The Levels of Business Credit
Can Business Credit Make the Difference in Your Success?
Noreen King says, Ã¢â‚¬Å“I knew it was do or dieÃ¢â‚¬Â as she built her business, Evolve Manufacturing Technologies. In a recent article in the 25th anniversary issue of Inc. magazine (page 156) she talks about how stressful it was starting her own firm — and how she did it using her personal credit cards.
Clearly Noreen King had guts and good business sense to grow her company by 2,121% (yes, over two thousand percent) in the past three years. But she relied on her personal credit cards to get started, and perhaps it didnÃ¢â‚¬â„¢t have to be that way.
One of the most frequent questions we hear from entrepreneurs who incorporate with us is, Ã¢â‚¬Å“How do I build business credit?Ã¢â‚¬Â
While there is no single formula, there is a process that allows you to establish a solid business credit rating over time.
In our experience, we have found that small businesses are usually at one of three levels when it comes to building business credit:
Level One: Whatever It Takes
Many entrepreneurial businesses have no real business credit. They use whatever method of financing they can get. At Level One, they have bootstrapped it and used personal credit cards, loans from friends and family, equity from their home, etc. And theyÃ¢â‚¬â„¢ve taken some serious risks:
1. They are mixing business and personal credit which can create major headaches at tax time,
2. They have no asset protection whatsoever,
3. Their personal credit score may sink due to the level of debt they are carrying to fund their business. This can mean higher interest rates, even on existing credit card balances.
Level Two: Wising Up
At Level Two you begin separating your business credit from your personal credit. When you get credit cards, lines of credit or trade accounts, you apply for them in your business name. At Level Two, you still will likely have to personally guarantee those business loans or credit cards, but many will not be reported on your personal credit reports unless you default. Level Two Business Credit is still valuable, however, because it helps protect your own credit rating which can be affected by too much revolving debt.
Level Three: Established Business Credit
If you are serious about small business success, you will want to move to Level Three. ThatÃ¢â‚¬â„¢s where your business establishes its own business credit, and as much as possible, keeps it completely separate from personal credit. At Level Three, you will have:
Ã¢â‚¬Â¢ Obtained credit with vendors and financial institutions that report to major commercial reporting agencies and paid them on time;
Ã¢â‚¬Â¢ Have an incorporated business for at least six months or, ideally, two years;
Ã¢â‚¬Â¢ Followed specific steps to ensure that your business appears stable and solid;
Ã¢â‚¬Â¢ Established strong credit profiles with the major business credit reporting agencies;
Ã¢â‚¬Â¢ Implemented accounting systems that allow you to generate financial statements as requested (preferably by a CPA);
Ã¢â‚¬Â¢ Have the ability to make a persuasive presentation to a lender or investor.
Ã¢â‚¬Â¢ Are using leases when appropriate to avoid debt that may make financing more difficult.
At Level Three you will find yourself with opportunities to borrow or lease without having to rely on your personal credit or provide personal guarantees. This, of course, is the level most business owners want to reach as quickly as possible. There is no magical formula or guaranteed shortcut for reaching Level Three, and some businesses may get there faster than others.
Even if you donÃ¢â‚¬â„¢t plan to borrow, it is essential that building business credit becomes a part of your business from the start. Planning ahead is crucial. As former president John F. Kennedy said, Ã¢â‚¬Å“The time to repair the roof is when the sun is shining.Ã¢â‚¬Â
About the Author
Gerri Detweiler is considered one of the countryÃ¢â‚¬â„¢s top credit experts. She has been interviewed for thousands of radio, television and print news stories including USA Today, The Wall Street Journal, The New York Times, Dateline NBC and many others. She has testified before Congress several times and worked on reform of the national credit reporting laws. With attorney and Rich DadÃ¢â‚¬â„¢sÃ‚Â® advisor Garrett Sutton, she is co-founder of BusinessCreditSuccess.com.