Preparing for a Successful Loan: Credit Tips (Business Sense Column)

Wed, 2016-05-11 11:47 -- Susan

OCTOBER 20, 2015

Starting a business doesn’t always mean borrowing money. Many businesses begin with very little capital.  Those scrappy start-ups can turn into the industry leaders we know today.  Jessicurl started as a concoction made in a kitchen.  Holly Yashi jewelry was made in a garage. Countless businesses are running today having never taken out a loan. If they’ve grown significantly, though, it’s likely that they had to at some point.

If the time comes that you do need financing to expand inventory, buy equipment or even buy commercial property, you’ll want to be poised for borrowing success. There are things you can do today to prepare for a successful application in the future.  Even if you never apply, these practices will help you build a stronger business.

A lender will look at: Your credit rating, financial records, assets and how can they be used as collateral, and the assumptions you made on your projections. Today, I want to talk about the first point: Your credit rating.

If you’re a small business owner, lenders will look at your personal credit scores as well as your business credit report.  This is the case whether you’re a sole proprietor, a partnership or a Limited Liability Corporation (LLC).  While filing as an LLC does have some liability protections, almost all lenders will require a personal guarantee on a loan, which will make each owner liable for repayment.  Any loan funds that come from a federal source will require that all owners-partners with 20% ownership have a credit check and guarantee the loan.

In addition to personal credit reporting agencies, lenders will often look at reports from business reporting agencies like Dunn & Bradstreet. These agencies will include the usual sources for credit information and they may also look at some payments that personal credit agencies don’t, including vendor payments and some utility bills. Judgments, tax liens and other public information will also be considered.

A revolving line-of-credit is a popular, and often misunderstood, form of financing for a business. It can help establish good credit. Use it incorrectly, and it can have a negative effect even if you pay your bill regularly.  The purpose of a line of credit is for cash flow, which means spending it on inventory or working capital then replenishing the line by paying it off.

Do not use a revolving line of credit to purchase business assets, such as equipment or vehicles.  It is not like a personal loan that is paid back a little bit at a time. In fact, a rule of thumb is that a line of credit is paid off completely at least 30 days of the year to show that it is being used properly.  When an account is not maintained can be “termed out,” which means that the line of credit becomes a fully amortized loan with fixed payments.  At that point, it is no longer accessible to draw from.

For information on the other key components for preparing a successful loan, visit aedc1.org.

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