Businesses that are large or small rely on borrowed capital to fuel growth and fund other initiatives. Small business owners need to understand how their credit impacts their ability to borrow more than the average consumer looking to purchase a car or house.
Every business owner has two credit profiles which are personal credit score and business credit history. In order to understand how credit impacts a business owner’s ability to access borrowed capital, you need to be able to understand both.
The importance of understanding personal credit
For most small business owners on Main Street, your personal credit history is going to be a part of every business creditworthiness conversation you have with a lender. One of the least understood parts of owning and running a successful business is the importance of building and maintain a credit profile that makes the borrowing process easier and provides options for financing that a poor profile does not.
A strong profile for credit is more important than ever, many small business owners have made their qualification requirements stricter, and some have stepped away from small business lending for the time being.
How is personal credit determined?
Most of the personal credit reporting agencies base their credit scores on the FICO score. Although their scores may vary slightly, the basic formula they use to calculate their scores is similar. The following five data points is what your score is based upon.
The single most important metric and where you can have the most lasting impact on your credit score is the payment history. If you make your payments on time every month, it is the most powerful way to build or strengthen your personal score.
The amount of credit you use when compared to the amount of credit you have available is what we are talking about here. Keeping your credit utilization low, about 30% or less, will positively impact your credit score.
Length of credit history
Lenders like to see a proven track record. They are trying to determine what you will do in the future based up on what you have done in the past. The longer your credit history is, the better. If you have a credit card that you hardly use, it actually will help your personal score. From the perspective of building a strong personal credit score, avoid the temptation to cut up your credit cards and close accounts—even if you do not use them very often.
Creditors like to see a mix of credit on your report which is reflected on your score. A mortgage, an auto loan, and a credit card are reflected more positively than say, simply an auto loan.
New credit inquiries
Every time that you apply for new credit, it will impact your personal credit score. This will be very slight, but you should be aware of it. The credit bureaus also treat shopping for an auto loan or a mortgage much differently than applying for every department store credit card available to you. Typically, it is nothing to be too concerned about, but it is important to be aware of and should not prevent you from applying for the credit you need.
5 tips to improve your personal credit score
Whether you are looking at a small business loan, auto loan, or new mortgage, lenders are trying to determine if you have the means to service debit and if you are able to make all your payments on time.
Use the following tips to help you improve your personal credit score
- Know your score: You need to monitor your personal score regularly. The first step is to know your score and see if you need to improve it.
- Use credit wisely: Keep the ratio of credit you use compared to the credit you have available to below 30%.
- Do not jump around: Transferring balances from one credit card to another won’t help your score and is considered a very transparent gimmick that could actually hurt your personal credit score.
- Make timely payments: make sure you pay bills on time. You can set up automatic payments to make sure you are never late.
- There are no quick fixes: Slow and steady will win the raise. It takes some time to build good credit practices.