Does a Business Line of Credit Affect Personal Credit? What to Know
As a small business owner, you may be considering a business line of credit to help fund growth, manage cash flow, cover business expenses or prepare for unexpected costs. A line of credit can keep your business running smoothly, but it’s important to understand how it can affect both your business and personal finances.
It’s not always obvious how a business decision will affect your personal credit, especially when you consider the different business structures and how different lenders operate. Understanding these details can help you ask the right questions, protect your personal credit and keep your personal and business finances separate.
Does a business line of credit affect personal credit?
A business line of credit typically won’t directly affect your personal credit score. Small business lines of credit, small business loans, small business credit cards and other debts your business is liable for, won’t usually show up on your personal credit report.
However, there are some situations where your personal credit can be impacted. It can depend on several factors including your business structure, the lender’s requirements and how the account and your repayment history is reported. Be sure to do your research before you apply.
When does a business line of credit affect personal credit?
There are several scenarios where a business line of credit may impact your personal credit. For example, if the lender requires a personal guarantee or conducts a hard credit check during the application process.
Here are a few different ways your personal credit can be impacted.
Personal guarantees
A lender may require a personal guarantee from the business owner. This means that if the business fails to repay the line of credit, you are personally responsible for the debt.
A personal guarantee does not necessarily mean the account will show up on your personal credit report. But if you make late payments, default on the line of credit or the debt is sent to collections, it can negatively affect your personal credit score.
Hard credit inquiries
During the application process, a lender may check your personal credit. If they do a hard credit inquiry, it can temporarily lower your score by a few points. However, if they do a soft credit check, your credit won’t be affected. Before choosing a lender, look into the application process and ask if they conduct a hard or soft credit check.
Credit reporting
In some cases, a business lender may report to the personal credit bureaus. If this is the case, then there are a few ways that a business line of credit could impact your personal credit history.
Credit utilization. Your credit utilization ratio is the measure of how much credit you have available versus how much you’ve used. High credit utilization can negatively impact your score. Keeping balances low can help you protect your credit.
Payment history. Making on-time payments consistently can help you improve your credit history. However, late or missed payments can have a significant negative impact. Additionally, if you’ve signed a personal guarantee and the business fails to repay, you become responsible for the debt — even if the lender doesn’t normally report to the personal credit bureaus.
Business credit vs. personal credit: key differences
There are a few key differences between business and personal credit, including how they’re used, how they’re calculated and the agencies that report them. Your business credit score is tied to your company’s Employer Identification Number (EIN) and is a measure of your business’s creditworthiness. Your personal credit score is tied to your Social Security Number (SSN) and measures your personal creditworthiness.
Here’s a closer look at some of the differences:
Purpose. Business and personal credit scores are both used by lenders, credit card issuers and insurance companies to evaluate financial health. However, business credit is typically used to access business loans or to negotiate vendor terms and other business needs. Personal credit on the other hand, typically is used for personal financing, like a personal credit card or personal loan. Some lenders may look at your personal credit when you apply, but a good business credit score can help you get financing without relying on personal credit.
Credit reporting agencies. Business and personal credit are tracked and reported by different credit bureaus and reporting agencies. Experian and Equifax offer both personal and business credit reporting. TransUnion is one of the three major consumer credit bureaus for personal credit. For business credit, Dun & Bradstreet is another major business credit bureau.
How they’re calculated. Both business and personal credit can be affected by factors like payment history, credit utilization, credit age and credit mix. However, business credit scores may also consider the size and age of the business, industry risk and other business-specific factors.
Scores. Personal credit scores (commonly known as FICO® Scores) range from 300 to 850. Business credit scores on the other hand can vary depending on which credit reporting agency you go to.
Does your business structure matter?
Yes, your business structure plays a big role in how business financing affects your personal credit. Some structures create a much clearer separation between the business and the owner, while others do not.
Sole proprietorships and partnerships
Sole proprietorships and partnerships are typically not considered as separate legal entities. This means the business owners are responsible for the repayment of all debts. If you’re a sole proprietor or partner, your personal credit can be directly impacted by a business line of credit because there is no separation between your personal assets and liabilities and your business’s.
LLCs and corporations
LLCs and corporations are separate legal entities. This means the business is generally responsible for its own debts, which can help create separation between your personal assets and liabilities and your business’s.
However, that separation does not always mean your personal credit is completely protected. A lender may still check your personal credit when you apply for a business line of credit. They may also require a personal guarantee, which can make you personally responsible for repayment if the business fails to repay the debt.
How to protect your personal credit when using a business line of credit
Before opening a business line of credit, make sure you understand whether or not the lender conducts a hard credit check, how they report your payment history and credit utilization and how they handle repayment if the business falls behind. Asking the right questions upfront can help you protect your personal credit and keep your business’s finances more separate from your personal finances.
Here are a few ways you can reduce the risk to your personal credit:
Ask about credit checks. Before you apply, look for whether the lender conducts a hard inquiry on your personal credit. If they do, it can lower your personal score temporarily.
Understand personal guarantee requirements. If the lender requires a personal guarantee, make sure you understand when you could become responsible for any business debts.
Check where the lender reports to. Check which of the credit bureaus the lender reports to and whether it’s reporting to a consumer credit bureau, a business credit bureau or both.
Keep your business and personal finances separate. Consider restructuring to establish your business as a separate legal entity. This can also allow you to open a business checking account that you can use for business income and expenses.
Monitor your credit reports. Review both your business credit reports and personal credit reports so you can spot errors, track payment history and understand how your credit profile is changing.
How to build business credit separately from personal credit
To build business credit you first need to establish your business as a separate legal entity — this means obtaining an EIN and opening a business bank account. From there, you can start building a business credit history by working with lenders, vendors or suppliers that report payment activity to business credit bureaus.
Here are a few steps that can help:
Register your business. Choose a business structure that makes sense for you, such as an LLC or corporation. Once your business is registered, you’ll receive an EIN that helps identify your business for tax and financial purposes.
Open a business checking account. It can make it easier to keep your finances separate when you have a business account you can use to get paid and make payments from.
Get a DUNS number. Dun & Bradstreet, one of the major business credit bureaus, uses their DUNS number to identify businesses in its reporting system. You can apply for one free on Dun & Bradstreet’s site.
Open tradelines. You can build your business credit history by applying for business financing or opening tradelines with vendors who report to the business credit bureaus.
Practice good credit habits. To build a strong credit history for your business, make sure you’re paying on time, keeping your utilization and debt-to-income ratio low and monitoring your credit reports.
Building strong business credit is important. It can give lenders, vendors and suppliers a clearer way to evaluate your business separately from your personal credit. It can help your business access more financing options, qualify for more competitive interest rates, negotiate better vendor terms and keep business and personal finances more clearly separated.
The Bottom Line
A business line of credit won’t typically affect your personal credit score. However, your personal credit can be impacted in certain situations. Before you open a new line of credit for your business, it’s important to understand how the application process works, how the lender reports payments and if they require a personal guarantee. Asking these questions upfront can help you protect your personal credit and start building strong business credit.
