Understanding Business Credit: Why It Matters and How to Build It

Understanding and putting together a robust business credit profile is a very important step for a business owner, which will in turn open up better financing terms for them and also protect their personal financial picture at the same time as supporting that, which is to say, their long-term growth. Also, many of the small- and mid-sized business owners do not have a full grasp of what business credit is and how to go about building it out over time.

What Is Business Credit and Why It Matters

Business credit stands as a separate entity that is related to the company’s creditworthiness as opposed to personal credit. It reports how well the business pays what it owes, does a good job at managing debt, and fulfills financial responsibilities. As time goes by, this profile is used by lenders and suppliers and also, in some cases, by landlords and insurers to determine the risk of doing business with the company.

Strong business credit is important because it:

·        Improves the odds of getting the finance the business needs.

·        Helps get better terms out of it, which will see higher limits and lower interest rates.

·        Over time reduces personal guarantees, which in turn will separate business and personal finances.

·        Supports relationships with vendors, which may extend trade credit based on the business’s track record.

Also, a very good business credit score gives the company the flexibility of choice when it is looking to grow, buy new equipment, or weather a temporary drop in cash flow.

How Lenders Use Business Credit

When it comes to the application for business lines of credit, term loans, or government-guaranteed loans, lenders look at a wide range of business and personal information, which is true for smaller and just-starting-out companies. Business credit reports they use to get a better picture of how the company manages things like vendor payments, leases, and present debt.

This includes issues for:

·        Working capital loans that are used for short-term requirements like paying salaries or stock.

·        Term loans for growth, purchase of equipment, or other long-term investments.

·        SBA and other government-guaranteed loans, which also look at past credit management.

If the business does not have a credit history that is strong or present at all, it may still be a candidate for some products they have to offer, but it will see that the terms are more strict, the credit limits lower, or that more personal credit and guarantees are required.

Laying the Foundation for Business Credit

Building out the business’ credit is a result of running the company as a separate financial entity. Foundational steps include:

·        Formalize the business structure—Form a sole proprietorship, corporation, or other formal structure to separate business and personal finances. Also, this is a requirement to establish a dedicated business credit profile.

·        Open dedicated business banking accounts—Using a business checking account for all the company’s income and expenses gives a clear financial picture, which in turn presents that the business is a separate entity. Also, this makes it easy to apply for credit products in the future.

·        Establish trade and vendor relationships—Working with suppliers that offer extended payment terms (for example, net 30 terms) and that report to business credit bureaus will get the company started in building out its payment history under the business name.

These actions don't see results in terms of strong credit immediately; instead, what they do is put in place the base, which over time will see positive activity reported out.

Practical Ways to Build and Strengthen Business Credit

Once the basics are covered, the business credit profile can be built out:

·        Use credit thoughtfully—Start out with a small business line of credit or loan that fits into the cash flow. Using credit and paying it back on time (or early) is what proves reliability the most.

·        Pay every obligation on time—Consistently prompt payment of loans, rent, and bills is key. Late payments, which may also include late reporting to credit bureaus, will quickly mar the profile, which at this stage of the credit history may still be very thin.

·        Maintain reasonable credit utilization—Avoid always hitting the full limit. Which is to say that it is better to have balanced accounts relative to total credit, which in turn shows that the business is not overextended.

·        Monitor business credit—At times it is a good idea to check business credit reports, which in turn will help to notice any inaccuracy, see how actions are recorded, and adjust financial practices.

Over time, habits add up to a stronger profile, which in turn supports greater financing requirements as the business grows.

Business Credit and Financing Options

Strong credit at the business level not only improves the chances of getting approved, it also expands the set of options available as the company prepares to “take on what’s next.” Also, a good credit profile may put the business in a better position to get into a bank small business loan as well as other types of growth financing.

For example:

·        A business line of credit also is a good way to manage working capital, fill in for those seasonal dips, or put towards that smaller equipment needed, all without the trouble of going through a new application for a loan each time.

·        A business term loan is for expansion, large-scale equipment purchases, or a new location, and it is used for something that has set payment terms each month.

·        Government-provided loans, as in some cases of SBA loans, which are available to small businesses that qualify for them, do go for longer terms or lower down payments but at the same time require a strong business credit standing.

As the business’ credit stands up better and becomes more of a fact of life in the business world, it is better able to obtain competitive rates, higher limits, and terms that fit plans, which in turn will free it from restrictive ones.

Balancing Business and Personal Credit

For a great many small businesses at the start of their game, personal credit reports of business owners still play a role in the decision-making. It is a fact. There is no intention to do away with personal guarantees right away; instead, there is a gradual transition to base any decision more on business credit as the business grows out of its infancy.

In time the business proves to be a low-risk borrower. This plays out in bigger financing deals, which are based more on the track record of the company than on personal finances.

Key Takeaways

Business credit is more so not just an afterthought or data point but rather a key resource that affects how easy and how affordable it is to access funding for the company. Understanding how it works well and taking a proactive role in building it can be the factor that sets the business apart between trying to get funds and companies that have many options when opportunities present.

Through formalizing the business structure, which includes separate finances, timely payment of bills, responsible use of credit, and monitoring business reports, the business may see an improvement in credit. What is built will give more flexibility when pursuing working capital, investing in equipment, or looking to the next phase of growth.