What a bad credit score could mean for your small business

  • Credit scores are used by lenders as a predictor of the SMB's ability to honor loans and repay on time.
  • Professional licensing can be jeopardized if you have bad credit, even though you might otherwise be a great professional.
  • Because sureties use credit as an indicator of the likelihood of claims against the bond, bad credit can also influence the cost of your license surety bond.

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Owning a small to medium-sized business (SMB) in any industry presents challenges, but small mortgage brokerage owners face unique obstacles.

In particular, small mortgage brokerages suffer from the lingering credit gap, which can make it hard to obtain financing. Brokers who have bad credit are faced with even greater difficulties in running their business.

If you’re a small business owner, you probably already know that personal credit is of utmost importance. Here’s why bad credit can disrupt your plans, make it impossible to get a loan or drive up the cost of your surety bond (if you’re a mortgage broker, for example) as well as why you should keep your credit strong.

Personal credit says a lot about a small business

Although big business might not be influenced by an owner’s personal credit score, the same is far from true for small business. In the case of SMBs in particular, personal credit score and business are inextricably linked.

A credit score is used by lenders as a predictor of whether SMBs will honor their loans and repay them on time. This has shown to be a reliable indicator, especially for sums up to $100,000.

The legal structure of most small businesses — sole proprietorship — is such that owner credit is tied to the state of the business itself. Debts of sole proprietorships are not separate from those of their owners, which makes owner credit score a reliable indicator of business stability.

Those owners who decide to establish a corporation often also tie their personal credit to the finances of their business. Many owners personally guarantee the debts of their enterprise and borrow to finance their business.

Many years ago, the Federal Reserve pointed out that “loans having a personal guarantee comprise 40.9 percent of all loans and account for 55.5 percent of small business credit dollars.”

Given that personal credit and business are so tightly connected, how can a bad credit score affect your business?

How bad credit influences small to medium-sized businesses

Apart from the personal hardship that comes with having a bad credit score, the score can also negatively affect small and medium-sized businesses or those who want to open up a business of their own, by:

  • Making it difficult to get approved for a loan
  • Driving up rates and terms on approved loans
  • Restricting the possibility of getting professional licensing
  • Increasing the cost of license surety bonds

Bad credit makes small-business borrowing difficult and drives up rates

If you’re running your own mortgage broker business, for example, or want to open one, a bad credit score can make it impossible for you to obtain the necessary funding to establish your business or expand what you already have.

With a lack of capital being among the largest roadblocks that small mortgage brokers face, this can easily upset your plans.

And if you happen to get a loan still, the rates and terms that your bank or lender suggest might seem overwhelming and effectively limit your ability to cope with the burden.

This sounds grim, but there are still options to receive a bad credit small business loan under various programs, as well as alternative lenders. In the end, bad credit is problematic.

Bad credit jeopardizes licensing

Your professional licensing might even be jeopardized if you have bad credit, even though you might otherwise be a great professional. Because of the Fair Credit Reporting Act, government agencies are allowed to refer to credit reports in their assessment of applicants for business licenses.

This means that you might be surprised by your local licensing agency and denied your mortgage broker license if your personal credit score is too low. Operating as a mortgage broker at this point becomes impossible.

Bad credit drives up surety bond cost

Finally, bad credit can also influence the cost of your mortgage broker bond or any other license surety bond. All states require certain businesses to obtain a surety bond when getting licensed.

But when you apply for a bond, sureties check your personal credit score to determine the rate to offer you for your bond.

Your credit score — good or bad — influences the cost of your bond significantly because sureties recognize it as an important indicator of the likelihood of claims against the bond.

Personal credit scores also tell sureties about the ability or inability of an applicant to indemnify the surety if a claim is made against the bond.

That’s why a good credit score means a low rate, and a bad credit score means a high rate. Luckily, here too, there are programs for bad credit applicants that make it possible to get bonded still, though maybe at a higher rate.

How do you stay on top of your credit?

As a small business owner, how do you deal with your credit and keep it in check? What’s your secret? Or, maybe you’ve faced bad credit and overcame it. Share your tips in the comments section below.

Vic Lance is the founder and president of Lance Surety Bond Associates, Inc. Follow him on Twitter.

Email Vic Lance.