What are High Risk NAICS Codes?
High risk NAICS codes can be the difference between getting business funding … or not. But what are they?
What Do High Risk NAICS Codes and Names Have to Do with Funding Denials?
There are certain industries that lenders feel are extra risky. If your business seems to be in one of these industries, you could be looking at automatic denial. At the least, you may be subject to stricter underwriting. Plus you can end up with higher rates and less favorable terms.
Lenders judge which industry your business is in based on a couple of things. First, they look at your business name. Then, they look at your business code. This could be either SIC or NAICS codes
So, your job becomes finding a way to keep from getting a denial automatically, based on your industry code or business name. Yet, you still have to be honest. Integrity is of the utmost importance and lack of it could cause future denials and even criminal charges.
What are High Risk NAICS Codes?
The North American Industry Classification System (NAICS) is a somewhat recently instituted business classification system. Its purpose is to classify business establishments, and collect, analyze, and publish statistical information on the economy of the United States.
High Risk SIC Codes vs High Risk NAICS Codes
For each NAICS Code there may be multiple SIC codes. This is because SIC codes break down more specifically.
For example, there are over 30 SIC codes under the Engineering Services code of 8711. But the NAICS code for Engineering Services is 541330. While the plan is to fully switch to the NAICS system, many industries still have the old SIC system deeply ingrained. For this reason, the switch hasn’t happened exactly as planned, and currently both systems are in place.
What are SIC Codes?
An SIC (Standard Industrial Classification) code is a four digit number that the US government assigns to businesses. It makes it easier to identify a company’s primary activity. Lenders and others use it as an indicator of the kind of business a company is in.
The Securities and Exchange Commission (SEC) developed the SIC Code system. The first four digits signify the general industry of a business. For example, 8711 refers to Engineering Services. Then, numbers add to the end of this 4 digit chain to add specificity.
For example, 817701 is Naval Architects, while 871103 is Engineers-Agriculture. And 871105 is Contractors- Engineering General. There are over 30 individual codes under the 8711 Engineering services code alone.
Key Differences Between SIC and NAICS Codes
Check out these salient differences in the two types of codes.
|SIC Codes||NAICS Codes|
|Developed solely by the U.S. government||Developed in conjunction with the U.S., Canadian, and Mexican governments|
|Groups together establishments in terms of either demand or production||Groups together establishments that use the same or similar processes to produce goods or services|
|Active use for business targeting in the private sector||Active use for government statistical purposes|
High Risk NAICS Codes and the IRS
You choose a SIC code to report to the IRS. They will use it to determine if your business tax returns are comparable to other businesses in your industry. If your deductions aren’t reasonable when compared to other businesses in your industry, as determined by SIC code, you could be audited. Therefore, choosing the right SIC code with the IRS is essential. NAICS codes are going to replace this system soon.
High Risk NAICS Codes and Your Business
Certain codes associate with industries posing more risk than others. If you happen to choose one of these high risk codes unnecessarily. You may get a funding denial. If you understand how the system works, you can choose the best code the first time.
Some examples of high risk industries include:
- pawn shops
- liquor stores
- automotive dealers
- even restaurants
As with any business aspect, risk must be taken into consideration. Each industry code has its own inherent issues. Still, some industries are thought to be riskier than others by their very nature.
An industry may be seen as risky if there is a high chance of injury, either to workers or to customers. Or it may be considered risky if there is a high chance of theft. This is true despite how the business is doing, and despite its safety record or the accuracy and dependability of its security system. Even if a business is doing great, it could be seen as risky simply due to the nature of the industry.
High Risk NAICS Codes and Funding
So, if your SIC code or NAICS code indicates your business is part of a risky industry, what does that mean? The main issue is it could make it hard to get funding for your business. There are several industries that lenders are hesitant to lend to. Some of these industries are subject to stricter underwriting guidelines. And some cannot get funding at all.
In these cases, the business must seek out other funding options. These options could include:
- angel investors
- venture capital
- business credit building and more
What’s the Solution for Getting Funding with a Risky NAICS Codes?
It’s key to remember, you get to choose your SIC code. While you want to be honest, you can still be general. You do not have to be more specific than necessary. For example, restaurants are risky, but if you also sell boutique items, you can use a SIC code for that. If more than one SIC code can apply, choose the one that is the least risky in the eyes of lenders. There is nothing underhanded or unethical about doing so.
Bonus: Business Names and Risk
As already mentioned, your business name can indicate risk. That is, if it indicates you are part of a high risk industry. For example, auto sales is considered a risky industry. You do not have to name your business “Joe’s Used Auto Sales”. You can just name it “Joe’s” and be done. There is nothing unethical or sneaky in doing this, either.
Codes and Names Are Not the End Game
Of course, choosing a SIC code and name that does not indicate risk isn’t a guarantee of funding. There are many other factors that go into a lender’s funding decision including fundability. However, if you choose the wrong code or business name, the lender may never see how fundable your business really is.
What are Some High Risk Industries?
- Auto, RV or boat sales
- Computer and software related services including programming
- Dry cleaners
- Gas stations or convenience stores
- Long distance or “over-the-road” trucking
- Mobile or manufactured home sales
- Phone sales and direct selling establishments
- Real estate agents/brokers
- Real estate developers or land subdividers
- Restaurants or drinking establishments
- Taxi cabs (This includes the purchase of cab medallions)
- Travel agencies
How Else are SIC and High Risk NAICS Codes Used?
Currently, both codes are in use. Not by banks just to determine whether or not to lend. Other ways agencies use these codes include:
- The Department of Revenue may use them for legislative purposes
- They can be used to extend government offered incentives
- To keep taxpayers within a specific industry aware of changes to laws.
- These codes are used by the IRS for multiple purposes:
- To determine product classes in retention to exchanges of property or depreciation
- For comparative purposes, for example, if your information doesn’t track with others under your code, it could flag you for an audit
These are just examples, there are too many to list.
And they can be used by the SBA categorize your business. This is especially true when it comes to applying for government contracts. You must meet size standards for contracts, and the SBA assigns a specific size standard to each NAICS code. The SBA also uses NAICS codes to determine eligibility for the Women-Owned Small Business Federal Contracting program. They keep a list of qualifying codes.
High Risk NAICS Codes: Takeaways
Businesses need funding, but if your business is perceived to be a part of a risky industry, you may get a denial. SIC Codes, NAICS Codes, and Business Name all contribute to the risk perception of lenders. Choosing the wrong code or name for your business could get you an unnecessary automatic denial for funding.