Commercial bank loans can be a life-saver for most businesses that are in need of working capital. Borrowed funds can provide the necessary cash for business growth or cash flow shortages. Banks and other financial lenders provide useful commercial loans, but owners must be aware of the personal legal implications in case of bankruptcy or insolvency.
Most commercial loans are obtained in the name of your company, but there’s still some ambiguity about the personal liability for all the parties involved. There’s a difference between debts that you owe as a personal owner and those your company is liable for.
Many business owners worry that the bank might see them as personally liable, which might be a deal breaker for them. Personal risk can keep small business owners from getting a loan. If you’re a business owner looking for a commercial bank loan, you need to know the personal liability these loans pose.
If you are personally liable, the creditors can often sue you in case of default. Most banks and financial lenders only loan funds to an entrepreneur if they provide a personal guarantee. The personal guarantee clause means that in case your business fails to cover the debts of the creditors, you as a guarantor, would be liable to cover those expenses. This simply means that the creditors can sue you to get the money that is owed to them by your company.
Limited Liability Corporation
If you are a business owner and need cash for your business, it’s likely you’re considering getting a commercial bank loan. The entity that you state as the one obtaining the loan can make a huge difference to what happens in case of any future default payments. If you take a loan in the name of a limited liability corporation (LLC), your personal assets are safer than if you borrowed in your own personal name.
If you obtain a loan solely as a legal corporation, it’s understood that the company and its owners are separate legal entities. Corporate shareholders are not liable for those debts that the company incurs. Creditors won’t be able to sue you personally for company debts. This remains true in the cases where corporations aren’t able to pay the money back. Even if the corporation fails to cover the cost of their debts, shareholders are safe from any form of legal action. Only the corporation is liable to pay the damages.
For most small businesses, getting a commercial bank loan is difficult. The business might not be stable enough to warrant a safe risk for the bank, and hence the loan request is declined. Some banks have strict lending policies that require a history of profits and a strong balance sheet. For these reasons, many small businesses don’t qualify for a traditional bank loan.
If your company doesn’t meet loan requirements on its own, banks may require you sign a personal guarantee to use your personal property as additional collateral for the loan. A personal guarantee makes the owner of the business personally liable for unpaid debts of the company. It gives the bank claims on personal property such as bank accounts and real estate.
The bank can recover personal assets as a form of payment in a bankruptcy. If your company fails to comply with the conditions of your contract, these items would legally belong to the bank. The lender and other creditors can sue you and the collateral item would be foreclosed to repay the debts.
There are some private money lenders that will grant a business loan without a personal guarantee. However, there is a catch there. They might be able to provide you with the money, but they tend to charge more interest. Since an integral part of the contract is missing, most private lenders can help businesses in need and provide the funds they need, but the higher interest cost might discourage some business owners.
Now that you know about the clauses of the contracts and the personal liability that comes with it, it’s also important to know what will happen in case you lie. It’s important to proceed with complete honesty when you apply for a loan because in case you are caught lying or deliberately misleading the financial institution, you will be liable to pay for the debts of the company and you can be charged with fraud.
There’s a high risk of personal liability when it comes to small business bank loans. That’s the reason businesses turn to factoring companies for working capital. Want to know more? Contact Mazon Associates!