Most small business owners know their personal credit scores. However, the concept of business credit remains more elusive. Business credit is entirely separate from personal credit, and there are different steps one must take to establish and build business credit.
While the road to building good business credit is a long one, it is very beneficial to your business’s growth and success. Higher business credit scores allow you to secure more favorable loan terms and access rewarding business credit cards.
What is Business Credit?
Business credit determines how easy or difficult it is for your business to borrow money and is expressed as a score. Your business credit score indicates to lenders whether your business presents a high or low credit risk. It is based on several factors such as credit history, business age, industry, and financial behaviors.
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How are Business Credit Scores Determined?
Most people are unaware that, unlike a personal credit score, a business credit score is not one universal number. There are three major credit bureaus, each with their own separate scores and scoring methods: Experian, Dun & Bradstreet, and Equifax.
Each of the business credit bureaus issue their own business credit score using different scoring systems. However, there are a number of common factors that each of the bureaus use when determining your business credit score. These include:
- Demographics, such as business age and size.
- The industry your business is in. This is known as your Standard Industrial Classification (SIC) code.
- Your business’s payment habits over time. For example, a business that has a history of paying its bills in full and on time will have higher business credit scores.
- Any outstanding balances.
- Your credit utilization, i.e. the percentage of your total credit that is currently in use.
- The number of business credit applications and inquiries that have been carried out. For example, if you’ve applied for a large number of business credit cards or loans in a short period of time, that will negatively impact your business credit scores.
- Delinquent financial behaviors on your business profile, such as bankruptcy, liens, collections, or judgments.
From these factors, Experian and Dun & Bradstreet score businesses from 0 to 100, whereas Equifax scores businesses from 101 to 816.
On each scale, higher scores indicate that your business is a more reliable credit borrower. The benefits of higher business credit scores include access to better business credit card offers and loan rates.
How to Build Business Credit: 7 Steps To Success
Unlike personal credit, building business credit is not an automatic process. You must first establish a business credit file. Establishing a business credit file requires the business owner to take a number of steps.
Step 1: Register Your Business
The first step to establish business credit is to register your business. This gives your business its own legal identity.
To register your business, you must choose a business name, a business location, and a business structure. There are numerous business structures, and you should take the time to research which structure best suits your business as this will have a big impact on your business.
A business structure affects numerous things like:
- How easy it is for your business to raise money
- The amount you pay in tax
- Your personal liability as a business owner
- The amount of record-keeping and administrative duties you must carry out
Your location and business structure determines how you will register your business. Most small businesses are required to give details to their state and local governments.
Step 2: Get an Employer Identification Number (EIN) and Data Universal Numbering System (DUNS) Number
Upon registering your business with your state and local governments, it’s time to get your Employer Identification Number (EIN) and Data Universal Numbering System Number (DUNS).
An EIN is a number used by the IRS to identify businesses for tax and credit purposes. It’s needed to open business bank accounts, apply for business permits and licenses, pay federal taxes, and hire and pay employees. It enables business owners to remove their social security numbers from their business’s credit profile. Getting an EIN is free and can be done in a matter of minutes on the IRS website.
A DUNS Number is used to identify businesses and their business credit scores. It is also used to establish a business credit file with Dun & Bradstreet so potential creditors can perform credit checks on your Dun & Bradstreet business credit report. To establish a business credit file with Dun & Bradstreet, you will need to register with them online and set up a business profile. Getting a DUNS Number for your business is free and can be done online.
Step 3: Open a Checking and Savings Account for Your Business
Distinct business accounts make it easier to separate your business and personal expenses. This makes record keeping and tax filing easier to manage. After you’ve received your EIN and DUNS numbers, you’re able to open a checking and savings account in your business’s name.
After carrying out these steps, your business is now a legal entity with its own credit reports, bank accounts, and identification numbers. Now that your business and its credit report are set up, you can start taking action toward building your business’s credit.
Step 4: Take Out a Small Business Administration (SBA) Loan
A loan can be a great source of funding and an opportunity to build business credit. There are numerous types of loans, but one of the best suited ones for small businesses is a Small Business Association (SBA) loan.
SBA loans are guaranteed by the US Small Business Administration.This enables small businesses to receive more favorable rates than a traditional bank loan would provide. SBA loans generally fall into the range of $50,000 to $5 million, with a loan term ranging from 10 to 25 years.
Step 5: Get a Business Credit Card
Using a credit card specifically designed for your business is an effective way to build your business’s credit. However, business credit cards must be used responsibly. This means familiarizing yourself with the card’s terms and paying off your balance on time and in full every month.
It is also recommended to keep the business credit card for solely commercial purposes. Mixing personal and business expenses on the same card often results in financial mismanagement and tax headaches.
Business credit cards have numerous other advantages. These include:
- Higher credit limits than personal credit cards.
- Rewards such as points or cash back on business expenses.
- Benefits such as purchase protection, merchandise discounts, extended warranties, and travel insurance.
- Travel perks with airlines and hotels
Here are a few guidelines you should follow when researching which card is best for you.
Does the card provider report credit card activity to the business credit bureaus?
The first thing you should do is explicitly ask whether a card provider reports your activity to the three main bureaus. As you are trying to build business credit, it is imperative that you get a card that reports your good behavior to the bureaus.
How are the card’s rewards in terms of your business expenses?
An excellent business card offers cash back, points, or miles on a business’s regular purchases and expenses. When researching the market, contrast card rewards and figure out what card will bring your business the most value. Try to align the card’s rewards with your business’s goals.
How are the card’s benefits?
Rewards are not the only thing you should be comparing. Many business credit cards come with valuable benefits such as travel and shipping insurance, extended manufacturers’ warranties, and purchase protection.
Do the card’s rewards and benefits justify the annual fee?
If you are contemplating a card with an annual fee, make sure that the rewards and benefits received are worth the cost.
For example, the American Express Business Platinum card, which offers an extensive suite of rewards and benefits, charges a $695 annual fee. If you are required to travel often for business, the annual fee is potentially worth the cost. If not, the fee may be an unnecessary financial burden.
Is the signup bonus good?
Businesses generally spend more than consumers. The signup bonus of a good business card should be higher than that of personal cards to reflect this.
Is the customer support service good?
It is worth taking note of a card provider’s customer service, as this will make things easier for you in the long term.
Step 6: Practice Financial Responsibility
One of the most important pieces of advice for building business credit is one of the simplest: act responsibly.
A business loan or business credit card, when used responsibly, will help you build business credit, but they will have a detrimental effect on your business’s credit scores if you aren’t careful. In order to build business credit you should:
- Always make your payments on time and in full.
- Keep your credit utilization low.
- Separate your business and personal finances.
- Use a variety of credit sources, such as a loan and a business credit card. Do not rely on only one credit source.
TIP: Consider Gravity Capital, which provides simple funding for small businesses.
Step 7: Keep an Eye on Your Business Credit Score
It can take a while (weeks to months) for your accounts to start appearing on your business credit reports.
Monitoring your business credit score is a crucial step because it can help you see trends, identify opportunities for improvement, and catch mistakes early.
Make sure to regularly check your business credit reports with all of the major credit reporting agencies to see the effects of your business credit building efforts.
Business Credit for a New Business
When it comes to applying for business loans and business credit cards, there is a catch-22: higher-end business credit cards and larger loans with the best rates require good business credit scores.
If you are a small business with little-to-no business credit, you therefore might not be able to access the best loans and credit cards.
If this is the case, start small.
In terms of business loans, start with a low amount and pay it back on time and in full.
In terms of business credit cards, there are cards for businesses with low credit scores and secured business credit cards. While the rewards on these cards can leave something to be desired, they do offer the opportunity to build your business credit scores.
In conclusion, the path to building business credit is not a short one. It requires proactivity, patience, and responsibility.
However, building your business credit pays off in the long term. It allows your business to secure more capital with favorable terms and access high-tier credit cards with fantastic suites of rewards and benefits.
By Guest Contributor Oliver Browne, Financial Industry Analyst at Credit Card Insider
