If you can’t get a small-business loan because of your poor or nonexistent credit history, a secured business credit card can help. These cards are easy to qualify for, and could report your payment activity to business credit bureaus —which should boost your credit score — or offer additional benefits, such as rewards. But because they often have relatively low credit limits, secured cards are strictly for those who don’t qualify for a traditional credit card.
“If you are trying to start a business and you don’t have great credit, [secured cards] can be a godsend, really,” says Beverly Harzog, credit card expert and author of “The Debt Escape Plan.” “But you’ve got to be sure that you know what you’re doing.”
How a secured business credit card works
Secured business credit cards operate similarly to secured personal credit cards. Once you’re approved, you make a refundable security deposit into a savings account (which might also earn interest). Your credit limit typically represents 90% to 100% of your deposit. For example, make a $1,000 deposit, and you’ll be free to charge up to $900 or $1,000 on the card.
The deposit serves as collateral and limits the credit card company’s risk. If you fail to make payments, it can use the deposit to repay your debt. But if you make payments on time, the issuer might increase your credit limit without requiring an additional deposit.
“No one’s going to give a new business any type of credit out of the gate without a history,” says Vito Pagano, CEO of Independent Merchant Group, which helps lower credit card processing fees for businesses. “This card functions in essence as a debit card, but after you show successful repayment history, it then converts to a credit card.”
Use a secured card as you would a regular credit card, repaying what you borrow with minimum monthly payments — often 2% to 3% of the card balance — or paying the outstanding balance in full each billing cycle to avoid interest charges.
A secured business credit card can help you develop good financial habits. If you make on-time payments and maintain a low card balance, you’ll improve your business credit score. A higher score increases the chance that you’ll be approved for a low-cost small-business loan or line of credit.
Some secured business credit cards include other benefits, Pagano notes, including the ability to sign up for employee cards with preset spending limits; zero liability protection on unauthorized purchases; rewards for spending; overdraft protection; and the ability to separate business and personal expenses, which makes it easier to prepare taxes and safeguards your personal assets.
Mixing your personal and business finances can be dangerous, Pagano says. “If there’s ever a lawsuit, there’s a way for that company to go after you personally because you’re commingling funds.”
Beware the risks
If you don’t feel confident that you can pay the bill on time each month, then you’re not ready to get any type of credit card, Harzog points out.
“This is your golden opportunity to build or rebuild business credit,” she says. “But if you don’t make timely payments, your credit score is going to be even worse.”
Like traditional credit cards, secured business credit cards can have high interest rates and come with additional fees, such as late-payment fees, annual fees (typically $25 to $45), over-limit fees and returned-payment fees.
Miss a payment and you might trigger a penalty interest rate. If you default on the card, the lender can seize your security deposit.
Tips for small-business owners
- Making on-time payments is crucial to improving your credit. Consider having your monthly payments automatically debited from your checking account, or set up email or text alerts to remind you when payments are due.
- Try not to carry a balance. Many secured business credit cards have interest rates of 12.9% and up, which you’ll avoid if you pay your balance in full each month.
- Try not to max out the card. If you want to raise your credit score as quickly as possible, Harzog recommends keeping your credit utilization ratio — the amount you owe on your credit cards relative to their limits — below 10% ($500 on a $5,000 credit limit).
- Read the fine print on every credit card offer. Not every card will be a good fit for you. Watch out for excessive fees and sky-high interest rates, and try to get a card that offers some rewards.
The bottom line
If you want to build up or improve your business credit, a secured business credit card can be a useful financial tool. It will help you improve your credit, which will help you to qualify for a small-business loan down the road — but only if you are smart about how you use it.
Find and compare small-business loans
NerdWallet has created a comparison tool of the best small-business loans to meet your needs and goals. We gauged lender trustworthiness, market scope and user experience, among other factors, and arranged them by categories that include your revenue and how long you’ve been in business.
Steve Nicastro is a staff writer at NerdWallet, a personal finance website. Email: Steven.N@nerdwallet.com. Twitter: @StevenNicastro.
To get more information about funding options and compare them for your small business, visit NerdWallet’s best business loans page.
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