Business Credit Sources

For a variety of reasons, many businesses find it necessary to borrow money at one time or another. At times like these, it is very helpful to be in a situation to strengthen your company by borrowing money and raising funds. However, because financial institutions are more likely to lend funds when times are good, it is important to take advantage of borrowing opportunities even if you don't have a dire need for the money. If you are wondering how to develop large, medium and small business credit, borrowing and repaying business loans is an important step. Building business credit in this way will increase your access to funds at times when you really do need them.

Even though you need good credit to qualify for most business loans, there are certain types of financing that you can qualify for even with very little or even poor credit. By taking advantage of opportunities like these to borrow and pay back a loan it will help you establish business credit and raise your credit rating, making it easier for you to borrow in the future with even better terms.

In order to acquire the appropriate business loan for your situation, it is important to know about all of your financing options. Not every financing option will be appropriate for your situation or business type. One example of this is that only a large business that is listed on the public exchanges can sell their bonds and effectively borrow from the public.

This chapter shows you how to find financing when you need to build business credit. It covers the types of loan programs as well as the various potential lenders to consider. Once you determine the optimal loan for your situation, then you want to try to acquire the best possible financing and repayment terms. This chapter breaks down the various options available when it comes to loan terms and provides information that will be helpful in securing these terms.

Business owners have many options ranging from personal resources to large financial institutions, when it comes to borrowing money for their company. When choosing a loan, it is important to understand the interest rate included in the terms of the loan and how your credit history can be a determining factor on the quality of these terms. The best way to work towards qualifying for the best business loans possible in the future is to be a good lender by keeping your agreements, making payments on time, and repaying all loans when they are due.

Loan Types

When applying for financing for your business, you can either consider a personal loan or a business loan. When applying for a personal loan, your individual credit rating and personal assets are considered. When applying for a business loan, your company's business credit and resources are considered, as well as the personal credit of the owner. How do you determine which type of loan is best for you?

The best possible business loan is one that is based solely on the company's credit and assets. In this situation, the lender can only seek retribution from the business if the terms of the loan are not met. All of the owner's personal assets and personal credit rating are fully protected. However, these types of loan programs are very rare, and only the most qualified companies are usually approved.

A more common type of business loan takes into consideration both the company's credit and assets as well as the owner's personal credit and is guaranteed by the owner's personal assets. While this type of loan does not protect the owner's assets, acquiring a loan like this is an important step in establishing and building business credit. The goal is to show successful business borrowing and repayment history so that in the future, your business credit will be stronger and may help you qualify for a loan that does not require your personal guarantee.

Personal Loans

When a business owner applies for a personal loan, he must qualify for the loan based on his own credit history and assets. The company's business credit and resources are not evaluated as part of the loan process, and the owner receives the funds directly from the financial institution. Once the personal loan is approved, it is up to the owner to decide how to use the funds. He can make an equity contribution to his company or even set up a loan between himself and the company.

However, personal loans that are financed based totally on the owner's credit are hardly ever used in business. Compared with other personal financing options, the interest rates on personal loans are usually much higher. Other personal borrowing venues, such as home equity lines of credit, for example, are a much smarter type of personal loan to consider for business purposes. There is no application process required, no waiting time for approval, and the funds are available instantly.

Personal financing options to consider for small business credit uses include:

• Home Equity Loans - Business owners who also own their homes and have equity available may be able to acquire funds through a home equity loan. Borrowers can typically use funds from such a loan for any purpose. The financial institution backing the loan does not dictate how the borrower can spend the funds. The funds can be acquired in one large sum or as a line of credit that can be accessed similar to a checking account through ATM withdrawals or by writing checks. If you own a business or a considering starting one, it is an excellent idea to establish a home equity line of credit if possible, so that you can use it whenever your business is in need of funds. Different than selling your home, which typically results in a taxable gain, borrowing from your home's equity is not taxable, no matter how much you paid for your home or how much you borrow against its equity. Interest paid on personal borrowing can even potentially be tax deductible. In addition, the interest paid on funds from any personal sources that are used to support the business (including a home equity line or personal credit card) can be written off as a business deduction. Always consult a business professional before making these types of deductions.
• Personal Credit Cards - Small business owners often finance their company's needs by using their personal credit cards. According to Arthur Andersen and the National Small Business Association, only 6% of all businesses are financed through SBA loans compared to over 50% that are financed through personal credit cards. Business owners use their personal credit cards to make needed purchases or obtain cash advances to pay for operating expenses. With personal credit cards the access to money is instant; however, the interest rates on cash advances are typically more than 20%. Therefore, it is very important to find a credit card with optimal interest rates before relying on them to pay for business expenses or to purchase business equipment.
• Loans Against Retirement Plans - Many retirement plans, such as a 401(k) allow you to borrow against the money that you have contributed into the plan. The law restricts the amount of the loan to 50% of the balance or $50,000, whichever is less. To get a loan, just request information and an application from the plan administrator. Typically, you must repay the total amount borrowed in equal payments over five years. Since you are essentially borrowing the money from yourself, the interest rate is very low and is credited back to your account. Usually, you can receive the funds in less than a week from your request.
• Loans Against Life Insurance Plans - If you have a permanent life insurance plan, such as universal life or whole life, for more than 10 years, you may be able to borrow against the cash reserve that you have built up. The money is typically available to you within a few days of your request. The interest rates charged on this type of loan are much lower the interest rates charged for business loans. With life insurance plan loans, you have the flexibility to repay whichever amount of the loan you choose when you choose to pay it.

Business Loans

With a business loan, financial institutions lend money directly to your company. While some of these loans do not require any additional personal guarantees, some loans may require personal collateral from the business's owners.

• Commercial Loans - These are the most common type of business loan. You can use these types of loan for general purposes, such as inventory purchase and marketing or developing a new product line. Or you can apply for what is know as a single purpose loan where the funds are used for a particular need, such as buying a new machine that your company needs.
• Business Lines of Credit - This type of loan is similar to a revolving loan in that there is a fixed cap on how much a person can borrow. The difference with a business line of credit is that once you begin to repay a portion of the funds borrowed, that repaid amount is available to be borrowed again. For instance, if you have a $50,000 line of credit, and you use it to borrow $10,000 against it, your borrowing capacity is reduced to $40,000. However, once you repay the $10,000 and any interest charged, your borrowing power is increased again to $50,000. Business lines of credit are typically established for a fixed period of time (like 2 years). However, with continued good credit, the business line of credit can be renewed, and the limit can even be increased if needed.
• Overdraft Protection - This type of loan is similar to a business line of credit, except the total credit limit is usually lower and it is not secured with any real property. When you are approved for overdraft protection, you are issued a line of credit (usually $1,000-$10,000) that it is like an extension of your business checking account. If you write checks that go beyond the balance in your account, funds from the overdraft protection are automatically transferred into your account to cover the check when it is presented to your bank for payment. In order to obtain an overdraft line of credit, typically there is a one-page application that you can request from your bank. No supporting documentation is usually required. Approval is usually determined anywhere from several days to several weeks, depending on which financial institution you use.
• Business Credit Cards - Even though many small businesses are financed initially by the personal credit cards of the owner(s), the goal is to eventually establish credit in the name of the business and qualify for small business credit cards with lines of credit that can be used for any number of business expenses.
• Factoring - This is a unique method of borrowing that is based on the amount of accounts receivable (funds your customers owe you based on purchases they've already made). Ultimately, factoring allows you to borrow using the funds that are owed to you as collateral. Funding is usually available within one to two days.