How First Time Business Owners Can Improve Their Credit to Qualify for Better Loan Terms

Key Takeaways:

• How lenders evaluate borrowers for first time business owner loans and why is credit an important factor in the process

• Difference between personal and business credit and why must they be kept separate

• Tips to improve credit and mistakes to avoid before applying for first time business loans

• SBA loans and their expectations for first time borrowers

Starting a business in the United States can be financially demanding. There comes a point for most small business owners when outside funding becomes quite necessary. Whether it is to purchase commercial real estate, buy specialized equipment, or to maintain healthy operations and cash flow. This is why many entrepreneurs rely on small business loans.

However, for new entrepreneurs, access to capital can be difficult as it often depends on credit strength. This is especially true for first time business owner loans. Lenders usually rely on credit to determine whether the borrower is reliable for repayment or not. They use credit strength as a factor to assess risk, to determine interest rates for a loan, when setting loan amounts, or the terms of repayment on a loan.

For a new business with limited history, credit often carries more weight than revenue in funding decisions. This is why credit improvement is generally considered as a practical starting point for first time business owner loans.

This article explains how first-time business owners can improve both personal and business credit to increase their chances of loan approval. Also get insights on how lenders evaluate business loans for first time business owner and common mistakes for borrowers to avoid.

Why Credit Is So Important for First Time Business Owner Loans?

Many startups do not have a long track record of operating, have a lack of cash flow, or are in the process of developing their business plan. As a result, many lenders look at the credit record of the person applying, to make their funding decision for first time business owner loans. This is a typical practice among lenders offering small business loans for first time business owners.

Credit is not only important in terms of determining whether you qualify for a loan or not, but it also impacts many other aspects of the loan process. Your credit rating will affect your interest rate, how much down payment will be required, and whether the lender may require a guarantor. Credit history can also serve as a substitute for a lack of experience for first time business owner loans.

Personal Credit vs Business Credit: Understanding the Difference

As a person handles debts, personal credit is also how individual handles debt (personal credit cards, mortgage, auto loans). Its score is generally based on FICO scores and other similar industry scoring systems.

On the other hand, business credit is a company's record of paying its obligations. Business credit can be tracked through various credit reporting agencies such as: D&B Training, Experian Business, and Equifax Business.

Additionally, for first time business owner loans, the personal credit score of the borrower becomes the criteria to evaluate whether they meet the minimum requirement. Most lenders may require the borrower to provide their personal credit history, including a FICO score and/or other forms of identification, prior to approving any type of funding for a small business loan.

How Lenders Evaluate First Time Business Owner Loans

While every lender's process will differ slightly, the majority of the items that want to see are the same. In terms of evaluating first-time business owner loans, lenders generally look at the following factors:

• Personal credit score

• Business credit history

• Cash flow projections

• Type of business

• Business purpose for the loan

For new Businesses, the aspect of Creditworthiness typically has a greater impact than revenue generation. This is common with business loans first time business owners apply for. Having an excellent personal credit score can provide access to much lower interest rates and possibly longer terms.

Establishing Credit as a New Business Owner

As a new business owner, the borrower should take steps to establish credit for their company. While establishing credit takes time, the first step should be to legally form their business whether it is a for-profit or nonprofit entity.

The second step generally is to acquire an Employer Identification Number (EIN) from the Internal Revenue Service (IRS). New business owners should also consider opening a business checking account so that they have separate accounts for their business and personal finances.

Having separate accounts helps borrowers in establishing credibility as it is mostly preferred by lenders who are offering new business owner loans.

Improving Personal Credit Before Applying for First Time Business Owner Loans

First time borrowers must consider their own credit history to determine how good the chances are of qualifying for their first time business owner loan. The best way to increase it is with time and consistency, by consistently checking their Credit Reports.

One of the biggest factors in determining an individual's credit score is how many times their account has been paid on time or late. According to myFICO, the payment history makes up roughly 35% of an overall FICO score. .

One way to help to improve the overall credit score is to reduce how much money you owe to creditors. Having lower utilization of your total available credit will increase your chances of obtaining credit approval. These are some of the important aspects that entrepreneurs must remember when applying for first time business owner loans.

Building Business Credit Over Time

Business credit is not automatically established; it has to be built over time and on purpose. The first step to building business credit for most people is usually to set up vendor accounts with suppliers who report payments to the business credit reporting agencies. The next step is to use a business credit card in a responsible way. Business owners must keep the balances manageable and make payments on time.

Establishing separate bank accounts for personal and business finances gives a clearer picture of each company's financial health, thereby helping to protect the owner's personal credit from negative reporting due to problems with the company's finances. These habits support access to business loans for first time business owners over time.

Correcting Errors on Credit Reports

Credit reports issued by credit report agencies may contain errors. Because of these errors, some consumers may find that they are unfairly penalized by having an ineligible credit score due to an incorrect entry. Therefore, the Federal Trade Commission (FTC) encourages consumers to regularly check their credit reports.

It is possible to file dispute in your credit report through the credit bureaus online. Documentation supporting the dispute must be submitted along with the dispute. A clean credit report will enhance a business owner's eligibility for first time business owner loans and potentially improve their loan terms.

How Better Credit May Lead to Better Terms for First Time Business Owner Loans

Credit score is an essential part of how much you will pay to borrow. Many things contribute to Credit, like interest rates, repayment terms, etc.

When you have a good credit score, the following benefits may result in a lower cost of borrowing:

• Better fixed rate loans

• Higher loan amounts

• Fewer requirements for collateral

This is true for many types of loans, including term loans, microloans, and business lines of credit. As well as, for first-time business owner loans, a better credit report will give borrowers more options.

SBA Loans and Credit Expectations

The Small Business Administration (SBA) does not lend directly, but instead guarantees the loans made by lenders that meet their requirements. Therefore, the SBA has programs for financing startups and are known to offer a long repayment term as one of the benefits of those loans.

The SBA generally caps the interest rates, so the lender cannot charge higher than the set interest rate. One of the most common SBA programs is SBA 7(a) loan program.

Generally, most SBA lenders evaluate the credit history of the borrower and their ability to repay. Most of these SBA programs are widely used for small business loans for first time business owners.

Credit and Different Types of Business Loans

For first time business owner loans, credit is a significant factor across various financing options.

It affects:

• Approval for a small business loan.

• The terms offered for a business line of credit.

• Commercial Real Estate Financing - Business owners who use real estate will usually require a higher level of creditworthiness. The lender may also ask for down payment or a personal guarantee to secure the commercial real estate loan. .

• Working capital loans or microloans which are generally lower-level loans that do not require high levels of creditworthiness, but still require a review of a borrower's credit history.

It is very important for business owners to understand credit standards to determine which first time business owner loans will be most useful for them.

Maintaining Credit Health After Loan Approval

The habits that a business owner develops after receiving loan approval are also very important. Ongoing habits contribute to their continued ability to receive new loans, refinance current business loans, and establish further financial stability.

The benefits of a high level of creditworthiness for a business owner are included in their overall ability to maintain successful cash flow, ultimately support their long-term growth, and minimize the costs associated with borrowing.

Common Credit Mistakes to Avoid for First Time Business Owner Loans

Business owners who combine their personal and business expenses may have difficulty separating the two. Additionally, they are likely to have issues accurately reporting their financial history and may face difficulty obtaining loan approvals.

The credit scores may also decrease from each inquiry into their credit history when applying for several loans simultaneously. When starting a new business, entrepreneurs must start early to create a business credit history. Doing so may make it more difficult for borrowers in the future to obtain first time business owner loans.

Conclusion

Establishing credit isn't an instant solution, it's a long-term effort. New entrepreneurs can take advantage of enhanced options for financing by improving their credit history. Improving business credit through the establishment of a good credit history can reduce the cost of borrowing and may allow for greater freedom in their ability to finance their businesses.

First-time business owner loans can be easily accessible if borrowers maintain good credit habits. Therefore, personal credit is important for first-time business owners, as their business credit will increase over time.