If you're a small business owner, you've probably received numerous offers and applications for a small business credit card. You probably wonder whether you should consider getting one or how they differ from other forms of credit. According to the National Small Business Association, 44% of small business owners reported using credit cards for financing needs in 2007 to 2008, which exceeds any other source of funding. A business credit card can be a convenient way to quickly access financing for short-term needs and can increase your company's purchasing power. However, like any source of financing, it comes at a cost and must be carefully managed. Let's look at what small business credit cards are, and the pros and cons of using them as a corporate financial tool.
What They Are
Small business credit cards provide business owners with easy access to a revolving line of credit with a set credit limit, in order to make purchases and withdraw cash. Like a consumer credit card, a small business credit card carries an interest charge if the balance is not repaid in full each billing cycle. You may be able to get a credit card through your bank or you can compare cards terms and features – and apply online - through websites like Creditcards.com or Credit.com.
Credit Card Vs. Line of Credit
Small business credit cards are marketed as an attractive alternative to a traditional line of credit, but there are some important differences.
The first and most obvious difference is that a credit card provides you with a revolving line of credit for your business whereas a loan or line of credit is fixed. That means that you can continue to borrow or charge up to your credit limit as you repay your monthly bill when you use a credit card, compared to a fixed line of credit which requires that you apply for a new loan once you have used and repaid your first loan.
Another important difference is the amount of money you can access and the amount of interest charged. Traditional small business loans or fixed lines of credit typically provide a larger amount of financing, which is necessary for more substantial purchases such as equipment leasing and facility costs. These loans cost less because they charge a lower rate of interest.
Lastly, unlike most loans or fixed lines of credit, small business credit cards do not require that the card holder put up collateral to qualify for the line of credit. Credit cards represent an unsecured line of credit, meaning that the money is not secured with an asset. Instead, the card includes a requirement for the card holder to sign a personal guaranty, meaning that she or he is personally and legally liable for repaying the money borrowed on the card. (For more on this read Asset Protection For The Small Business Owner.)
Business Credit Card Pros
There are a number of reasons why a small business owner may consider applying for a small business credit including:
- Easier Qualification
It can be easier for business owners who do not have a well-established credit history to qualify for a revolving line of credit with a credit card, rather than a traditional line of credit or bank loan.
Credit cards are the ultimate in financing convenience. Business owners can quickly access funds for purchases or cash withdrawal, much more easily than having to find cash and/or use a checkbook.
- Financial Cushion
A credit card can provide business owners with a much-needed financial "cushion" when accounts receivables are behind or sales are slow and the business is short on cash.
- Online Ease
Increasingly, business owners make purchases and do business online with vendors, contractors and suppliers. Using a credit card makes online transactions easier.
- Financial Bookkeeping Assistance
In addition to receiving a monthly statement, most cards provide small business card holders with online tools to manage their account, and a year-end account summary which can help a bookkeeper track, categorize and manage expenses. It can simplify bookkeeping, help when using outside professionals to navigate an audit and pay taxes, and provide an easy way to monitor employee spending.
- Rewards and Incentives
Many cards offer business owners rewards for using the card including discounts, airline travel miles and more. Some also provide"cash back" incentives, repaying card holders a percentage of their purchases. (For more information on this read Credit Card Perks You Never Knew You Had.)
- Tool to Build Credit
Responsibly using a small business credit card - which means paying the bill on time, paying more than the minimum due, and not going over the credit limit - can be an easy way in building up a positive credit report for your business. That, in turn, can help you be more likely to qualify for a loan or line of credit, and at a potentially lower interest rate, in the future. (To learn more, see How Credit Cards Affect Your Credit Rating.)
Business Credit Card Cons
Before rushing to apply for a business credit card, it's important to consider these potential downsides:
- More Expensive
The convenience and ease of small business credit cards come at a price - they typically charge a much higher interest rate (1-3% over prime) than a bank loan or fixed line of credit. That interest can add up quickly if card activity is not repaid on time and in full each month. According to the National Small Business Administration, 71% of business owners who used credit cards as a source of financing in 2007 carried a monthly balance. In addition, without a system to regularly and carefully monitor card usage it can be easy to accidentally overextend your firm financially by going over your firm's credit limit or incurring late fees or penalties. (For more on this, read Six Major Credit Card Mistakes.)
- Personal Legal Liability
Most small business credit cards require a personal-liability agreement (your personal security) to repay debt. This means that any late or nonpayment could result in a negative personal credit report and the inability to personally borrow money. You also may have to pay more with a higher interest rate.
- Security Issues
Business owners need to carefully manage their business credit cards. Security measures should be created to ensure that cards or card information is not stolen by employees, vendors, contractors and others who come through the office space. It's also important to make sure that employees that are authorized to use the card do not use the cards for personal spending, and that they take precautions when making online transactions to avoid being hacked. (Find out how to protect your personal information from phishers, scammers and thieves; read Keep Your Financial Data Safe Online.)
- Less Protection
Often, small business credit cards do not carry the same protection as consumer credit cards. For example, many cards will not provide the same level of assured services when disputing billing errors or needing to make merchandise returns. Be sure to review what level of protection and services a card offers before applying.
- Fluctuating Interest Rates
Unlike a loan or fixed line of credit, the company that issues your credit card can reset the interest rate on your credit card depending on how you use and manage your account.
Small business credit cards are one option business owners may want to consider when choosing financing tools and resources. Make sure you understand the credit card's terms of usage, costs and benefits before applying, and have a system in place to monitor and manage usage. (For more information on small businesses, read our related articles Keeping A Small Business Afloat and Six Steps To A Better Business Budget.)