Business credit cards can seem like an easy way to fund your business. However, they come with risks that business owners don’t always foresee. This page will cover the pros and cons of business credit cards and explore some business funding alternatives.
The Appeal of Using Credit Cards for Business Funding
Just over ten percent of startups leverage credit cards, according to Clutch. Similar results are seen in a Forbes study, too. Their research shows that once established, around a quarter of small businesses leverage existing credit cards, and nearly two-thirds apply for a card and receive it. There are lots of reasons for this.
You Can Maintain Equity
Business credit cards provide funding without forcing you to relinquish control or ownership of your business.
It’s “Easy” to Qualify
It’s often easier to obtain a credit card than to qualify for other forms of business funding like loans, though you may need to provide collateral and a personal guarantee to be approved.
Cards Provide Quick Access to Cash
Whereas loans can take weeks or months to provide a cash injection, business credit cards can provide access to cash within a few days.
Potential to Improve Credit Score
Making regular payments on a business credit card can boost your overall credit score, which may make it easier to qualify for loans, reduce funding costs, and more in the future.
Intro Offers Make Them Seem Inexpensive
Credit card companies sometimes offer very low or even zero percent introductory interest rates, so they seem like an inexpensive way to obtain funding.
Rewards Can Be Beneficial
Sometimes, business credit cards allow the user to earn points, airline miles, and other rewards for using the cards.
The Risks of Funding a Business with Credit Cards
Despite the benefits, the risks of business financing with credit cards often outweigh any potential benefits.
High Interest Rates and Fees
Those with strong credit may be able to secure business credit cards with an annual percentage rate (APR) of around 17 percent. However, rates climb dramatically as credit scores decline, sometimes hitting 30 percent or more. This means business credit cards can be one of the most expensive ways to obtain business funding.
Unpredictable Interest Rates
As interest rates climb, credit card interest rates often climb, too. That’s because most use a variable interest rate tied to the federal prime rate.
Lower Credit Limits and Limited Usability
A typical business credit card has a limit of just over $50,000, according to Nasdaq. This may be fine for charging daily expenses, but it’s not enough for equipment or placing large supply orders. You’ll also likely run into trouble if you need cash for something like payroll, as the limit is likely insufficient, and cash advances aren’t always an option.
Insurmountable Credit Card Debt
Credit card debt can be insidious. Business owners don’t always realize how much they’re accruing because the debt builds a little at a time. Furthermore, just 54 percent of businesses consistently pay off their monthly balances, per Forbes research. This means businesses often fall into a cycle of making interest-only payments or covering the monthly minimum, increasing the borrowing cost exponentially and making it very difficult to climb out of debt.
Negative Credit Score Impact
High debt ratios decrease credit scores, and businesses that start to fall behind on payments will see their scores decrease even more. Because many have their credit cards tied to their personal credit, it can decrease both business and personal credit scores.
This is worrisome because it means the business will have limited access to funding and will pay more for future funding. Credit is also used by insurance companies, landlords, vendors, and more, so a low score can seep into all aspects of running the business.
Personal Impact
If business and personal finances are intertwined, the business owner can be held personally liable for the business debt and face unnecessary legal risks. The stress of managing business debts also often carries over into one’s personal life and strains relationships.
Alternatives to Funding Your Business with Credit Cards
Thankfully, there are lots of alternatives to business credit cards. A few common funding solutions are covered below.
Business Loans
Small businesses often seek out short-term loans as their first option. They can be a good option because the cost to borrow is low, and they don’t require the business owner to give up equity. However, banks typically only lend to established businesses with strong credit.
Crowdfunding
Businesses that produce tangible goods can sometimes generate working capital through crowdfunding. In these cases, the company typically develops a strong social media marketing campaign and offers backers their product or branded merch as thanks. While there is no money to pay back with this approach, raising funds this way is challenging, and crowdfunding platforms take a sizable portion of the cash raised.
Angel Investors
A typical angel invests $400,000 per project, according to the UNH Center for Venture Research. Although it’s a sizable sum, angel investors are few and far between, and they usually ask for a 20 to 30 percent equity stake in the company in return.
Grants
Grants come from various sources, such as government agencies, corporations, nonprofits, and individuals. The money they provide doesn’t need to be paid back, so they’re an excellent source for businesses that qualify. However, each has unique requirements, and authentic opportunities are difficult to come by.
Invoice Factoring
With invoice factoring, the business sells its unpaid B2B invoices to a factoring company at a discount. The factoring company immediately pays the business most of the invoice’s value and then waits for the customer to pay. When the customer pays, the factoring company sends the remaining balance minus a nominal factoring fee. There’s no money to pay back because the balance is cleared when the customer pays their invoice.
Explore Your Tailored Funding Options with Viva Capital
At Viva Capital, we understand that the ideal funding option will differ from one business to the next, across each stage of growth, and by need. That’s why we offer tailored funding solutions ranging from short-term funding to equipment loans and invoice factoring. Request a complimentary factoring rate quote to learn more or get started.
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