A credit score plays a vital role to acquire a business loan. It is a 3-digit number that depicts the certainty of repaying the debt. Practically, a certain limit is needed by a bank before finalizing the deal.
Just like any other lender, banks need to analyze how well businesses manage their finances. This shows how reliable the business is and whether the bank should lend them a loan or not.
The credit score differs according to the type of loan. For example, the credit score for a short term loan can be as low as 550, equipment financing can be as low as 600, etc. Besides this, loans can be given on a short-term basis but may cost more to small businesses.
How does this Work?
To have a deeper insight, banks need to evaluate the business’s credibility to measure the risk of borrowing. If the credit score is below expectations and risks are high, then banks will not make an offer. Other factors are also taken into account. For instance, personal credit score and previous credit transactions.
The three main credit companies; Experian, Equifax, and TransUnion, keep a track of businesses financial records, and other information which lets them create credit scores and credit reports. Later, these reports are further analyzed by scoring sectors like FICO and VantageScore to produce scores. The credit scores mainly range from 300 to 850.
Some important factors that reflect upon your credit score are:
The Propensity of making Payments on Time
A business is termed credible if it pays back on time. If the payment takes time to pay back the lender, then it is the business’s responsibility to apologize for the delay. By doing this, you build a good relationship with the lender. For smaller businesses, a small business loan calculator can also be used to estimate the total borrowing cost. This will also pinpoint the duration to pay back the loan, without facing a setback.
Managing good Relationships with Reputable Businesses
Credit scores are also determined by the type of relationship a borrower has with its lenders. If both parties are on good terms, then the business is on the right track.
Types of Credit Loans
If the borrower has availed different types of loans, this may affect their credibility as well. This shows how well the borrower is at managing different types of loans. Some common types of loans are auto loans, mortgages, credit cards, and student loans.
The Current Percentage of Credit Utilization
Credit utilization is the total percentage of credit that a borrower uses. The above-mentioned should be around 30% to obtain a good credit score. High credit utilization is not a good sign.
Inquiries made by Lenders on Your Credit Report
Lenders may review your credit report. Borrowers can be at risk if the inquiries made by lenders don’t reflect their good image.
Frequency of Applying for Financial Loans
Businesses can apply for loans multiple times, but this may discourage banks to lend them money. Such a desperate attempt can decline credit scores which would put the business at risk.
Apart from the above-mentioned factors, profitability and annual revenue are also analyzed. Personal factors like age, gender, marital status, race, and nationality are never considered. The reason for this is to avoid biases and have accuracy while evaluating credit scores.
According to the National Average FICO Score, 704 is the average credit score in the United States. Such an average is the ideal score to obtain any kind of financing.
Similarly, FICO divided the credit score ranges into different sets:
- Excellent Score: Minimum 800
- Very Good Score: From 740 to 799
- Good Score: From 670 to 739
- Satisfactory Score: From 580 to 669
- Poor Score: From 300 to 579
There are many ways to increase the credit score and avail of finance. For instance, paying back creditors on time, maintaining credit utilization, managing different types of finances, etc. Some lenders don’t even ask for a credit score but having one as a backup can save you the hassle.
When personal credit scores are kept separated from the business scores, the finance approval process becomes easier. This is why it is necessary to have a phenomenal business credit score on a hand.
The Final Word
Business owners who know the importance of a good credit score effectively manage their scores. They constantly work on their improvement in order to easily afford business loans for longer time periods. The best loans to avail are only given to businesses that have a credit score of 620 or above. However, there is still a chance to borrow money with lower scores than that.
All in all, maintaining a good score is the basic requirement businesses need to follow. A long-term history of being financially responsible is always a good sign for lenders. More like a green flag that paves the way for better financial understanding between them.