by Oliver Browne, Financial Industry Analyst
The concept of business credit is elusive to many small business owners. Unlike personal credit, establishing and building a business credit report is not automatic. It takes effort on behalf of the business owner to get started. This article has two sections:
- Business Credit 101 – An explanation of the business credit basics.
- 7 Steps on How to Build Business Credit – A step-by-step guide on how to establish your business credit profile.
Business Credit 101
Business credit is a pre-approved amount of money issued by a lender to a business.
A company’s creditworthiness is represented by business credit scores. These scores are numerical indicators highlighting a business’ suitability for credit.
Your business does not have one universal business credit score. The main business credit bureaus each calculate their individual scores using unique methods. Equifax business credit scores are on a scale of 101 to 816, while Dun & Bradstreet and Experian business credit scores use a scale of 0 to 100.
The higher a business’ credit scores the better. A business with higher scores is more likely to be approved for credit and secure higher credit limits.
Factors that Affect Business Credit
While the credit bureaus use different methods to calculate their business credit scores,, there are common factors that determine each of these scores such as:
- Your business’ payment habits and history. For example, has your business been slow in its payment of obligations?
- The number of past trade experiences your business has undertaken.
- Outstanding balances.
- An increase in the number of business credit applications and inquiries.
- Credit utilization (the percentage of your total credit that is currently put to use).
- Demographics such as business size and business age.
- The kind of industry your business is in (Standard Industrial Classification codes).
- Delinquent behavior on your business profile, such as bankruptcy, liens, judgments, and collections.
- The status, recency, frequency and dollar amounts of any delinquent behaviors.
7 Steps on How to Build Business Credit
Establishing a business credit report is more work than establishing a personal one. It will first need you to separate your business from yourself. Then you can start taking action to build your business credit.
Step 1. Register Your Business
The first step is legally separating yourself from your business. This is done by registering your business, which will turn your business into a separate legal entity.
The first step in registering a business is deciding on a business structure. Carry out extensive research on what structure suits your business best. Your business structure affects many issues including:
- How much you pay in taxes,
- How easy it is to raise capital,
- The amount of personal liability you can face,
- And the amount of administration and record-keeping required for your business.
Upon choosing a business name, location and structure, you can now register. The steps for registering will differ depending on your structure and state. For Texas entrepreneurs, two valuable resources are the Texas Secretary of State and the US SBA’s guide on launching your business.
Step 2. Get an IRS Employer Identification Number (EIN)
An EIN is a number used by the IRS to identify business entities for tax and credit purposes. It allows business owners to separate their social security numbers from their businesses. It is also used for opening business-specific bank accounts and applying for loans.
Getting an EIN is free and only takes a matter of minutes. An EIN application can be completed through the IRS website.
Step 3. Get a Data Universal Numbering System (DUNS) Number from Dun & Bradstreet
A DUNS number is used to create and identify your business’ credit file. Dun & Bradstreet is a business credit bureau that compiles business credit reports. This compilation is not automatic, however. You must establish a business credit report by registering and setting up a business profile with D&B. Upon registration, D&B will issue your business a DUNS number.
Step 4. Open Bank Accounts for Your Business
Open a checking and savings account using your recently acquired EIN and DUNS number. Conduct all your business transactions through your business checking account. This helps you define the line between your business and personal finances.
Opening a business savings account is not mandatory;. however, it is advisable as the account can be used as security for a small business loan.
Step 5. Get a Business Credit Card and Use it Responsibly
Responsible business credit card use is a great way to build business credit. Aside from building credit, business credit cards also hold many advantages like cash back on business expenses, insurance, and extended warranties on purchases. A business credit card account should be put in the name of your business using the EIN and DUNS number. It should be used only for commercial transactions. Avoid mixing personal and business finances as it can lead to tax headaches.
Keep in mind there is no one perfect credit card for your business. When shopping for a business credit card, take your time researching the options. Compare different card terms and align the card with your business’ aims. Make sure to pick a business credit card that compliments your business’ activities. While choosing the right business credit card is subjective, there are some things to keep in mind while researching:
- Receiving value in terms of its annual fee – If a business credit card has an annual fee, make sure the benefits you get outweigh the yearly cost.
- Rewards for any business expenses – The best business credit cards will offer cash back or points for your most frequent types of purchases.
- Benefits – Make sure to check and compare different business credit card perks. Different cards will suit different businesses.
- If there is a signup bonus – Businesses usually have higher expenditures than the average consumer. As such, the business credit card sign up bonus should be higher than a personal card signup bonus.
- The card issuer’s customer support – A card provider with great customer service can make things easier for business owners. Don’t let something as simple as bad customer support take a negative toll on your business.
Step 6: Consider a Small Business (SBA) Loan
A small business (SBA) loan is a another fantastic way to build business credit. An SBA loan often provides necessary funds to grow a small business. SBA loans generally range between $50,000 and $5 million, with the loan term generally being 10 to 25 years in length. The US SBA guarantees these loans, enabling loan seekers to receive favorable rates. Once an SBA loan is granted, making timely and full payments will help build your business’ credit.
Step 7: Be Financially Responsible
While obvious, this is easily the most important tip on this list. You must maintain responsible financial behavior in all your business’ dealings. This includes:
- Making all payments on time and in full,
- Keeping your credit card utilization low,
- Separating Personal and Business Finances as much as possible,
- And using a variety of credit sources.
Understanding and establishing business credit can be confusing at first. Use this guide to better understand business credit and the ways to build it. Excellent business credit helps businesses in numerous ways. These include better loan terms, better card rewards, and higher credit limits. However, building business credit is not an instantaneous process. It takes time and financial responsibility. Yet, it will pay off in the long run for your business.