Many small business owners use their own, personal bank accounts and lines of credit to finance their businesses. This is quite common, with surveys showing that as many as 67 percent of small business owners built their businesses from solely personal funds, instead of using some forms of business lending or investor capital.
Furthermore, as many as 50 percent use their own credit for business purchases, instead of obtaining credit in the name of the business.
This can be a risky way to finance business purchases, because the individual is assuming full liability for the debt, regardless of how the business may be organized. If the company is sued, the individual may be liable for the debt, and the credit score and history of the individual is also in jeopardy.
Self-financing for startup costs may be unavoidable for the smallest ventures and first-time entrepreneurs, but there are many ways to establish business credit and accounts that will relieve the owner of personally backing the financing of routine operating costs, inventory purchases, and other expenses. These simple steps can help businesses get started building credit histories in the name of the business.
1. Set Up a Legal Business Entity
Depending upon where your business is located, and where it conducts business, there are several ways in which the business can be set up. Corporations, at the highest level of complexity, offer strong protections for the individuals who own the business, but require the strictest levels of oversight and financial governance. Most small businesses in the U.S. are established as an LLC or S-Corp, which offer varying degrees of legal protection for the individuals, along with differing tax requirements. Small business owners should consult a public accountant to determine which business entity type is most appropriate for them. In the U.S., most business entity information is maintained by the state in which the business is located. It is important to keep this information up-to-date, along with any necessary business licenses and regulatory fees.
2. Get a Business Bank Account and Credit Card
Once the business has been established as a legal entity, it is important to maintain proper financial records and to establish a bank account in the name of the business. This account should be used only for business purposes. Likewise, business credit cards should be used only for actual business expenses. Mixing business and personal funds can be detrimental to the business, and in case of audit, can lead to penalties by the IRS or state taxing entities.
3. Get Tax ID Number/EIN
For American consumers, their Social Security Number is used as the primary identification by credit bureaus for tracking individual histories. For businesses, an Employer Identification Number (or an alternate Tax ID number) is used by business credit bureaus like Dun and Bradstreet, Experian and Equifax, and is used on business credit applications, allowing creditors or suppliers to run a simple electronic verification and determine the business credit score.
4. Business Phone Number with Directory Listing
While fewer people these days have actual land line telephones, it is still an essential component of having a verifiable business. Even if the business may be run out of a home office, having a land line, with a basic business directory listing that can be reached by calling information (411), makes the verification process by creditors easier. If the business has a separate physical address, then having utilities, such as electric and gas bills, in the business name is also recommended.
5. Financing Purchases from Suppliers – Office Supplies
Depending on the type of business that is being established, different types of credit may be available. For those who utilize suppliers, these companies often offer revolving lines of credit. General office supply companies and stores offer the same benefits, often with payment terms of net 30 or net 60, meaning the business has that long to make payment in full, before penalties or interest apply. Establishing credit relationships with positive payment histories with these suppliers can help build good business credit.
6. Pay On Time, Use Electronic Payments
As with personal credit, paying on time is a key to building good credit. Recent advances in online payment systems make it easy to pay bills immediately when they come in, or to schedule payments so that they are not late. These automatic bill payment systems can also result in savings, since some suppliers may offer discounts if the bill is paid early. Your credit score is dependent not only on your payment history, but also on how you use your available credit. So, try not to keep outstanding debt on your credit lines or cards near their maximum limits.
7. Monitor Your Business Credit Score
Discrepancies in credit reporting can adversely affect scores. It’s a good idea to regularly review business credit histories to make sure that there are no errors that may affect your business’ credit worthiness.
The Bottom Line
Establishing a solid credit history in the business’ name will help make the business more financially stable, and relieves the owner from having to rely on his or her own personal finances when business credit is needed. As with individuals, a better credit score can make it easier to obtain lower interest loans, business credit cards, and arrangements with suppliers.