When it comes to starting a new business, or even learning to manage an existing one, there are a number of important business concepts that an owner needs to understand. One of those concepts is business credit. It takes some extra effort to establish business credit, but doing so is a critical part of building a secure foundation for your business.
What is business credit?
To assess your ability to borrow money as an individual, lenders, and banks look at your personal credit report. Over the years, you have built a credit history that is filled with information about credit cards, loans, and other financial interactions. This information is used to establish your personal credit score, which represents how responsible you have been as a borrower and how much banks and lenders can trust you with credit accounts and loans. In addition to your personal credit score, it is possible to establish a business credit score.
Business credit works in a similar way to personal credit. Just as your personal credit score is a compilation and analysis of your individual lending habits, your business credit score is a compilation of financial information related to your business. One of the main differences is that many credit bureaus will not actively seek out transactions to establish a business’ credit history. Instead, these transactions must be handed over voluntarily. Any individual starting a business can establish a credit history for that business by filing their transactions with the credit bureaus.
What are the benefits of establishing business credit?
Just as establishing good credit is necessary to receive personal loans and qualify for better credit offers, establishing business credit is a necessary part of ensuring a strong business. Businesses often deal in larger-quantity purchases and may have a variety of overhead costs. To cover these expenses before a profit starts coming in, most businesses need a source of credit. This is where establishing business credit becomes important.
How do you establish business credit?
To establish business credit, you will need to proactively report credit accounts and history to Experian, Dun & Bradstreet, and Equifax Business. This will enable these agencies to provide an accurate credit score range, which will help you establish your business more securely. Many investors and potential suppliers will check credit reports before deciding whether to do business with you. A lack of credit, or poor credit, can result in the loss of business opportunities.
Keeping track of your business credit reports is just as important as establishing credit in the first place. Always be aware of what is on the report, because this is what others see when they investigate your business. By checking your business credit score on a regular basis, you are not only protecting yourself against fraud, but you are also making sure the report accurately depicts your business and its current level of financial stability. Having an incorrect business credit report can damage your reputation and prevent you from conducting business in the ways you would like to.
What determines your business credit score?
Your personal score and your business credit history work together to show a potential lender that you have a track record of meeting your personal and business financial obligations. Your business credit history is really a collection of scores, rather than one score like your personal FICO score, and can vary from business credit bureau to business credit bureau. With that in mind, here are some of the things that are included in the average business credit report:
General information about your company
Some of the information used in your profile is available from the public record. Information like annual revenue, the industry you’re in, how long you’ve been in business, and the status of any current liens or judgments are all data that eventually wind up in your credit profile. If the information on file with the state where you do business is inaccurate or out of date, it can hurt your profile. For example, something as simple as a wrong SIC (Standard Industry Classification) code could put your business in a higher-risk category and make it harder for you to qualify for a small business loan.
Because it’s not uncommon to see mistakes in the public record, creating a relationship with the business credit bureaus is important because it enables you to make sure all the information they have about your company is accurate. Fortunately, the credit bureaus are motivated to make sure the data they have about you and your business is as correct and current as possible, so they are motivated to correct legitimate errors.
How timely do you pay your vendors and suppliers?
Trade credit is an important source of credit to all businesses but is an invaluable way for new businesses to start building their credit profile. Dun & Bradstreet has been monitoring business credit the longest and focuses on this aspect of your credit profile, but the others also consider how timely you pay your vendors and suppliers.
D&B provides potential creditors with several reports (like their 100 point PAYDEX® report) that not only offer insight into how far beyond agreed-upon terms you pay your invoices, they also provide predictive insight in how likely you will remain current in the future, whether or not your business is under stress, and how healthy your business is financially. Experian and Equifax provide similar data about your business and rank past performance to predict what you will do in the future.
How timely do you meet your other credit obligations?
If you use a business credit card, have a business line of credit, or other small business loan; the business credit bureaus use your payment history as part of your profile. Equifax for example takes the data from the Small Business Finance Exchange (SBFE), which is credit data collected by the largest small business lenders in the United States as part of their report, which details how business owners make credit card and other business loan payments. Because this data is a direct reflection of how businesses interact with large business lenders, many banks use this report to evaluate your business’ creditworthiness.
Similarly, Experian looks at the number of credit transactions, outstanding balances, payment habits, how much of your available credit you use, and the details of any current liens, judgments, or bankruptcies to evaluate your credit. Experian, like Dun & Bradstreet, provides a risk score for small businesses on a scale from 0 to 100—or High and Medium Risk to Good and Excellent Credit depending upon where your profile falls on their scale.
Don’t be afraid to use your business credit, The wise use of business credit over time helps build a strong credit profile as you establish credit accounts, pay them off, and stay current with suppliers. Making the trade credit accounts you establish early in the life of your business can be very important down the road—provided you’ve been able to maintain a good credit history with your suppliers. The same is true for other business credit accounts.
The importance of your credit profile
You can’t afford to ignore your personal credit score or your business credit profile because they work together to help answer three important questions every lender wants answered (even if they don’t ask them this way).
Can you repay a loan? Do you have the revenue and cash flow to make periodic loan payments?
Will you repay a loan? Do you have a track record of meeting your financial obligations that implies you will do so in the future?
Will you continue to make timely periodic payments should something unexpected happen?
If you can answer these questions successfully it will improve the odds of a successful small business loan or business credit card search. Managing your credit profile is an important part of answering these questions. A strong credit profile is no guarantee you’ll get the financing you’re looking for, but it will give you options a weaker profile will not. And, it will make it easier for a lender to say “Yes” to your application.