he single biggest factor for a craft business owner to be considered creditworthy is their personal credit rating. Why is this so? Because bankers view the owner and the craft business as financially joined at the hip. If you don’t pay your personal bills on time, then the banker will assume that you’ll be late paying business obligations as well.
For many craft business owners, the personal credit rating is seen as some mysterious, arbitrary system. However, the credit rating actually is very formulaic. Here’s how the system works. When you apply for personal or business credit, the bank obtains a credit report. There are three national reporting agencies, Equifax, Experian and TransUnion, as well as about 1,500 local credit bureaus. The credit bureaus obtain their data from banks and other lenders and credit providers and the data is collated and made available to banks and other businesses that subscribe to the service.
The information compiled includes the kinds of credit extended to customers, the amount and terms of the credit, customer paying habits and schedules of bankruptcies, tax liens and court judgments. This information is accumulated to form a credit score. Most banks consider a score below 620 to be a problem indicator with a score of 700 or better considered above average.
Here are the five components of a personal credit score, along with the weighting and advice for maximizing each factor:
Timeliness of Bill Payments (35%): Be sure and pay all of your personal bills on or near the due date every time. A 30-day late payment will hurt your score, and a collection, judgment or bankruptcy will really tank it. One slipup will follow your score for several years.
Outstanding Credit (30%): This measures the amount of debt you have outstanding on each credit card, line of credit or installment loan versus the credit limit or original loan amount. The key here is to avoid running up all of your revolving accounts to the maximum line amount available. An outstanding balance of 80 percent or more of the line amount will decrease your score.
Length of Time Your Credit Has Been Active (15%): The longer you have credit established, the better. It actually helps you to keep some of your accounts active at all times rather than to pay everything to zero for an extended period.
Types of Credit (10%): This component considers the different types of credit, including mortgage loans, car loans and other installment loans, credit cards, personal lines of credit (such as home equity lines) and consumer finance company loans. If you have a high number of credit cards and/or consumer finance company loans, your credit score will be detrimentally impacted.
Any Acquisition of New Credit (10%): This measure considers the amount of credit you have established over the period of your credit history. Be careful not to open several new accounts over a short period of time (30-60 days), as this will decrease your score.
While the objective scoring models such as those used by the credit bureaus bring efficiency to the credit process, they also have a fairly high error rate. A recent survey conducted by The Wall Street Journal found that 25 percent of people who asked for a credit report challenged the information as inaccurate or outdated. The most common cause of erroneous data on a credit report is mistaken identity (i.e., information on someone with a similar name ends up on your report). Inaccurate reporting by lenders and other creditors also can create mistakes. The Fair Credit Reporting Act mandates the release of obsolete information and provides the consumer with the right to access his/her credit report and to have mistaken data corrected.
You also have the right to place a statement of 100 words or less in your credit file. You might choose to do this for one of two reasons: to dispute a record that you consider to be mistaken; or to explain a temporary period of delinquency resulting from unexpected hardship, such as major illness, job loss, or drastic income reduction.
So, unless you’d like to start dealing only in cash, you need to pay your bills on time, avoid any collections or judgments (even small medical judgments), keep some credit open at all times and avoid maxing out your credit card lines. The bottom line is that a good personal credit rating will make it a lot easier for you to conduct your craft business no matter the location or size of your venture.
The information in this article was adapted from an article by J. Tol Broome Jr., which originally appeared in the January 2005 issue of The Crafts Report.