If you’re a small business owner looking for a business loan, you might be wondering why lenders want to know your personal credit score.
It makes sense that they’d review your business’ financials, your business plan, and your business credit score, which shows how creditworthy your business has been since you applied for an Employer Identification Number or took out a business credit card.
But if your business credit and your personal credit are separate numbers, why should business lenders care about your personal credit history?
In many ways, your personal credit score is one of the most important factors that a lender can review when looking over your loan application. Let’s examine why:
What is a personal credit score?
As you might know, your personal credit score tells people how creditworthy you’ve been throughout your personal financial life.
As you repay (or fail to repay) personal loans for college, or your credit card debt, or the mortgage on your house, lenders report your history to credit bureaus like Experian and Transunion. If you pay your bills on time, don’t max out your existing lines of credit, and avoid charge offs and other negative reports, you’ll have a good-to-excellent personal credit score.
For many of us, a personal credit score is our first, and most important, calculation of how creditworthy we are.
Why do business lenders care about personal credit?
There’s a fairly obvious answer to the question of why business lenders care about personal credit: Why shouldn’t they? Quality business lenders will give you a loan only if you are a good bet to pay them back. If there’s information out there that tells them otherwise, they’ll want to know about it.
There are other reasons why personal credit is a useful factor for lenders to consider, however.
For one, many small business owners, such as sole proprietors and home-based business owners, fail to actually establish a business credit history. They use their personal bank account or credit card to finance their business, or took out personal loans in the past to fund their operations.
Another possibility is that your business is so new that you haven’t had a chance to develop a comprehensive business history. Startup business loans can be difficult to obtain at affordable terms, but they become more affordable if you have a demonstrated credit history—even if that history references your personal credit.
Finally, unlike your personal credit score, your business credit score doesn’t remain with you for life—it stays with the business. If you owned a business and sold it to someone else at some point, that score goes to the new business owner. Your personal credit score, therefore, truly tells lenders how creditworthy you’ve been—not just recently, but over the course of your life.
How can poor personal credit affect my business loan?
Let’s say you’ve been a responsible business owner, and your business is in an excellent place. You’re poised for big numbers and success down the road. You’ve been in business a long time and you meet all the requirements for an elite business loan—except one: your personal credit score is lacking.
How might that affect your chances with a business lender, or if you’re applying for an SBA loan—which has some of the best rates, but also some of the strictest loan requirements on the market?
The truth is, once your personal credit score dips below 650, it doesn’t matter how good your business financials look—you’re going to get denied. This is especially true for elite loan options like the SBA 7(a) loan, or loans from banks.
You may be able to swing a loan from an online lender, since their requirements are less stringent and take into account a variety of factors. But if you do get accepted, it will be at rates (interest rates, repayment terms) that are much less friendly to your business.
Personal credit and business loans: Next steps
If you have a poor personal credit score and want to apply for business financing, your first step is to clean up your personal credit history and get back on the right track in your personal spending life. Check your personal credit history now if you aren’t sure how strong your score is at present.
Do this before you apply for a business loan. You want your case for a loan to be as strong as possible going into the application process, and as we’ve seen, a strong personal credit score is a pillar of your case.
In a perfect world—one where you’ve separated your business and personal spending early on—your business and personal credit wouldn’t affect each other. That doesn’t mean, however, that lenders don’t take them both into consideration when reviewing your application for a loan. Your credit histories are parallel stories, and both make a difference when it comes to acquiring the best business funding possible.
Personal debt and credit issues are, of course, problematic for you in ways that go far beyond your need for business financing. Look into your best options for improving your personal credit now, even if you aren’t a business owner—and if you do become a business owner in the future, you’ll be all the more prepared.
About the Author:
Eric Goldschein is a staff writer at Fundera, a marketplace for small business financial solutions. He covers entrepreneurship, small business trends, finance, and marketing.