Effect of Business Loans – Impact on Personal Credit Scores

Does Business Loan Affect My Credit Score

Transforming an idea into a full-fledged business which is up and running is intimidating, especially if you are a young entrepreneur with no prior experience. It is when you start, you realize that there are several aspects to running a business. Credit score is one such aspect which assumes significance when you are trying to borrow capital for business. Most lenders decide on a loan application based on this score. Before we delve into this aspect, let us first understand the concept of credit score.

A personal credit score is a summary of an individual’s payments of loan taken from banks and other financial institutions. The credit score is generated by credit rating agencies and typically ranges between 300 and 900. You should have a minimum score of 750 to be considered for a business loan.

It remains one of the important eligibility criteria and most banks, NBFCs, and financial institutions consider the credit score during the review of the borrower’s business loan application form.

A bad credit score can ruin your chances of loan approval and you might have to turn to alternate sources for raising money. Even after a lot of running around you may get that loan, but a bad credit score puts you on the category of risky applicants and increases the rate of interest. In fact a good credit score for loans give you a bargaining power in terms of interest rate.

Just like your personal credit score, there is a company credit report (CCR) which is a record of a company’s credit history. CCR is created based on the data submitted by banks and financial institutions across the country. Remember, CCR is not a credit rating but a report which is evaluated by banks and institutions before processing loan applications.

You may have struggled to get a business loan based on your personal credit score, but a bad business loan credit score can have a bearing on your personal credit score as well. Your professional and personal identities are believed to be separate. However, the founder of a small business owner is often recognized as the face of the business and their personal credit scores are closely scrutinised.

Most banks and lenders are inquisitive about your personal credit profile whether your business is small or big. In absence of any relationship with the bank it becomes all the more important for lenders to check on your personal credit score. It is because if the personal credit score is good it will offer some assurance to the lender besides reflecting upon your financial responsibility as a borrower.

Sometimes, lenders specifically want to know the track record of the business owner, thereby putting the company and founder on equal footing. It is therefore crucial to understand which forms of business can impact your personal score.

Proprietorship Business:
In case of a sole proprietorship business, your personal credit score is your business credit score. Such a business doesn’t have much difference between the business and the owner. According to the law, sole proprietors are liable for the debt of their business, hence if you default on your business loan it will directly impact your personal credit score.

Partnership Business:
In case of a partnership business, it is almost the same as a sole proprietorship and your personal credit score is considered important. For businesses like a LLP, partners are liable for only a certain extent of debt. A lending company always enquire about credit details of all the partners involved in the business.

Limited Company:
Finally, a Ltd. company has its own corporate identity and the shareholders will not have any liability of the company. However, lenders can still ask for personal credit details of the directors and the business owner.

The comparisons above state whether small or big business, there is no breather because your personal credit profile is linked to that of your business. It is hence critical for a small business owner to maintain a good personal credit score and businesses credit score.

How Credit Scores Affect Loan Approval and Terms

Impact on Loan Approval

Your credit score is a major deciding factor when applying for a business loan. In India, lenders use this score to gauge the level of risk associated with lending to you. A higher CIBIL score for business loan signals to the lender that you are a responsible borrower, lending to quicker approvals and larger loan amounts. On the other hand, a low score may result in a rejection or a need for you to provide additional collateral to secure the loan. 

Influence on Loan Terms

Beyond the approval stage, your credit score also determines the conditions of your loan. Borrowers with strong credit scores typically enjoy lower interest rates, reducing the overall cost of borrowing. Additionally, favourable repayment schedules are often offered, providing much-needed flexibility for managing your business’s cash flow. A lower score may mean higher interest rates and more stringent terms. This impacts your ability to use the loan effectively. 

How to Ensure a Good Credit Score

• • Don’t default on payment: Your personal credit score depends on whether you are paying interest and EMIs (Equated Monthly Instalments) on time or before the due dates. Make sure that your credit score for loans doesn’t get affected and you don’t have payments pending.
  • Don’t take a loan which you can’t afford: You should always take a loan which you can repay from your business to maintain a good credit score. It means that debt should not exceed the amount of your income. It could act as a red flag in the credit report.
  • Avoid taking too many loans: The intent of taking a loan should be genuine and you should be mindful of the loans you have applied for because too many loans don’t augur well for your credit score. This is because too many loan applications or rejected loan applications can work against your credit score. Only apply for loans you plan to utilise fully and have the repayment structure ready.
  • Business customers: Another factor which can be considered by lenders is the credit period given to customers. As a business owner, if the repayment from customers is for a longer period of time, it could lead to a lower credit score.

• Do not exhaust credit cards: Maxing out your credit cards can severely impact your credit score for business. Business owners should aim to keep their credit utilisation ratio, and how much of their available credit they are using is below 30%. This shows lenders that you are not overly reliant on credit and can manage your finances responsibly. By keeping your credit card or loan usage in check, you can avoid the negative effects of a high credit utilisation ratio. 

• Limit new credit applications: Each time you apply for a loan or credit product, it triggers a hard inquiry on your credit report. This can slightly reduce your score. Too many applications in a short period can suggest financial strain, making lenders cautious. Business owners looking to boost their CIBIL score should apply for new credit only when necessary and space out applications to minimise the impact on their credit score. 

• Pay all credit card bills and EMIs on time: The most important factor influencing your CIBIL score is your payment history. For business owners, maintaining a spotless record by paying credit card bills and EMIs on time is essential. Timely payments build trust with lenders and help raise your score over time. Missed payments or delays, on the other hand, can significantly damage your creditworthiness. This can make it harder to secure loans in the future. 

• Maintain a healthy credit mix: A diversified credit profile, including both secured (e.g., home loans) and unsecured loans (e.g., credit cards), can positively influence your CIBIL score. This mix demonstrates your ability to handle different types of debt responsibly. This is a key consideration for lenders. Striking the right balance between secured and unsecured credit helps show lenders that you can manage various financial commitments. 

• Check your credit reports for errors: Before applying for a business loan, it is wise to regularly review your credit report for any in. Errors, such as outdated information or incorrect loan details, can negatively impact your score. By requesting your CIBIL report and correcting any mistakes promptly, you can ensure that your credit score reflects your true financial standing. This improves your chances of loan approval. 

How to Push Up CIBIL Score Quickly

In India, the finance CIBIL score is a critical factor when applying for loans, typically ranging between 300 and 900. It is usually difficult to get loans for business with bad credit.  A score above 750 is often preferred by lenders, though even those with lower scores can secure loans with some extra effort. If your CIBIL score needs improvement, there are several ways to boost it quickly: 

• Repay outstanding loans: Clearing existing debt is one of the fastest ways to improve your CIBIL score. If you hold both secured and unsecured loans, prioritise repaying the unsecured loans first, as these tend to carry more weight in your credit profile. 

• Reduce credit card usage: Credit card debt is closely monitored when calculating your CIBIL score. If you frequently max out your card, it lowers your score. Try to pay off the outstanding balances on your cards to reduce your credit utilisation. This will quickly enhance your score. 

• Correct discrepancies in your credit report: Errors in your CIBIL report such as loans you have already repaid not being updated or incorrect loan accounts showing under your name, can lower your score. Review your credit report carefully and submit disputes to have any inaccuracies corrected. This can result in an immediate score boost. 

Tips for Getting a Business Loan that Doesn’t Impact Your Credit Score

• Consider Making a Personal Guarantee

If you have a strong personal credit score, offering a personal guarantee on a business loan can widen your borrowing options. In India, many lenders are more likely to approve business loans if they have the added security of a personal guarantee. This can give you access to better loan terms and larger sums. This allows you to secure the funding needed for your business to grow. 

• Compare Multiple Business Financing products

Business owners should evaluate different types of loans before settling on one. Whether you need a lump sum upfront, a line of credit for ongoing expenses, or a business credit card, weighing all your options ensures that you find the best fit for your business’s needs. Each product comes with different terms and rates. For instance, Lendingkart offers affordable business loans, working capital loans, as well as MSME loans. Each product comes with different terms and rates, so make sure to choose the one that aligns with your financial strategy. 

• Compare Rates and Terms Across Multiple Lenders 

Once you have decided on the type of loan you need, it is crucial to shop around. Compare the interest rates, fees, and repayment terms from various lenders. Taking the time to find the best deal can save businesses significant amounts in interest and fees over the life of the loan. This will help ensure that the loan supports your business rather than becoming a financial burden. 

Do Business Loans Help Build Credit?

If a business loan is secured with a personal guarantee, any negative activity such as late payments or defaults will appear on your personal credit report. This can drag down your personal credit score, making it harder to borrow for personal or business needs in the future. It is important to understand the risks before agreeing to a loan with a personal guarantee. This is because failing to meet the terms can have long-term consequences on your financial health. 

Conclusion

Business loans can have a significant impact on your personal credit score. Late payments or defaults on such loans may reflect negatively on your credit report. This can make future borrowing for a business loan with low credit score more challenging. However, timely repayment can safeguard your credit standing, ensuring that your personal finances remain stable. It is important for business owners to carefully manage their loan obligations and stay mindful of how their business activities influence their personal credit. By maintaining a healthy credit mix and monitoring utilisation, you can protect your score. If you are looking for business financing options that support your financial health, Lendingkart offers tailored solutions designed to minimise risks to your personal credit while meeting your business needs. 

FAQs:

1. Does Applying for a Business Loan Affect My Personal Credit Score?

Applying for a business loan can impact your personal credit score, but mainly during the approval phase. Lenders often check your personal credit history when evaluating your eligibility. However, once the loan is approved, its impact on your personal credit generally depends on how you manage it. Timely payments can boost your personal credit, while defaults may negatively affect it.

2. Can a Business Loan Impact My Personal Credit if I Default on Payments?

A business loan can impact your personal credit if you default on payments. While business loans are typically separate from personal credit reports, some lenders may report delinquencies to credit bureaus. If this happens, it can negatively affect your personal credit score, making it crucial to meet all financial obligations, whether business-related or personal, to safeguard your creditworthiness.

3. Will My Business Loan Appear on My Personal Credit Report?

In most cases, a business loan will not appear on your personal credit report or directly affect your personal credit score. Business loans are typically associated with the business entity, and the lender evaluates the business’s creditworthiness. However, if you personally guarantee the loan or default on it, it may impact your personal credit score. Always consult with your lender to understand the specific terms and conditions.

4. Can I Build My Personal Credit Through Responsible Business Loan Management?

Yes, how a business loan affects your personal credit depends on various factors. In most cases, a business loan won’t directly impact your personal credit score. However, if you personally guarantee the loan or if the business fails to make payments, it could affect your personal credit. Responsible management can minimize the impact, but it’s essential to understand the terms and structure of the loan.