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When you open a small business, you’ll have expenses from Day One, so you’ll need to get your hands on some initial funding before the revenue rolls in.
Although some entrepreneurs may have many financing options — such as small-business loans or professional lines of credit — it can be significantly more challenging if you have poor personal credit.
The logic may seem confusing: You need credit to get credit. So how can you get your business off the ground without some good credit to your name in the first place?
At some point in your life, you may have had a secured credit card to build your personal credit profile. But if you’re a new entrepreneur without having had the opportunity to build business credit, a secured business card may be the solution.
How do secured business credit cards work?
Secured business credit cards share one big similarity with personal secured credit cards — they both can be effective tools to establish or rebuild your credit.
After you’ve applied and been approved, you’ll make a refundable cash deposit. The money, or part of it, becomes the credit limit that you can borrow against.
It also becomes a form of collateral for the card issuer. Since you haven’t yet proven your ability to repay debt, the deposit can be used to cover your debt if your account becomes delinquent or if you fail to pay back your balance.
In some cases, your limit will be less than the amount you originally deposited.
Depending on the card, you may be able to increase your credit limit by adding to your original deposit. As you make timely payments and show responsible credit habits over time, your card issuer may upgrade you to an unsecured business credit card.
If you qualify for credit cards with better terms, you can choose to have your deposit refunded or, in some cases, reinvested elsewhere if your card provider offers a savings or interest-bearing deposit account.
Before applying for a card, ask the issuer if your credit activity on a secured business credit card will be reported to a business credit bureau (such as, Dun & Bradstreet, Equifax and Experian) to help build your business credit.
What are the pros and cons of a secured business card?
Secured business credit cards may come with several advantages that a personal credit card may not, such as the ability to add employees onto the account and to authorize them to make purchases.
Some cards may come with rewards, online spending reports and a waived annual fee for the first year of card membership.
As you need to put down a deposit to get a secured business card, you may need to put down a substantial amount of cash to have a useful credit limit for your day-to-day expenses. Businesses typically incur higher expenses than individual cardholders.
Secured business credit cards also often come with annual fees. In the case of the Wells Fargo Business Secured Credit Card, you will be charged an annual fee per card, meaning and you’ll have to pay that fee for every employee who receives a card).
Making the most of a secured business credit card
Once you’ve got a credit card in your hand, using it responsibly will help you build a solid business credit history. Each time you use the card, keep these tips in mind:
- Limit your credit use. Remember, it’s not your total credit limit that counts, but the amount you use. Keeping a low credit utilization (the ratio of your credit card balances to credit limits) lets your card issuer know you don’t rely too heavily on credit. On a secured business credit card, however, try to keep it below 20 percent.
- Pay your balance in full, on time. It’s best to make at least the minimum required payment each month to avoid getting hit with a late payment fee. Late payments can damage your credit and you may also get hit with a penalty APR. If possible, try to make payments in full by the statement due date so you can begin the next billing cycle with a zero balance. If you’re forgetful, consider arranging automatic payments directly from your checking account, or sign up for email or text message reminders if your card issuer offers them.
- Separate the business from the personal. You may work hard and play harder, but try to resist the temptation to put personal expenses on your business credit card. In some cases, if your card provider discovers you’ve been making personal purchases on a card designed for business use, it may raise your interest rate. There are also multiple tax-related reasons to keep your personal and business expenses separate, including making tax filing simpler when tax time rolls around.
Although your relationship with a secured business card may be temporary, the card can be one of the most direct ways to establish and build business credit.