For small business owners and entrepreneurs, loans are often essential for growth. But a bad credit score may prevent you from getting a loan you need. If you’re in this spot, then you need to start rebuilding your credit fast!
Bad Credit = Big Problem
Despite this country’s affinity for buying on credit, many Americans still don’t fully grasp what their credit score is, how it’s calculated, or how it can affect their ability to borrow. This, of course, means they’re vulnerable and prone to making poor decisions.
A lot goes into credit scoring, but you’d better understand why credit scores exist in the first place. As SmartData Collective points out, credit scores are used to help lenders -- banks, credit unions, investors, and so on -- determine the “credit risk” they assume when they give someone money.
Early on, credit risk was determined by looking at the “5 Cs” of a borrower: character, capacity, capital, collateral, and conditions. Then came credit scoring -- commonly known as FICO -- which is a little more objective and less prone to bias.
FICO credit scores range from 300 to 850. Higher figures represent greater creditworthiness. Anything above 600 is typically considered all right, but you ideally want a score in the 700-850 range for optimal borrowing capability.
As Experian notes, credit scores are calculated using the following formula:
- 35 percent: Payment history
- 30 percent: Amounts owed
- 15 percent: Length of credit history
- 10 percent: New credit
- 10 percent: Types of credit used
Credit scores matter for everyone, but entrepreneurs may require a good score more than anyone. They generally depend on their credit score to secure financing during the launch and early growth of a business.
If an entrepreneur has bad credit, one of two things will happen. Either he’ll be denied loans and find it difficult to finance his business, or he’ll only be offered loans with extremely high interest rates and unfavorable terms. In either case, the business starts at a heavy disadvantage because of the founder’s poor credit.
If you have a bad credit score, there is some good news. Scores can fluctuate substantially, and it’s possible to move from poor credit to good credit by watching what you’re doing and making smart choices.
Five Tips for Repairing Credit
Repair of poor credit doesn’t happen overnight. It demands time and plenty of energy. Here are five practical tips for the conscientious entrepreneur.
1. Sign Up for a Monitoring Service
How can you expect to fix your credit score if you don’t actively track it? Although you may pull your credit report only once from each of the three bureaus over any 12-month period, you can monitor your credit score on a daily basis.
Thanks to handy credit monitoring services, it’s never been easier. There are many different services, but you want the one with the right features. In addition to being able to track your score, you also need to receive alerts when anything happens to affect your score. Rise’s Credit Score Plus is known for its alert features.
2. Catch Up on Late Payments
You never want to be late on payments. If you’re 30 days past due on anything, that can hurt your credit score. If you go past 60 days due, you’ll really damage your credit. The faster you can catch up on payments, the better off you’ll be.
There are various strategies for catching up. One of the most practical involves snowballing your debt. First, you grab a sheet of paper and write down all of your late payments from smallest to largest.
Then you start with the smallest one and pay whatever it takes to catch that up. Then you move to the second smallest, and so on. Not only does this approach enable you to catch up on some debts before they drag your score further down, but it also builds momentum.
3. Don’t Take Out Any More Credit
You’re rebuilding your credit with the hopes of being able to get approved for more loans someday. Now’s not the time to take out more credit.
Not only do excessive credit inquiries have a negative impact on your rating, but too much debt will raise your debt ratio and indicate to creditors that you’re overleveraged. Right now, pay off debt so you can get better terms on future loans.
4. Check for Errors
Believe it or not, credit reporting bureaus aren’t perfect. As much as they’d like you to think so, they make thousands of mistakes every year. You should not take your credit report at face value without investigating the details.
Should you find errors on your credit report, you can dispute them on your own, or with the assistance of a credit repair service. In addition to a professional service you can hire, there are DIY solutions such as Personal Credit Repair Software. Which option you pursue is mainly a matter of convenience.
5. Consolidate Fragmented Payments
For entrepreneurs with lots of debt, one of the most challenging tasks is learning how to manage all the fragmented payments. Each debt has its own bills, online accounts, interest rates, and preferred method of payment. Trying to remember all of this and prioritize can be challenging.
One option is debt consolidation. You take out a new (larger) loan and use it to pay off all of your smaller, separate debts. Now you have one payment (that one hopes features a lower interest rate). But does debt consolidation actually work?
“It can, if you work with the right partner. But it can also be a financial nightmare if you choose the wrong company,” American Consumer Credit Counseling notes. “At ACCC, we offer free credit counseling sessions where you can learn more about working with debt consolidation agencies, about debt consolidation advantages and disadvantages, and about the many other ways of paying off your debt.”
If you choose to go for debt consolidation, keep in mind that it’s merely a step toward repairing credit. Consolidating debt but practicing the same irresponsible behaviors will leave you in the same quandary.
After consolidating, you also have to get deadly serious about making payments on time and clearing up your debts. Otherwise, it’ll be all for naught.
Take Your Credit Seriously
Your credit score won’t singlehandedly lead to success as an entrepreneur, but it could scuttle your chances of succeeding. You have to take your credit as seriously as lenders do; otherwise, you’ll find yourself on the outside looking in when you can least afford it.
Instead of feeling overwhelmed by the prospect of repairing credit, try to design a systematic approach. Start with the easy things over which you have the most control -- such as making payments on time -- then progress to the more complicated steps. If you take bites in digestible chunks, you’ll be much more likely to win.