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THE PITFALLS OF PLASTIC

Credit cards can save a small business-or sink it

It started slowly. The business needed money--fast. Bills were mounting. A bank loan would take time and be a hassle. So the Portland (Ore.) restaurateur turned to his credit cards to help tide him over. He used one card, then another, then another. Before long, he piled up $95,000 on 15 different personal cards. Now he has hit bottom. Unable to pay, he faces personal bankruptcy.

His story--related through his lawyer--illuminates the risks of what has become one of the most popular ways to finance a small business. Quick access to credit-card borrowing can help a business get started and grow. But bankruptcy lawyers and judges say they see it also coming back to haunt a growing number of small-business owners, some of whom wind up in court with multiple cards--and debts that are out of this world.

ALLURING. For many cash-starved small-business owners, the need or lure is just too great. And it's not only marginal players. Some 23% of U.S. small and midsize businesses finance in part through credit cards, up from 16% in 1992, according to the 1996 survey of such companies by Arthur Andersen's Enterprise Group and National Small Business United. Another recent survey by Tampa market researcher Payment Systems Inc. found that 12% of companies with annual sales of $500,000 to $10 million financed operations to a degree with personal cards, while 40% of companies with less than $500,000 in sales did.

And why not? Wringing money from a bank can be tough, and getting funding from outside investors is no easier. Cobbling a business plan is expensive and time-consuming, and investors often demand a 30% return. ''It makes the rates on credit-card financing not look so bad,'' says Nancy C. Pechloff, director of Arthur Andersen's Enterprise Group.

In fact, changes in the credit-card business have made card borrowing far more alluring in recent years. Since 1992, cards have been the fastest form of loan growth for banks and have returned at least 50% on equity. Last year, 2.7 billion card solicitations were mailed, compared with fewer than 1 billion in 1992. At the same time, interest rates fell steadily, and credit limits soared. One aggressively growing issuer, First USA, now offers $5,000 to $100,000 credit limits with annual interest rates of 5.9% for the first six months and a variable 12.9% after that. Add more cards, and the amount of credit available with no collateral can get pretty staggering.

How many small-business owners are getting caught in the plastic trap? That's hard to pinpoint, but many experts are convinced that the overall bankruptcy figures mask huge losses attributable to small business. Personal bankruptcy filings are at an all-time high--1.17 million last year, up 27% from 1995--while business filings have remained flat, at around 53,000. In some cases, the business is a sole proprietorship, and credit-card debt gets wrapped into a personal bankruptcy. In others, debt on personal cards was incurred to finance a company that's still in business.

Of course, using credit cards needn't lead to disaster. Consider late-life entrepreneurs Josephine and Joseph

Brashear, who in 1993 opened The One-Off CD Shop, a CD publishing and information service in Minneapolis. With no salaries for almost two years and no track record for bank financing, they maxed out five cards with about $35,000 in debt. Monthly payments of $1,000 barely covered interest. But by last year, they had results needed to obtain a line of credit from Norwest Bank. This year, the four-person company has paid off the cards and expects revenue of $340,000. ''It's like any use of credit. You have to be judicious,'' says Joseph Brashear. ''It's an expensive funding mechanism, but we wouldn't have been able to start the business without it.''

The danger is that writing your own credit line is like writing your own drug prescription. ''You don't get the perspective of an experienced lender,'' says Ian T. Ball, a Minneapolis bankruptcy lawyer who specializes in small-business cases. You can lose sight of your business plan while low monthly payments make it seem all is well.

The dangers of abusing credit-card debt are many. Even more plentiful, though, are the card applications that land in the mailbox each day.

By Dale Kurschner in Minneapolis



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CHART: The Plastic Trap

ONLINE ORIGINAL: CREDIT-CARD SAFETY TIPS

TRANSCRIPT: BANKRUPTCY DOs AND DON'Ts

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