When prospective entrepreneurs ask me what they can do before they start their business to increase their chances of success, cleaning up personal credit is always on my list of recommendations.
Before the recession, banks relied on a startup entrepreneur’s personal credit score plus pledged assets to guide their lending decisions, especially for the popular Small Business Administration 7(a) loan program. Then, an acceptable credit score was in the 600s. Today, entrepreneurs will need at least 700 to get a hearty hello from bank lenders.
Ambitious entrepreneurs and business partners who want to tap well-established angel investment clubs or venture capital funds for business funding should clean up bad personal credit ratings too.
Investors are not at all forgiving to entrepreneurs who have a long history of poor money management. They reason, “If someone can’t handle their personal finances, how can he or she be trusted to manage thousands or millions of dollars to grow a profitable business?” It’s a fair concern.
Personal credit can also be a factor in small businesses that apply for big money federal contracts as a prime contractor or sub-contractor to a larger corporate supplier of goods and services to the government.
Managing a business well involves anticipating problems before they really become a problem. Here are some strategies to improve your credit history and credit score before you go into business.
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Check personal credit reports for accuracy
Each year, individuals can receive copies of their credit report from three leading agencies through AnnualCreditReport.com or by calling 877-322-8228. Any errors on these credit reports can lower an individual’s personal credit score. It generally takes credit agencies 45 days to correct a report. If the agency fails to make corrections, file a complaint with the U.S. Federal Trade Commission, with a copy to the credit reporting agency. You do not have to sign up for costly credit monitoring services to obtain a free credit report or make corrections to your report.
Learn about micro-loan programs
When entrepreneurs decide to get a business loan, they automatically think they need to visit their local bank. Here’s another option that is not well known: micro-lenders. Many micro-lending centers around the U.S. don’t rely on an entrepreneur’s personal credit score to receive a first business loan. That’s good news to startup entrepreneurs with poor credit histories. Even better, the interest rates associated with micro-loans can be less than cash advances from credit cards and other kinds of small business debt.
Click here to get a free list of micro-loan centers in your state. Some of these micro-loan centers also include free or low-cost business planning assistance services.
Learn strategies to improve your credit score
There are several ways to improve a credit score over time. Success is all about making incremental steps to demonstrate a reliable pattern of payment and reduced debt obligations.
Pay credit cards that are close to their credit limits first. Your credit score will increase to the extent you can lower your percentage of outstanding personal debt against your total available credit lines.
Consumer finance experts also often encourage individuals to keep credit card lines in place. Unfortunately a closed credit card account can be perceived as a negative event, lowering a future entrepreneur’s personal credit score.
But here is a little known, but important, secret for prospective entrepreneurs: Borrowing and paying back a small amount from a micro-lender to start a business can improve your personal credit score. First loans from micro-lenders can be as small as $500.
Communicate with unpaid vendors
Pre-startup entrepreneurs who can’t pay a personal obligation or business obligation in full should call or visit the vendor to re-negotiate payment terms before the vendor sends the account to a credit-damaging collection agency.
Here’s one extra tip: If you plan to go into business with a best friend or business colleague, share credit history information with each other before you partner. If a prospective partner has a low personal credit score or has filed for personal or business bankruptcy during the last seven years, your new company will be disqualified from getting bank loans on the best terms possible.
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