Improving your credit score

Before you apply for a business loan, taking steps to improve your credit score will increase your chances of success. It’s one of the main factors lenders use to evaluate your ability to repay the loan. Knowing how it’s calculated and the practical steps you can take to improve your credit score is crucial.

How your credit score is calculated

It’s possible you’ll have more than one credit score as there are two main credit agencies (Equifax and TransUnion). The credit scoring models are different and could vary on your industry. Factors impacting your credit score include:

Your ability to make on-time payments on credit cards, loans, and other financial obligations.
Total debt you carry compared to your available credit.
The age of your oldest and newest accounts, as well as the average age of all your accounts.
Number of recent credit inquiries and new credit accounts opened.
Your ability to manage various types of credit, such as credit cards, loans, and mortgages.

Knowing these factors will help you focus on specific areas where improvements can be made

Check your credit reports for errors

Errors on your report, such as late payments you didn’t make or accounts that aren’t yours, can negatively impact your score.

Steps to take:

Request your credit report from either bureau.
Carefully review your report for errors or discrepancies.
Dispute any inaccuracies with the credit bureau by providing the necessary documentation. By law, credit bureaus must investigate disputes within 30 days.

Correcting mistakes on your report can quickly improve your score

Pay bills on time

Your payment history is the most significant factor in your credit score. If you frequently miss payments or pay late, your score will suffer. Consistent, on-time payments demonstrate financial responsibility and reliability. You should:

Set up automatic payments for recurring bills like credit cards, utilities, or loan payments.
Use payment reminders via your phone or email to avoid missing due dates.
Catch up as soon as possible on payments and avoid falling further behind. The longer an account is overdue, the more it will harm your score.

Reduce your credit utilization ratio

This ratio measures how much of your available credit you’re using compared to your total credit limit. A lower ratio is better, as it shows that you’re not overly reliant on credit.

Aim to keep your credit card balances below 30% of your total credit limit. Ideally, aim for 10% or less.

Request a credit limit increase while maintaining the same balance, as this reduces your utilization ratio.
Pay twice a month instead of making a single payment, to lower your balance more quickly.

Reducing your credit utilization ratio is important for improving your credit score, as a lower ratio indicates you’re not overly reliant on credit – which lenders view as a sign of financial stability.

Benefits of using business credit facilities

A simple benefit of an operating line of credit for a business is that it provides flexible access to funds for short-term cashflow needs, helping to manage expenses like inventory or payroll without disrupting daily operations.

One benefit of a business credit card is that it helps separate personal and business expenses, making it easier to track and manage finances. This can streamline accounting, improve cashflow management, and potentially earn rewards or cash back on business purchases.

Reduce the number of accounts

Each time you apply for new credit, the lender conducts a hard inquiry, which temporarily lowers your score. Opening several accounts in a short period can signal to lenders that you’re in financial trouble.

You should:

Only open new credit accounts when necessary.
Space out your applications over several months to avoid too many hard inquiries at once.
Consider alternative forms of financing, such as business lines of credit, that don’t involve frequent credit checks.

Build a long credit history

A history of responsible credit use demonstrates stability to lenders, making you a more attractive candidate for business loans. Keep old accounts open even if you no longer use them, as it contributes to the length of your credit history. Similarly, avoid closing accounts unnecessarily.

If you’re new to credit, consider starting with a secured credit card or a small business credit card to begin building your credit history.

Diversify your credit mix

Lenders like to see that you can manage different types of credit, such as credit cards, loans, and mortgages. Having a diverse credit mix shows that you can handle multiple financial obligations responsibly, which improves your credit score.

If you’ve only used credit cards, consider applying for a small business loan or line of credit to add variety to your credit portfolio. Of course, you shouldn’t take on more debt for the sake of diversification, and you should make sure you can manage any additional accounts.

Pay off debts

Consolidating debt or transferring balances from one credit card to another may temporarily help with cashflow, but it doesn’t solve the underlying issue of debt management. Lenders want to see that you can pay down debt rather than move it around.

Focus on paying off high-interest debts first, which saves you money and reduces your overall debt faster. Then, pay off smaller balances to build momentum.

Loans

A business is typically ready to get a loan, when it meets the
following criteria:

Stable cashflow: The business consistently generates enough revenue to cover operating expenses and has funds available to repay debt.
Good credit history: Both the business and its owners have a solid credit score, showing a history of managing debt responsibly.
Clear business plan: The business has a well-developed business plan with financial projections that demonstrates the company’s ability to repay the loan.
Collateral: The business may need to offer assets (like property or equipment) as collateral to secure the loan.
Time in business: Most financial institutions prefer businesses that have been operating for at least 1 – 2 years, as this indicates stability and experience.
Low debt levels: The business should have manageable existing debt and not be overly leveraged.
Legal and financial documentation: The business should be properly registered, have up-to-date tax returns, financial statements, and other required documentation.

Having these factors in place helps demonstrate to a bank that the business is financially stable and capable of repaying the loan.

Next steps

Improving your credit score is an ongoing process, and it’s essential to monitor your progress regularly. There are many free and paid tools available that allow you to keep track of your credit score and alert you to any significant changes.
Sign up for credit monitoring services like Credit Karma or Experian, which provide free access to your credit report and score.
Set up alerts to notify you of any significant changes, such as new accounts opened in your name or sudden drops in your score.
Regular monitoring helps you stay informed and quickly address any issues that may arise, such as fraudulent activity or errors on your credit report.
Consistently pay bills on time, reduce your credit utilization, diversify your credit mix, and monitor your credit.

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This content is for general information purposes only. It is not to be relied upon as financial, tax, or investment advice or guarantees about the future, nor should it be considered a recommendation to buy or sell. You should consult your own professional advisor for specific financial, investment, and/or tax advice tailored to your needs to ensure that individual circumstances are considered properly and action is taken based on the latest available information.