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The separation between a personal loan and a business loan can be painful for small businesses. 

In general, experts recommend that you make a clear distinction between your personal and business finances as far as possible. 

Constructing a business loan in addition to your personal loan is part of this equation.

To some extent, your business and your personal loan may remain linked no matter how hard you work to keep them separate, e.g., when applying for financing and do not have a credit rating to qualify; you may need to get your personal credit score involved.

Personal vs. Business Credit Score. What’s the Difference?

Business credit score

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These two assessments are often independent of each other and measure different things. 

  • Your personal credit score measures your creditworthiness, i.e., the ability to pay off the debt. 
  • Similarly, the business credit score measures the ability of your business to meet its financial obligations. 

 

Let’s dig each of them:

What is Personal Credit?

Your personal credit score helps the lender assess whether to offer you a loan or not, how much to lend, and on what conditions (e.g., APR, collateral requirement) to lend it. 

Although different personal credit valuations have different ranges, one thing never changes. The higher the valuation, the more financially secure the borrower is.

What determines your personal credit score.

Three credit report offices (Equifax, Experiment, and Transunion) assign you a credit score using variations of the FICO Score algorithm.

 

With a range of 300 to 850 points, FICO’s personal credit score consists of five key components. 

  • Payment History (35%): An essential factor in the FICO valuation is your payment history in relation to your creditors. The ability to pay on time is the first thing that creditors pay attention to.
  • Amounts owed (30%): The whole point of finding a high credit rating is to be able to borrow money when needed. Money does not necessarily make you a high-risk borrower. However, maximizing the use of your credit cards and keeping your credit card balance high for several months will harm your FICO score.
  • Credit History Duration (15%): It takes time to get a good credit score. Generally, the longer the credit history is, the higher your FICO credit score will be.
  • Credit Mix (10%): different types of debt exist e.g., retail cards, credit cards, car loans, and more. Without a particular form of debt, FICO cannot determine your score. Therefore, to start (and multiply!) your score, you must be responsible for credit cards and credit card installments.
  • New credit (10%): FICO believes that several new credit accounts started in a short timeframe increases your credit risk.

Tips to Boost Your Personal Credit Score

Automatic loan payments

Since the timely payment of your credit is 35% of your FICO score, sign up for automatic payments on all your credit accounts.

Another option is to schedule payments using an invoice payment service provided by your bank or a third-party service like Mint.com or MyCheckFree.com.

Adjust your due dates 

You don’t have to agree to a term that’s poorly calculated based on your salary. Except for mortgages, most payment terms can be adjusted with a quick phone call. Depending on the lender, the change may take two to three settlement periods.

Aim for a credit utilization ratio below 30%

Whenever possible, pay your credit cards in full, month after month. If this is not possible, try to ensure that the balance on each card does not exceed 30% of your credit limit. 

 

A usage ratio of less than 30% on all cards is a sign to lenders that you are managing your credit responsibly.

Handle new credit carefully 

Jumping on too many of these amazing discounts for opening shop cards will eventually catch up with you. With every opening of a new account, your FICO account is gaining momentum. So only open a new card when you need it.

Don’t close older accounts 

The number of years you have held each of your cards affects the length of your credit history. By closing the oldest account, you can significantly reduce the length of your credit history and adversely affect your personal credit score.

Get your free credit report annually 

They use your credit history to determine your creditworthiness, so it is vital to ensure that your credit report is accurate. 

Every 12 months, request a credit report to assess your creditworthiness. Make sure that all your personal information, including your SSN and mailing address, as well as the bills listed, are correct. To avoid any inconsistencies, follow the instructions in your credit report or file a dispute online with Equifax, Experian, or TransUnion.

 

Annually Credit Report

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What is Business Credit?

Also known as trade or commercial credit score, your business credit score helps financial institutions determine whether you worth the debt financing or not. 

So, a good business credit score can improve your chances of getting a business loan. You are also likely to get a much better deal.

Alternatively, a low score may mean higher interest rates and, in some cases, may even disqualify you from receiving a loan.

Besides, sellers and suppliers often check your business credit score when considering whether to invoice you based on Net 30 or Net 60.

 

What determines your business credit score

Like the SSN for individuals, the Employer Identification Number (EIN) allows the IRS and Credit History Office to track your business activity. If your small business is registered and has an EIN, registering it with Equifax, Experian, or Dun & Bradstreet is the first step to establishing your business credit score.

Equifax 

Using your business’s payment history, loan-to-loan ratio, age and size, demographics, and public documents, Equifax measures your small business credit score between 101 to 992 points on the small business credit risk scale for financial services. 101 to 816 points on the small business credit risk scale is the range for suppliers. Equifax also takes into account the personal credit score of the owner of the small business.

Experian 

In the range from 1 to 100, Experian’s business credit score takes into account the same factors as Equifax. Experian collects data from lenders and suppliers that have provided your business with a line of credit or borrowed money and compares all this data with similar data in the same industry.

Dun & Bradstreet

Dun & Bradstreet PAYDEX report focuses on your one-year payment history, financial stress assessment, and other data from at least four sellers. It uses a 100-point scale to rank your PAYDEX business.

Tips to Boost Your Business Score

Set up credit lines with suppliers and vendors 

You need data to create a credit evaluation of your business. Dun & Bradstreet requires at least four suppliers to report on it. Take the time to build relationships with suppliers and vendors, so they are willing to sell to you on credit for 30 to 60 days. 

No matter how small a supplier is, he or she may be a future sales guide for your business when you want to apply for a loan for your business.

Timely payments 

Payback vendors and suppliers on time. Not only will this help you create a solid payment history, but it will also increase the chance that these companies and individuals will report your payment history to the credit history office.

Aim to cover all your debt obligations with net profit

Even if your business has a $100,000 credit line – it doesn’t mean that you have to borrow all of it (duh).

A useful rule of thumb is that your net income should be at least equal to your annual debt. It is demonstrating that the cash flow of your business is sufficient to meet its obligations. That has a positive impact on the credit score of your business.

Request a credit report for your business today 

If you have a couple of months instead of a couple of weeks, requesting a credit report will help improve your business’s credit portfolio. 

Building a business loan takes time, so it is useful to get an idea of what your current score is and which areas can be improved. Some credit bureaus, such as Experian, will provide you with reason codes to help explain your assessment and advise you on how to improve it.

Ensure that your report is accurate

If you find an error – report it immediately to the appropriate office using supporting documents. Pay special attention to errors in the information contained in public documents. 

Bankruptcy, court decisions on debt recovery claims, and creditors’ legal rights to seize your property over the past seven years may result in an automatic rejection of your loan application.

Do I Need a Business Credit Score?

Yes, because credit evaluation of a business helps to separate business from personal finances. During the application process, your underwriter will review additional documentation, such as bank statements or business loan reports. 

 

Separating your finances is vital for two main reasons:

Tax purposes 

Although you may qualify for an extensive list of tax deductions as a small business, you need to provide the appropriate supporting documentation. In case of an audit, you should be able to prove that each deduction is an actual expense directly related to your business. If you cannot explain this, you may be subject to penalties.

Liability for Debts

Establish a separate legal business entity 

Choose the legal structure for your business that best suits your unique situation. If you are considering a corporation, consult a lawyer and accountant to have a good understanding of the applicable rules, including tax reporting, compliance, and general operations.

Apply for an EIN online for free

You will need this to stay up to date with small businesses, report to the IRS, and set your business’s credit rating. Therefore, you should apply for an EIN online for free

Establish a business credit score

Because it is supporting evidence that shows your business’s payment history, it wouldn’t hurt to take out a loan to stimulate your business growth and establish a credit score.

Start a business checking account and credit card 

Statements from these accounts are the appropriate supporting documents for tracking business expenditure.

Hire a professional bookkeeper or accountant 

The combination of financial resources may lead to the opposite result when submitting a tax return or credit application. You may misunderstand what can be considered personal debt.

You may also have business debts that you forgot to include in your financial statements. 

Hiring a professional bookkeeper or accountant will allow you to focus on your core business. It will also help you better comply with legal and business requirements. When assessing accountants, pay close attention to their rates and range of services.

Hire an accoutant

Photo by William Daigneault

To sum up

There is no magic solution for improving credit scores. However, thanks to professional advice and a carefully thought out work plan, your personal and business credit score can be increased much faster than you expect.