Credit Crunch Puts a Double Squeeze on Small Businesses

By Eva Norlyk-Herriott

Small businesses are the life blood of U.S. business. There are almost 28 million small businesses in the U.S., and together they account for about half of the U.S. gross domestic product. More than half of Americans at work are employed by a small business with less than 100 employees; and all in all, small businesses employ 116 million workers in the U.S.

Unfortunately, in the current credit environment, small businesses are being hit pretty hard. Traditional sources of funding, such as bank credit lines or small business loans are harder to come by, because small businesses are traditionally considered more risky. A fall-out from the credit crunch is that more than half of small business owners are experiencing difficulty getting the loans they need, according to a 2008 survey from the National Business Association.

Not surprisingly, with credit tightening elsewhere, small business owners are turning to credit cards to fill the gaps. According to the National Small Business Association, credit card usage among small business owners almost tripled from the 1990’s to 2008, from 16 percent to 44 percent. Today, more than one third of small business owners have more than $10,000 in credit card debt and 13 percent have more than $25,000.

Unfortunately, business owners who rely on credit cards to finance business purchases or operations may one day wake up to find that they made a pact with the devil. For starters, interest charges are often double those offered by more traditional sources of financing. Worse, as many business owners are discovering, credit card debt is more unpredictable than the weather. Credit lines can be slashed, interest rates hiked, and minimum payments raised with just a couple of weeks notice.

And now, as credit card lending criteria are being tightened, many small business owners find themselves in a double bind. Not only are traditional sources of funding harder to come by, credit cards are becoming an increasingly questionable source of debt financing as well. According to a survey by the Federal Reserve, 60 percent of banks are reigning in credit card practices. Card issuers are not just being more selective about issuing new credit cards, they are raising interest rates, lowering card limits and even shutting down credit cards for some customers. For small business owners, this can easily turn into a credit card Catch-22, in which the rising cost of credit card debt makes it harder to meet obligations, which leads to even tighter credit, making it harder to keep the business running and produce the income needed to meet debt obligations.

In short, with credit card companies much more risk-adverse, using business credit cards as a source of financing is far more perilous than it used to be. Credit tightening is expected to continue for some time, and even business owners with great credit are not spared. In the current financial environment, business owners are better off looking to other sources of financing.

Also see: Beware of This Business Credit Card Catch-22

Published: June 12, 2009