How To Build Business Credit
Thinking of starting a business? Think your personal credit score is all that matters? Think again.
Many entrepreneurs start their businesses using their personal credit without realizing how important it is to separate the two.
Establishing business credit is a critical step for any small business because it signifies your business’s ability to borrow money based on its past actions.
Here we will define business credit for you while taking an in-depth look at the difference between personal and business credit.
We will show you why it is so important to identify your business as a distinct entity, independent of yourself and your personal credit score.
Then we will show you the steps to establish your business credit profile, what factors affect your score, and how to improve your score.
So let us begin with a seemingly simple question,
What is business credit?
Business credit is a score that allows a lender to assess how reliable your business is.
Lenders, suppliers, and partners will look at your business credit score when deciding if they want to take a risk on you because it will show them your history of on-time payments.
If you are able to build up a solid business credit profile, you will be able to receive financing under the business entity without a personal guarantee, because it is independent of your personal credit score.
When a lender issues your business credit they will be able to report the transactions as well as your payment history to the business credit bureaus. This allows the bureaus to produce a credit report and score for your business.
Business credit is very similar to personal credit, which is always considered when determining how trustworthy of a borrower you are.
If you are attempting to get a car loan or mortgage, the first thing the lender is going to do is pull your personal credit score. They do this because it indicates your dependability and shows the lender whether or not you are likely to pay the loan back on time.
Essentially the difference between
personal credit and business credit is this:
Your personal credit score reflects the reliability of you as an individual, while a business credit score reflects the reliability of the business, independent of its owners.
As a business owner, your company and its well-being dominate your life; the two may seem so intertwined that you might think there is no point in separating the two legally.
This could be especially true if you started your business by financially backing it yourself, and have not taken the time to divide the two since – a very common scenario.
Many entrepreneurs funnel their own money into their business, especially in the early stages, but it is important that you make the distinct legal division between yourself and your business.
Why is this separation between
your personal and business credit so significant?
If you legally separate your personal credit history from your business credit, you will be able to diminish the negative effects one could have on the other.
The average consumer is expected to get about one inquiry per year and has eleven open trade lines on their personal credit report.
The average business owner has much more financial activity and could easily double the number of inquiries and trade lines on the credit report within that same year timeframe.
If you rack up that many inquiries while having double the number of trade lines open because of your business, but it is only reporting to your personal credit, you can expect that your scores will most definitely plummet.
This is because the average consumer is not expected to have the same amount of activity that a business owner does.
Business credit takes that into consideration; inquiries and trade lines will never decrease your business credit score.
While you are putting all this financial activity on your personal credit, you are doing yourself two disfavors.
The first is that you are driving your personal credit score down.
The second disfavor is that you are not taking the opportunity to build your business credit score up.
This will be imperative to attain credit in the future under the business entity.
You may need this credit when expanding your product line or moving into new markets.
Maybe you get caught up in the day-to-day operations of your business and wind up paying your personal auto loan a couple months late.
While that is understandable, it will obviously decrease your personal credit score.
There is no reason to have your business suffer because of this.
When you approach a business lender, you will want them to be able to assess your business based solely on how well the business performs, independent of how well you as the owner make personal loan payments.
If you have distinctly and legally separated the company from your personal life, the lender will have no reason to pull your personal credit report and see those late auto loan payments.
Your personal credit should have no
bearing on your business once you have
the company’s business credit established.
There are three major business
credit bureaus you need to be aware of:
- Dun & Bradstreet
- Dun & Bradstreet refers to your business credit as a Paydex score. Their Paydex scores range from 1-100 with a score of 80+ being considered excellent.
- Experian Business
- Similar to Dun & Bradstreet, your business credit score with Experian is also rated on a scale of 1-100.
- Equifax Business
- Equifax business credit scores are on a scale of 101-992 with 992 being the highest score possible.
So now that you know and understand the importance of dividing your personal and business credit the next step is:
How to build business credit:
- We discussed and recognize why it is so important to keep personal and business credit separate. That being said, if you choose to operate as a sole proprietor or general partnership it is not possible to do that. That is because a sole proprietorship or general partnership is legally the same as the business owner. Which means you, as the owner, will be personally liable for any debts the business incurs and all of your personal assets are at risk in case of litigation on the business side. Your best option is to form a LLC (Limited Liability Corporation) or corporation which offers you, the owner, liability protection while affording your business the opportunity to build business credit.
Obtain an EIN
- You will need to obtain an EIN from the IRS. Your EIN is essentially your business’s social security number. You will use it to file taxes and open your business bank account.
Create a relationship with the business credit bureaus
- In order to build a relationship with Dun & Bradstreet you will need to apply for a DUNS (Data Universal Numbering System) number which you can do through their website or any other credit monitoring service. This DUNS number is a unique 9-digit number that is used to identify your business. It is very similar to how your social security number is linked to your personal credit profile.
- There is no need to contact Experian or Equifax to establish your business credit profile. These two companies will automatically create an account for your business once they see it in the new business filings of the Secretary of State records.
Open a business bank account
- Open a business checking account under the business’s legal name. Once you have this, make sure you pay all the business’s financial transactions through it.
Establish a business phone number
- Get a phone number for your business that is a separate number from your personal line and put it under the business’s legal name. Make sure to list it in directories so your company can be easily found.
Get a business credit card
- Try to get at least one credit card that is a true business line of credit. That means it will not be personally linked to you or any other owners. Make sure the card’s transactions are reported to the business credit bureaus so your on-time payments will increase your business credit score.
Transition business expenses away from your personal accounts
- After everything we have discussed, this be a clear next step. You want your business to appear as an independent entity with no affiliation to yourself or your personal finances, so pay all the business’s expenses out of your business banking account.
Start a relationship with suppliers/vendors
- Try to establish a relationship with a couple of vendors or suppliers that will create credit for your business to use when you make purchases with them. If you begin and maintain a relationship, you will be able to create a positive line of credit. It is extremely important to have good relationships with vendors so you can avoid prepaying for items. Remember that no business is required to send information to the business credit bureaus. The U.S. Small Business Administration says that less than 6,000 out of more than the 500,000 suppliers in the United States diligently report to the business credit agencies. Once you have these relationships established, you should ask your vendors to report your positive payment history to the business credit bureaus in order to create a thorough business credit history.
So you’ve gone through the 8 steps you need to take in order to build your business credit.
Now you might be wondering, how are they going to calculate my score?
What factors affect
your business credit score?
- Paying on time is first and foremost. Paying your bills on time is the single most important thing you can do to positively affect your business credit score. Remember, your credit score is a way for lenders to determine how trustworthy of a borrower you are.
- Any derogatory public records are going to cause your score to drop. This includes collections, liens, judgments, and bankruptcies.
- The amount of credit available to the business on blank lines of credit and credit cards.
- The business’s credit utilization ratio. Just because you have credit available does not mean you have to use it.
- The length of time in business. The longer you have been in business the better it will look on your credit report. Lenders want to see that you’ve been established long enough to have experience in your industry.
You’ll want to routinely monitor your business credit score.
What are the major benefits to
maintaining an excellent business credit score?
- Your company will be able to secure more favorable payment terms when establishing relationships with new vendors and suppliers.
- When approaching lenders you’ll be able to obtain better interest rates and credit terms.
- You will reduce the number of times you have to prepay for products or services.
A business has access to 10 to 100 times greater credit capacity at much lower interest rates than an individual, so keeping your business credit score up is imperative in order to attain the capital necessary to grow your company.
So you’ve successfully established your business as a separate entity from yourself, and have gone through the steps of creating a business credit profile.
But now you go to monitor your score and find out it’s not in the “excellent” range. So what now?
How to improve your business credit score:
- Ask vendors to report your business credit history. We talked about this earlier, but it deserves another mention. Your business credit score will definitely improve if you show a positive payment history, and this will only happen if your vendors send the information into the business credit bureaus.
- Keep your debt level low and don’t use too much credit. If you borrow too much money it will appear that your business is financially struggling and that will lower your score. Too much debt shows no room for error – what if revenues decrease? Will your business be in the red? Experian Business suggest that you keep your debt level at 20-30% of your total credit limit. By keeping that percentage, you’ll raise your business credit score.
- Make timely payments. This cannot be stressed enough. You need to pay your business loans and credit card bills on time or pay them early. Consistency in on time payments is guaranteed to raise your score.
- Open business credit accounts. Zero credit history is no more help to you than a bad credit history. Open up a few accounts and make on-time payments. If you have unused accounts, keep them open since the age of credit lines matter too.
- Continue to monitor your business credit report. Check your business credit report for mistakes. If you find one try to fix it right away. If your lender will not remove the error voluntarily you can file a dispute with the credit bureau. This gives the lender 30 days to give the correct information.
Detaching your company from your personal financials is the first step in establishing your business credit profile.
When you approach a lender, they will view your business credit score as a representation of your business’s credibility so it is imperative that you know how to build business credit.
Once you have taken the steps necessary to create a profile for your business, continue to monitor it and be sure to correct any mistakes.