Think your personal credit score won’t matter when applying for financing for your small business? Think again…
Financial institutions use the Five Cs of Credit to determine the “credit worthiness” of a business owner (meaning, the ability to borrow and then repay money). These five Cs are:
The last four are all easily measured by the business plan as well as an assessment of the net worth, education and work history of the entrepreneur. Character is harder to quantify so financial institutions use a couple of measures – including the beacon score – to act as a proxy character assessment of an individual.
What’s a Beacon Score?
The beacon score is one of two measures on a credit report, and it’s a summary of how an individual has used credit in in the past. The report shows all the outstanding credit facilities (such as bank loans, credit cards, lines of credit and car loans) that you have, and how well that you’ve kept up with repaying those loans. It also shows the total available credit, and lists all the places where you have inquired about getting credit (such as at a car dealership, or by inquiring about a cell phone plan).
The beacon score measures previous performance with credit and tells a story about an individual’s past and current history with credit, so lenders use this as a predictor of future behavior. If someone has a history of missed or late loan payments, or has made what a lender considers “excessive” credit inquiries, then the beacon score will be low.
What Your Beacon Score Means, Why It Matters and How It Changes
A beacon score ranges between 400 (terrible) and 900 (outstanding). Typically, financial institutions won’t lend to someone with a score under the mid 600s, and they won’t loan below the 600s. A financial institution may lend to individuals with scores between 620 and 650, but would likely require more security on the loan (such as a larger lien over an individual’s assets), or it might charge a higher interest rate.
What’s more, other tools that lenders use to assess credit worthiness are affected by your beacon score. The “bankruptcy navigation index” (BNI) predicts your likelihood of future bankruptcy, and a good beacon score can help ensure your BNI rating is in a positive range.
Your beacon score changes over time, and the most important contributors to those changes are payment history on loans and charge cards, your amount of outstanding and available debt and whether you have ever declared bankruptcy.
Whenever you apply for any kind of credit, you’re asked to provide consent for that provider to obtain, verify and use the contents of your credit report. That provider in turn not only uses that information to decide to grant credit, but also reports to the credit reporting agency bureau on how that credit is used over time. All of this information makes up the makes up your credit report.
How to Improve Your Beacon Score
In the early years of a business, access to credit to capitalize operations or buy equipment can be critically important. Without a credit report for lenders to “score” a loan application, you won’t be able to borrow funds from a regular financial institution. A few institutions might look beyond a bad credit report (if there’s a good explanation why the score is low), but it’s very unusual.
So how can your beacon score be improved? Here are some simple steps to help move your beacon score into the range lenders like to see:
- Always pay bills on time, so that credit is “revolving” as agreed, and pay at least the minimum or better yet, the entire amount owing.
- Don’t hold excess credit. Keep only one or two credit cards open (and stick to the lowest possible interest rate card).
- Don’t seek excess credit. Applying for new credit, or switching between cards (because of low starting rate enticements), will hurt more than help.
- Ask for a copy of your credit bureau on an annual basis, check it for errors, and then ask the credit reporting service to fix any errors detected.
For individuals (such as newcomers to Canada) who don’t yet have a credit score, one of the quickest ways to build good credit is to apply for a cash-secured credit card, and then to use the card to make small monthly purchases and then pay off the entire amount each month. This will soon build the kind of beacon score that lenders like.
To find out more about the various financing options and requirements such as credit ratings attend our Early Stage Financing seminar and gain insight on how to get a “yes” from a lender based on your business plan and cashflow.