Starting or expanding a business often requires significant capital. One common way to secure this capital is through finance borrowing.
At ILA Australia, led by principal lawyer Michael Turner, is here to help you navigate the complexities and risks of obtaining finance borrowing. Here, we outline the benefits of finance borrowing to buy a business, as well as the risks associated with providing a personal guarantee to secure that borrowing, particularly if the business later becomes insolvent.
Benefits of Finance Borrowing
Increased Purchasing Power Finance borrowing allows you to access larger amounts of capital than you might have available personally. This can enable you to purchase a more established or profitable business, which could lead to higher returns on investment.
Preservation of Personal Savings By borrowing funds, you can preserve your personal savings for other purposes. This can provide a financial cushion in case of unexpected business expenses or personal emergencies.
Leverage for Growth Leveraging borrowed funds can accelerate business growth. With additional capital, you can invest in marketing, hire additional staff, or purchase new equipment, which can drive revenue and profitability.
Tax Advantages Interest paid on business loans is often tax-deductible, which can reduce your overall tax liability. This makes borrowing a more cost-effective way to finance your business.
Risks of Providing a Personal Guarantee
While finance borrowing offers many benefits, providing a personal guarantee to secure that borrowing comes with significant risks, especially if the business becomes insolvent.
Personal Financial Liability A personal guarantee means that you are personally liable for the loan if the business cannot repay it. If the business fails, the lender can pursue your personal assets, such as your home, savings, and other investments, to recover the outstanding debt.
Credit Score Impact Defaulting on a loan with a personal guarantee can negatively impact your credit score. This can make it more difficult and expensive to obtain personal or business financing in the future.
Stress and Pressure The obligation to personally repay the business loan can add significant stress and pressure. This can affect your personal well-being and decision-making abilities, potentially leading to suboptimal business choices.
Limited Protection in Insolvency If your business becomes insolvent, personal guarantees can bypass some of the legal protections typically afforded to business owners. This means that even if the business is declared insolvent, you will still be personally liable for the debt.
Mitigating the Risks
To mitigate these risks, consider the following strategies:
- Careful Business Planning: Ensure you have a robust business plan and financial projections before taking on debt. This can increase the likelihood of business success and reduce the risk of insolvency.
- Limit the Guarantee: Negotiate with lenders to limit the scope of the personal guarantee. This might include capping the guarantee at a certain amount or time period.
- Insurance: Consider obtaining insurance that covers personal guarantees. This can provide a safety net in case the business fails.
- Financial Advice: Consult with a financial advisor or an accountant, to fully understand the financial impact the new business and the loan will have on future revenue.
- Legal Advice: Consult with a business law expert, like those at ILA Australia, to fully understand the terms of the personal guarantee and ways to protect your own interests.
Conclusion
While finance borrowing can provide the necessary capital to purchase and grow a business, it is crucial to understand the risks associated with providing a personal guarantee. At ILA Australia, we are committed to helping you navigate these complexities and make informed decisions that align with your business goals.
