Pulled Under by Plastic
As Economy Sinks, Small Companies Drown in Credit Card Debt

By Simone Baribeau
Washington Post Staff Writer
Friday, July 4, 2008

When Andrew Uribe started building his salsa-making venture, he, like many entrepreneurs, turned to plastic for start-up money.

But the business didn't take off as quickly as he had hoped. Now the Ellicott City entrepreneur has three credit cards that carry a combined $30,000, is behind on his bank loan and has moved out of the industrial space he had leased. Working out of a commercial space in Baltimore's Lexington Market that friends let him use on weekends, he has the capacity to pack only 1,600 jars of salsa a month instead of 14,000.

His minimum credit card payments run $325 a month, about 15 percent of his total monthly expenses, which he says mainly covers just his interest payments.

"It's horrible because any small profits that I am making, I'm using them to pay the credit cards," the maker of Emy's Salsa Aji said over the phone from New York, where he was meeting with potential investors. "It's hurry up and pay, and swim or sink."

Entrepreneurs have long used credit cards as quick financing. But with the sputtering economy, tightening credit market and cards' notoriously changing terms, more small business owners are struggling to pay their debt, accumulated on personal as well as small-business credit cards.

As credit standards loosened at the beginning of the decade, banks expanded their small-business credit card offerings. Compared with the consumer credit card market, the small-business market was virtually untapped and potentially lucrative, because business credit card use tends to be high volume and paid in full at the end of the month.

The result was a boom: Small businesses will charge 2 1/2 times more this year than they did in 2002, when credit card charges ran about $140 billion, according to estimates from TowerGroup, a financial service research and advisory firm.

But as the economy slowed, so did payments. Major small-business credit card issuers reported a sharp increase in late payments and bad debt over the past year. Advanta -- one of the largest issuers of small-business credit card debt -- wrote off $16.3 million, or 6.5 percent, of their small-business credit card receivables, up from 3.05 percent for the first quarter of 2007. Last year, Bank of America wrote off 5.57 percent of its domestic small-business portfolio, compared with 3 percent in 2006, with a disproportionate percentage related to credit card loans.

And the debt can last long after the business has failed.

Two years after starting Music America Records in Los Angeles, Jeremy Riney -- still a college student -- knew the record label was going under. He had financed his business with personal credit cards, and he owed about $100,000. When he missed a payment on one, his interest rates jumped from 0 percent to about 30 percent.

"The business was going nowhere, so the only thing I could fund the business with was more credit cards," Riney said. "I just started panicking."

He learned his lesson. He didn't borrow a dime to start his newest venture -- music search engine Project Playlist -- and earned enough to pay off his old debt within months.

Now credit card issuers are becoming more careful. "The mantra before was 'bigger is better' in the card business; now [issuers] are becoming much more risk-averse," said Brian Riley, research director for bank cards at TowerGroup. "Standards are getting tightened in line with the economy."

But businesses are still finding credit card loans relatively accessible. Over the past year, credit cards were the only source of small-business capital that hadn't dropped off, according to the National Small Business Association's 2008 annual survey. Some 44 percent of small and mid-size businesses used credit cards for financing, significantly more than any other source.

About a quarter of business-related credit card debt is on owners' personal credit cards; the rest is on small-business cards. Business credit cards typically offer more generous terms and, if payments are on time, debt may not show up on owners' personal credit reports, making it easier for them to get additional credit.

Bankruptcy lawyers and community groups say business-related credit card debt is a growing issue. "It's definitely quite a problem at the moment," said Rob Vickers, senior loan manager at the Latino Economic Development Center in the District. "It seems like I'm spending a lot more time helping people come up with a strategy to reduce their debt than to take on more debt."

Personal credit problems and falling home values can exacerbate business debt. "Oftentimes small-business owners really haven't separated out small-business debt from their own loans," Vickers said.

The owner of Jones Enterprises, a District-based home improvement company, paid her credit card bills on time for five years, before the housing downturn left her unable to make payments on her personal or business cards. "This is an environment that I've never been in. I've never not been able to pay my bills," said the woman, who spoke on condition of anonymity because she was embarrassed by her debt. "The bottom of the bucket fell out with no warning."

She filed for bankruptcy protection, asking for relief from tens of thousands of dollars in personal debt, but is working to turn the company around and repay her business credit card debt. She's struggling to find jobs that will pay enough upfront so that the company won't require additional financing. "You can't start a job and work people without being able to pay them."

More small-business owners are seeking bankruptcy protection. Personal and business bankruptcy filings exceeded 900,000, jumping almost 30 percent between March 2007 and March 2008. About one in seven people who file for bankruptcy are self-employed or were recently self-employed, according to preliminary results of the 2007 cohort of the Consumer Bankruptcy Project, suggesting that entrepreneurs might be slightly more likely to declare bankruptcy than the average person.

Credit card debt tends to be higher among the self-employed than the general population, says CBP researcher and University of Illinois professor Robert Lawless. But, he cautions, "It's hard to look at credit card debt in isolation and say whether that's causing or contributing to small-business failure."

Credit cards present another challenge to growing businesses, even successful ones. Unlike other loans, where the interest rate is typically fixed for a set amount of time, credit card interest rates can change with the business owner's credit score.

Marilyn Landis, owner of Basic Business Concepts in Pittsburgh, says she's never missed a credit card payment. But when she increased her purchases on a credit card she used for travel, her credit score dropped, sending the rate on her small-business credit card from a promotional rate of 4 percent to 28 percent.

"What has made it increasingly difficult is that the credit card companies keep changing the terms and conditions," said Landis, who also chairs the National Small Business Association. "It turns out not to be predictable."

Still, many small businesses find the cards useful.

Graham Henshaw financed the production of PaceTat, a temporary tattoo with time markers that tell marathon runners if they're keeping pace, with credit cards and company earnings.

"Rather than try to engage any bank to get a loan, it was much easier and more flexible for me to do it with a credit card," said Henshaw, who moved his 1 1/2 -year-old business into the Arlington-based Enterprise Development Group's business incubator two months ago. "There hasn't been any need to" use anything else.

Other businesses continue to work to drag themselves out of debt.

Emy's Salsa Aji -- named after a spicy pepper and Uribe's daughter Emilia -- sells in 10 stores, including two Whole Foods. Uribe is confident he'll make it work.

"Yeah, I'm drowning in debt, but the potential is there, so why give up?"