Are you applying for a business loan? Did you know that the lender may look at both your business and personal credit scores before approving your loan?
Though your business credit profile and your personal credit score are different and represent different information regarding your finances, they both play a crucial role in impacting business loan eligibility.
Continue reading to know more about how personal credit scores impact a business loan.
Why is your credit score crucial for loan approvals?
Irrespective of the type of loan you’re applying for, lenders will scrutinise your credit history to determine your creditworthiness and evaluate the risks associated with offering you a loan.
- Your credit score plays a crucial role in determining the loan outcome. Low credit scores make it difficult for you to find a lender who will approve your loan application.
- Besides loan approval, credit scores are also used to determine the rate of interest. Even though you may get a loan with low credit scores, you do not qualify for the best interest rates. When your credit score is poor, you’re considered a risky borrower, and the lender charges higher interest rates on your loan.
The credit history and score show the lender how well you have managed your debts in the past. It tells them critical details about your credit behaviour – whether you make loan payments on time, the other debts you owe, and whether you have ever defaulted on payments in the past. These factors help lenders make an informed decision on whether to offer you a loan or not.
Why is my personal credit score part of a business loan decision?
When you set up a business/company, it’s common to assume that your business’s identity is different from your personal identity. However, for small businesses, startups, and entrepreneurs – the reality is that – the founder/proprietor is seen as the company’s face. As a result, when you apply for a business loan, the lender also considers your personal credit history and score to determine your business’s value.
This is especially true when your business is in the initial stages, and you’re just getting started. New companies very often do not have sufficient credit history for lenders to rely on. As a result, lenders look at other reliable factors like the personal credit scores and history of the business owner to decide whether to sanction the loan or not.
To summarise, most lenders decide loan eligibility based on the creditworthiness of the business owner as well. When they see that the business owner has a good credit history, they feel confident in extending a business loan.
How does personal credit scores impact different types of businesses?
Generally speaking, the impact of a personal credit score on a business loan is more, especially when the borrower is a small business or a startup. Let’s take a look at how personal credit scores impact the loan eligibility of different types of companies.
- Sole proprietorship – If you run a sole proprietorship, then the lender doesn’t differentiate the applicant’s personal credit score from the business credit score. In sole proprietorships, the business owner is seen as the face of the business and is responsible for all the liabilities of the company. In this case, your personal credit score acts as one of the crucial deciding factors for your business loan eligibility.
- Partnership – Similar to sole proprietorships, the partners are considered liable for the debts of the business. Hence, lenders consider the personal credit score of the leading partners before granting a business loan.
- Limited Liability Company – In LLPs, the business has a separate corporate identity. The liabilities of the business are not seen as the liabilities of the shareholders. However, there are still chances for the lender to evaluate the directors’ personal credit scores before sanctioning a business loan.
Will a lender always look at the personal credit score of the applicant before granting a business loan?
Not always. Lenders put less weight on your personal credit score for a business loan, if:
- You have an established business track record
- Your business has a good credit history
- Your business has a long-standing relationship with the lender
On the other hand, your personal credit scores will play a crucial role in impacting your business loan approvals, if:
- Your business is a startup or small organisation without sufficient credit history
- You are just starting your business venture
The general rule of thumb here is that if the lender doesn’t have sufficient information to determine the creditworthiness of your business, they tend to weigh your personal credit score more heavily.
I have a low personal credit score. How will it impact my business loan eligibility?
Let’s take a look at the two possible scenarios:
- Poor personal credit score but strong business credit history
In this case, your personal credit score will not have a significant impact on your business loan eligibility. The lender is likely to overlook your low individual credit scores. On the other hand, if your personal credit history has several negative items on it, then the lender is more likely to factor it in the risk assessment of your business.
- Poor personal credit score with insufficient/poor business credit history
If this is the case, then you may find it extremely difficult to receive a business loan. Even if you’re approved, you are likely to be charged higher interest rates.
Bottom Line: Personal Credit Scores can impact your Business Finances as Well
While it’s common to assume that your personal finances shouldn’t impact your business decisions, the truth is that: lenders see the individuals behind the business as the face of the company.
Your personal credit score is an essential factor, and it has several impacts on your business financing needs. It determines:
- Whether or not you’re approved for a loan
- The interest rate on the loan
- The loan amount that lenders are ready to sanction
- Options for repayment schedules and other loan terms and conditions
Hence, as a business owner, you need to pay extra attention to your personal credit scores. Keep track of your personal credit scores regularly and take corrective actions if required to improve them. Take this opportunity to manage your personal funds, repay debts on time, and be credit responsible for keeping your personal credit score in perfect shape.