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North American Industry Classification System (NAICS) codes are six-digit codes used by the federal government to classify businesses into an industry operating in the United States, Mexico, and Canada. The main purpose of an NAICS is to collect, analyze, and publish statistical data related to the business economy. Banks, insurance companies, banks, and other financial institutions review NAICS codes to assess risk which can affect the financing terms for small businesses. There are 20 sectors and over 1,000 industries in the United Sates NAICS system.
What is an NAICS Code?
The NAICS code is a 5 or 6 digit number that is used to identify what a business does and the sector it operates in. the NAICS industry codes define establishments as based on the activities that a company is mostly engaged in.
Each number has a different meaning. The way the system works is as follows:
- The first and second numbers designate the economic sector a company operates in
- The third number designates the sub-sector of the company
- The fourth indicates the industry group the company belongs to
- The fifth identifies the specific industry of the company
- The sixth number identifies the national industry the company belongs to
How to Get an NAICS Code
NAICS codes are self-assigned or assigned to your business by an agency that collects information on businesses. For example, the U.S Census Bureau may assign a NAICS code when you took a survey or if you applied for an EIN, the information from your application can be used to assign your business a code.
Conglomerates made up of multiple companies will need to assign an NAICS code for each business within the corporation.
How NAICS Codes Affect Lending Decisions
Your NAICS code can affect your ability to secure small business loans from investors and financial institutions. The NAICS code helps lenders determine the level of risk that is involved when considering providing you a loan.
Other metrics that lenders rely on besides your NAICS code are the current and projected future state of the industry, the risks involved in the service, and the business model used by companies in a specific industry.
High Risk Industries and NAICS Codes
Lenders and insurers use the NAICS codes to determine which businesses are risky. There are three high-risk industries that stand out the most to them because of the NAICS codes they have.
- Transportation and Warehousing: they have a high risk of damages or losses among other factors that cause transportation and warehousing businesses being denied of loan approvals.
- Wholesale and Retail Trade: the level of demand whether it falls or rises too sharply can be concerning for lenders and insurers. Additionally, low profit margins mean that companies will have difficulty repaying loans.
- Administrative Support and Waste Management: staffing agencies, temp agencies, and travel or tour guide services are the riskiest because they often have low profit margins.
Other high-risk industries include:
- Agriculture or forest products
- Dry cleaners
- Healthcare (nursing homes, assisted living facilities, etc.)
- Hotels or motels
- Travel agencies
- Limousine services
- Restaurants
- Courier services
If your business happens to be in one of these high-risk industries, there is another approach you can take when you are looking to secure a loan.
Invoice Financing
With invoice financing, businesses can borrow against outstanding invoices owed by the company’s customers or clients.
Crowdfunding
Crowdfunding is a great and effective way for businesses to get funding with low risk. People who donate funds to help you out either have an interest in the product or service you have or see value in them even if it does not apply to them.
How Your NAICS Code Affects You
An NAICS score tells a lot about how risky your business is, and it can cost you money. Your code can bring down your business credit score because it is recorded in your business credit report. It can also affect your eligibility and rates for a qualifying for a loan, especially if you are in a high-risk industry.
If your business is classified under the wrong industry, it can make a difference whether your business is classified as small because different industries have different size standards. The code can also determine how many opportunities are available for your business.
