Why Your Personal Credit Score Matters to Lenders

When you need financing for your small business—whether it’s a working capital loan to meet payroll or a term loan to fund an expansion into a second location—your finances are going to come under the scrutiny of lenders.

Does personal credit affect business credit?

Besides checking your business revenues and examining your tax returns, lenders also take an interest in your personal credit score. While it may not seem like your personal credit rating should have an impact on your ability to borrow money for your business, it can play a major role in lending decisions. Can you get a business loan with bad personal credit?

Why your personal credit score matters to lenders

Your personal credit score is more than just a three-digit number; it’s effectively a snapshot of how responsibly you’re managing your credit and debt obligations. The two most common personal credit scoring models are the FICO score, developed by the Fair Isaac Corporation, and the VantageScore, which was created by the three major credit bureaus: Equifax, Experian and TransUnion.

Credit scores are based on the information that’s in your credit reports. Your credit report is simply a detailed list of your various debts, including how much you owe, the types of debt you have, your credit limits and available credit, your payment history, the age of your accounts and how often you’ve applied for new credit. Each of these factors impacts your score differently but they’re all included in your personal credit score calculation.

So why would a small business lender care about your personal credit habits? The answer is relatively simple. Lenders have a vested interest in knowing how likely a borrower is to be able to repay a loan. While your personal credit score isn’t a direct indicator of how healthy or profitable your business is, it speaks volumes about your financial soundness.

If, for example, your credit score is low because you have a history of paying bills late, that could suggest to the lender that you’re likely to miss your due dates on future loan payments. If you’re maxed out on several credit cards, a lender might assume that you’re desperate for cash and view you as a higher risk.

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Can you get a business loan with bad personal credit?

Getting small business loans with bad personal credit can be difficult. Lenders may be more reluctant to lend, or if they do, they may charge you a higher interest rate for the loan. Your personal credit score can also affect things like your insurance rates or whether you have to pay a deposit to get electric, phone, water or Internet services for your business.

How to raise your personal credit score

Improving your personal credit score is often just a matter of practicing some good financial habits. If your score isn’t as high as you’d like, here are some tips that could help boost your credit rating:

  • Pay your bills on time. The single most important thing that affects your credit score is your payment history. Paying late can knock major points off your score, which is the last thing you need if you’re angling for a small business loan. Scheduling automatic payments from your checking account to your credit cards, loans, utilities and other bills each month can take the hassle out of keeping track of due dates.
  • Keep your credit card balances under control. After payment history, your credit utilization ratio is the next thing that carries significant weight with your credit score calculations. This ratio reflects how much of your available credit you’re using. If you’re using credit cards for personal or business expenses, it’s best to keep this at 30 percent or less. Even better, aim to pay off what you charge in full each month.
  • Mix up your credit usage. One thing lenders look for when checking your personal credit report and score is the types of credit you’re using. Banks and online lenders want to know that you’ve got experience using different types of debt, including credit cards, lines of credit or loans, and that you’re handling them responsibly.
  • Be choosy about applying for new credit. When a lender checks your credit report, it creates what’s known as a hard inquiry on your report. Each new inquiry can shave a point or two off your credit score and inquiries stay on your credit report for two years. To minimize any potentially negative impact on your score, limit yourself to applying for credit cards or loans only when you truly need to.

The bottom line

Personal credit scores can make or break you when it comes to applying for debt financing. Before applying for a loan, take time to review your credit reports and score, then compare that to what the lender’s credit requirements are. If your score is above the cutoff a lender expects, then qualifying for a loan may be smooth sailing. In some situations, you may need to acquire a personal loan to start a business. However, putting the tips outlined above into action could help you turn a low score around so you can get the financing your small business needs to succeed.

This article is updated from its original publication date of June 16, 2017.

This is not intended as legal advice; for more information, please click here.

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