate, like 1.5% or 2%, on all purchases. If you are always making certain types of purchases, like travel or shipping, you could maximize rewards by finding a card that earns a higher rewards rate in those specific categories.
Ultimately, once you find a card, you’ll want to use the card responsibly by always paying your bills on time and in full to avoid late payments and interest. Credit card interest can quickly cancel out the value of any rewards you’ve earned.
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