by Serenity Gibbons
February 27, 2018
by Serenity Gibbons
February 27, 2018
Your credit score says a lot about you. It has a major impact on how you live your life—at least, financially. In your personal life, your credit score will likely affect what mortgage you can qualify for, what types of credit lines you can open, what jobs you get, or what apartments you can apply for. Sometimes, a fair credit score can get you want you want, but it’s better to have a high credit score.
The same goes with starting a business and that credit score. However, most people don’t realize that, as an entrepreneur, your credit score can also affect your business. And, that’s even if you’re running a small operation. What if you have a low credit score say in the “fair” range? Does that mean you should avoid starting a business altogether?
Let’s start answering that question by addressing how a credit score affects your business. Your individual credit score is used as an indicator of trustworthiness for banks and other financial institutions. However, it can be accessed by anyone willing to pay the fee to look it up.
Just like your credit score will qualify you for better loans in your personal life, a better individual credit score can help you get better business loans. If you’re taking out a loan to get the business started, banks will use your credit score as a major deciding factor. It will determine whether they extend you credit and the terms and interest rates to establish. Even when your business develops its own credit score, you may wish to take out a personal loan to continue funding it. In these cases, your personal credit score will still take precedence over your business credit score.
Angel investors and venture capitalists (VCs) offer two distinct avenues for attracting funding for your business. Both channels require you to make an impression on some very judicious businesspeople. It’s true that these people will look at your business plan and long-term financial models. However, they’re also going to be looking at you as a person. They want to know if you’re a solid, reliable leader who can lead the business to its true potential. If you have a low credit score, they may think twice about your ability to manage finances.
Though not always the case, having a higher credit score is typically associated with a higher level of success. Those with low credit scores have a history of missed payments. They also have more debts than their high-credit-score counterparts. Having access to more resources, and fewer debts to worry about means you can dedicate more time and money to your core business. Accordingly, starting a business with a low credit score means your business could be built on a shakier foundation (with fewer bailout options when things get rough).
No matter how good your business idea is, you aren’t exempt from the statistical probability that your business will eventually fail. If your credit score is already low, a business failure could leave you unemployed for a prolonged period of time, or leave you with even more debt than you initially started with. In other words, starting a business with a fair credit score could take a bad situation and make it much worse. Having a good credit score means you won’t be impacted as significantly if your business ever goes under, giving you a higher likelihood of riding it out.
Throughout this article, we’ve made reference to a “fair” credit score as an indication of quality, but what does that actually mean? Your credit score is going to fall somewhere between 350 and 850, and while individual companies might differ in terms of semantic definitions, generally you can think of “excellent” credit scores as being 750 and above, “good” credit scores between 700 and 749, “fair” credit scores between 650 and 699, “poor” credit scores between 550 and 649, and “bad” credit scores below 550.
An excellent credit score will easily give you access to all the advantages in the preceding section, and even a good credit score should give you access to most of them. Conversely, you definitely won’t be able to start a business with a bad credit score, and you’ll face significant obstacles with a poor credit score.
Fair credit scores won’t close every door available to you, but will make things significantly harder than if you had an excellent credit score; for example, you may not qualify for as many loans, and you may not make as good of an impression on interested investors.
Fortunately, there are some alternative options for people with fair or poor credit scores, to compensate for not seeing the full advantages of a higher score.
First, you should know that there are plenty of personal loans available for those with fair (or lower) credit scores. If you’re confident that your business will generate enough revenue to pay back those loans, they may be worth taking out. However, loans specifically designed for people with lower-than-average credit typically come with higher interest rates as a way to offset the increased risk of extending them credit. If you don’t pay those loans off relatively quickly, you could end up in even more debt.
Potential investors are going to look at far more than just your credit score to judge your character. You can make up for a low one by providing them with trust factors in other areas. For example, you can come to them with more entrepreneurial experience. Other trust factors include a proven track record of professional success. Also, you can nail your presentation and interview to make a solid impression. If they’re impressed enough, they may not be concerned with your credit score.
You don’t need to have a high credit score to accumulate some extra capital. Even if you have a low credit score, you can start saving more money to fuel your entrepreneurial endeavors; for example, if you set aside $300 a month, you’d have $3,600 within a year, which is more than enough to get a small home-based business started. If you can get enough money to fund the business on your own, you won’t have to worry about loans or impressing other investors at all.
There is another option available to you, if none of the above alternatives works out: you can invest in improving your current credit score, until you’re in “excellent” territory.
First, and most importantly, you need to commit to making all your payments on time in the future. Missed and late payments are the biggest detractors from your credit score. Automating your payments, whenever possible, is a good way to keep yourself on track here. Make a budget, understand exactly how much you need for every area of your life, and make sure you set aside enough money to keep everything paid.
Next, work on reducing some of your debts. Your debt to income ratio is a major factor in your credit score. The less debt you have (in general), the better position you’ll be in. That means making more than minimum payments every month, and gradually working to eliminate your debts altogether.
Try not to apply for any new lines of credit. The number of accounts you have open plays a role in determining your credit score. Any attempt you make to open a new line of credit could work against you. That doesn’t mean new credit is entirely off-limits, but avoid it whenever possible.
Unfortunately, it takes time to repair a credit score. That can mean months or even years, depending on your original score and how fast you pay off your debts. You’ll need to remain consistent with your financial strategy throughout that time, and remain patient to ensure your eventual success.
We’ve established that it’s harder to start a business with a fair credit score than an excellent or good one and that it’s definitely possible to start a business with a fair credit score if you compensate for it. But is it worth compensating for? Or should you focus on improving your credit score before you start a business?
The answer will vary depending on your goals, your risk tolerance, and whether your business model demands immediate entry. There’s no straightforward or universal answer here. All you can do is equip yourself with as much information as possible before you make your final decision.