Sometimes everything happens at once. Let’s say you’re a passionate entrepreneur with a small business that’s finally ready to scale up with the right financing when you learn that your family is about to grow, and you need a bigger house.
Applying for a mortgage and a business loan at the same time is a lot – it’s certainly a lot of paperwork – but with solid time-management skills and lots of discipline you can make both work.
As you likely know, when you apply for a new loan, a lender will usually perform a hard inquiry on your credit report. The inquiry can drop your credit score by a few points. But even with this temporary credit score drop, your business loan shouldn’t stand in the way of your qualifying for a mortgage loan.
We’ll walk you through the ins and outs of applying for a mortgage after qualifying for a business loan and what happens when you apply for both loans at the same time.
How Business Loans Affect Mortgage Approval
Your business loan shouldn’t affect your mortgage lender’s decision to approve or deny your mortgage application. This is usually the case if your business loan is in the name of a limited liability company or a corporation.[1]
However, there are some factors related to your business that can likely affect mortgage approval.
Your income
Your mortgage lender will likely want to know that your business generates enough income to pay your mortgage and your other bills, especially if your business is your sole source of income. Mortgage lenders prefer borrowers with steady, predictable incomes that can be verified.
Your debt-to-income ratio
Lenders also pay attention to a borrower’s debt-to-income (DTI) ratio, which is the amount of debt you have compared to your income. Generally speaking, the lower your DTI, the better. If you have a business loan in your name (and not in your business’ name), that will increase the amount of debt you have and raise your DTI.
Type of business
The type of business you own may affect your mortgage application. If your business is structured as a sole proprietorship, it will affect your credit, and it may become a factor as your lender reviews your mortgage application.
On the other hand, LLCs, C corporations and S corporations are legally separated from an owner’s personal finances. Any business loans taken out through these entities don’t usually affect residential mortgage applications.
An LLC combines features of corporations and partnerships while protecting its owners against personal liability for the company’s debts. Regulations governing LLCs can vary from state to state.
How Business Loans Impact Credit Score
Depending on how your business is structured, a business loan may show up on your credit report. Let’s explore how different business structures impact your credit.
How does having an LLC affect me?
An LLC is a business entity that’s separate from its owners and members. The credit scores of the company’s owners or members are generally not affected by any financial actions related to the business. If an LLC takes out a business loan in its name and defaults on the loan or goes bankrupt, those negative marks don’t show up on anyone’s credit scores.
If the owner of an LLC personally guarantees a loan made to the LLC, the loan will show up on the owner’s credit report. If the LLC pays off the loan, it could affect the owner’s credit history positively. If the LLC defaults on the loan, it could negatively impact the owner’s credit history.
Actions taken by an S corporation or C corporation shouldn’t affect the credit report of any owners or officers.
How does having a sole proprietorship affect me?
Small businesses are commonly sole proprietorships. A sole proprietorship is an unincorporated business with one owner. Income from the business gets deposited into the owner’s personal bank accounts, and the owner is liable for personal income tax on the income.
A sole proprietor’s credit score can be profoundly affected by their business dealings. When personal and business credit is intertwined, lenders will consider both your business and personal finances.
If any business loans or credit cards are under the owner’s name, the owner is personally liable for them. Any business debt or missed credit card or loan payments will show up on a sole proprietor’s credit report. The owner’s credit score will also be affected by large balances on their personal credit card if the card is used to pay business expenses.
BTW, the same applies to unincorporated partnerships. Partners are personally responsible for the debts of the business, and those debts will appear on each partner’s credit report.
What about credit pulls?
There are two types of credit pulls: hard pulls (or inquiries) and soft pulls. When a creditor checks your credit report to review your credit history and determine your creditworthiness, that’s a hard pull. Hard pulls stay on credit reports for 2 years.[2]
When you’re applying for a business loan and a home loan in your name, those hard credit pulls stack up and could drop your credit score. It is also a signal to lenders that you are trying to take on more debt. As a result, a mortgage lender may offer less favorable loan terms, which may result in making a larger down payment or paying a higher interest rate.
Pro tip: There is a small window (around 2 weeks) when you can shop around for a mortgage (or any one type of loan) before all of the hard pulls are recorded.[2] If multiple inquiries for the same loan type fall within that 2-week window, they will count as one inquiry, but if you are shopping around for two different types of loans (like a business loan and a mortgage), both inquiries will impact your score.
Tips on Getting a Mortgage With a Business Loan
Whether you’re trying to get a mortgage after qualifying for a business loan or you’re applying for a business loan and a mortgage at the same time, keep these tips in mind:
1. Keep hard credit inquiries to a minimum
Each hard pull brings your credit score down. Try to be selective about which lenders you consider so that you can minimize the number of applications you submit. Better yet: submit all your loan applications together so that credit pulls fall within the 2-week window where they’ll count as one pull.
2. Pay off credit cards to reduce debt but keep your accounts open
Paying down your credit cards reduces your overall debt and can make lenders more interested in extending credit to you. But when you pay off that debt, don’t close your accounts. A credit card account that isn’t being used creates a positive debt-to-income (DTI) ratio and reflects a longer credit history.
3. Stay current on payments
While you’re paying off those credit cards, make sure to stay current on all your other bills. Late payments can damage a credit report. A history of on-time payments is especially important when you’re in the middle of applying for a mortgage or business loan.
4. Consider getting the business loan later
If your business isn’t legally separated from your personal finances, any business loan you take out will affect your credit score. It might make sense to postpone getting a business loan until you’ve closed on your home loan.
5. Have money saved up
The more money you’ve saved for a down payment on a home, the less money you’ll need to borrow. Applying for a smaller loan may make lender approval more likely.
6. Restructure your business
Consider turning your sole proprietorship or partnership into an LLC, S corporation or C corporation to keep your credit history and credit score separate from your business.
Can a Business Take Out a Mortgage?
The answer is that it depends. Yes, a business can take out a mortgage on a residential or commercial property but only if that property generates income for the business. For example, a business could take out a mortgage on an apartment building. The owner of the business could even live in one of the apartments if the other apartments are generating rental income.
However, in general, a business can’t borrow money to finance the purchase of a residence unless the residence is also the primary business location – and even then, there are rules.
What Are Some Alternatives to Business Loans?
Sometimes you need to pour more capital into your business just as you’re applying for a mortgage. But there are alternatives to traditional business loans, including:
- Invoice factoring: A company’s lack of cash is often due to a lack of cash flow. Unpaid invoices can be especially harmful to small businesses. Invoice factoring allows businesses to borrow against outstanding invoices to improve their cash flow and maintain working capital.
- Merchant cash advances: Some lenders provide cash advances against future sales. The business receives the cash it needs to cover funding gaps and makes daily or weekly payments to repay the loan. Merchant cash advances sometimes come with high interest rates or fees.
In some cases, you may be able to take out a personal loan against your 401(k), life insurance or other retirement income. These loans won’t impact your credit history.
Get Down to Business
A healthy credit history and credit score can help pave the way to successfully applying for a mortgage. If you need to take out a business loan at the same time, consider taking steps to keep your business transactions off your credit report.