Before a company lends you money, it wants to know that you're capable and willing to repay the debt. It can do this by reviewing your finances, including your bank account balances. It can also look at your history of repaying other debts by reviewing your credit reports.
Credit reports haven't always existed, at least not with the same formalized systems that we have today. There was a time when many people lived in small towns, and the local grocer or supply store might know you and your family and sell you goods on credit (meaning, you receive the products now and can pay for them later), based on your reputation.
However, as cities grew and it became easier to travel, businesses needed a way to evaluate a stranger's ability and willingness to repay a loan. Some types of merchants worked together to create lists of trustworthy buyers. For example, there might be merchant association for all the lumber sellers in a city, and they would keep a list of the contractors who paid (or didn't pay) bills on time.
In the mid-1800s, a new industry was born — credit reporting. The credit reporting companies would research people and businesses, keep a record of their payment history and sell access to credit reports. Fast forward to today, and international credit bureaus are using more advanced technology to collect information, organize the data and sell credit reports around the world.
Why is this important to small business owners? Because a good credit history could help you:
- Negotiate with your suppliers
- Pay less for insurance
- Qualify for lower interest rates and higher loan limits when you borrow money
- Take out a business loan without impacting your personal finances
For many small business owners, their personal and business credit can be important to the financial management of their business. However, personal and business credit systems may be completely separate, so it's good to learn about how both systems work.