by Michelle Robinson Dec 13, 2021Share On:
In order to classify businesses to industries they belong to, the US, Mexico, and Canada have devised a means to make such a process quite faster. This process is the use of NAICS codes to identify these businesses into industries.
In 1997, the North American Industry Classification System (NAICS) codes were created six-digit codes used by the federal government of the United States of America, Canada, and Mexico to identify businesses into industries. NAICS is used for the main purpose of collecting, analyzing, and publishing statistical data related to the business economy.
The NAICS code is a very important factor in the credit consideration as banks, insurance companies, and credit financiers utilize the NAICS to carry out a risk assessment on the business which in turn can affect the term of the loan to be approved. Therefore, it becomes imperative that business owners pay attention to the NAICS of their business.
Though the NAICS codes are self-assigned each country has specific agencies that are in charge of allocating these codes to the various businesses. For example, the US Census Bureau assigns these codes if you took a survey of if your business applies for EIN, the details and information you provide about your business can help assign the code for your business.
What do the six digits on the NAICS code mean?
It has been stated that NAICS codes are made up of six relevant digits, with each digit having a unique meaning. To make you better understand what they are, their functions will be explained accordingly:
NAICS codes affect your finances
You may want to ask: how do NAICS codes affect my finances? Well, the answer is simple because the NAICS code is one thing considered by lenders before approving loans for applicants. Therefore, the type of code you possess (high risk or not) will determine whether your application will be approved or rejected.
Your NAICS code can affect your ability to secure small business loans from investors and financial institutions. The NAICS code helps lenders determine the level of risk that is involved when considering providing you a loan.
A high-risk NAICS code will make it impossible for you to access these loan options. Of course, so many other factors are checked aside from NAICS but these codes are strong factors not to be joked with.
Identifying High-Risk NAICS Codes sectors and sub-sectors
It has been stated in the earlier paragraph that business lenders and insurers utilize NAICS to know the risk level of a business which in turn, helps them determine whether or not to approve a loan application. Amongst all businesses, there are three industries that stand out due to the NAICS codes they possess and knowledge about them will help you avoid them.
Due to the fact that damages and losses are incurred quite often in these industries, it is quite difficult to secure business funding for the expansion or startup of this business.
The unpredictability of the business and flow of business sales can be a thing of concern for lenders. Lenders want to be assured that their investments will not be in vain and so, they would rather not approve a credit facility for retail trade with no sure sales flow.
The low-profit margin that exists in the travel, staff administration industry also prevents lenders from trusting that their investments will bring dividends as and at the end of the loan period.
These sectors have very risky NAICS codes that will prevent access to credit facilities and business owners must try and avoid these consequences. These are not the only high-risk industries with very risky NAICS codes, others include:
Business owners must ensure that they carefully select the NAICS codes of their business and give the right code to the right business based on the industry they cover. The Internal Revenue Services of the government will use your NAICS code to review your tax returns against the returns of other businesses within the same sector. If your business is found guilty, then such an enterprise can be subjected to an audit.
It is safe to say that the first step to having a low-risk NAICS code is to classify your business under the right category. This is because a wrong classification calls for high-risk labeling.
Other coding systems
Although NAICS codes are one of the most recent coding systems for business classification, there are still some systems utilized by various governments used in business classification. One such system is the SIC (Standard Industrial Classification) codes.
A Standard Industry Classification code or SIC is a four-digit numerical code that is assigned by the U.S. government to businesses, to make it easier to identify the primary activity of the business.
The Security and Exchange Commission developed this system which is an indicator of the kind of business being run by your company.
Get it right!
The best way not to be labeled high risk through NAICS codes is by getting your Classification right. You must use the code for your business as a wrong classification can cause your business a whole lot. You may suffer an impact on your insurance premiums, interest on loans, no loan approvals, and low business credit scores. Ensure that you carry out the necessary research needed to get the right code for the right business.
Bonus! Sectors of automatic decline
Now you know better than to give your business a wrong classification code because this can adversely affect your business. Use the information in this article to choose the best codes for your business.
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