What can you do if your business is in debt?
How to handle Business Debt
When people start their own business (Limited Companies), they can often become so intertwined with the business, they are unable to detach themselves. It’s almost as if the business owner and business morph into a new ‘business-being’. It’s the same business owners that often find themselves drowning in debt, struggling to keep their head – and business - above the water. More often than not these businesses are small owner managed businesses, that have invested everything to make the business a success for themselves and their families.
When it comes to debt associated with the business, it’s really important to draw a line of separation between the business debt and your personal debt.
Personal Guarantees and Business Debt
Too many times, we hear of business owners that have spoken to their creditors, mixing their business and personal debts together, citing that they are struggling because business has dropped and they have expenses to consider like their mortgage. However, we’re talking about two completely separate debts.
That being said, the first thing to clarify is whether you have any personal guarantees attached to the business's debts. Now this is the interesting part; many business owners cannot answer this question because they simply don’t know
So, let us explain....
When it comes to borrowing, to have personal guarantees attached to the business means, if the business is unable to pay the debt, you will assume legal personal responsibility for the debt. This is a huge risk personally, and you can see how lines between business debt and personal debt can become blurred.
If you are a director of a business and you do not know if you have any personal guarantees attached to the business debts; you need to find out immediately. Earmark some time to really understand the ins and outs of financially running a business, this is not a risk worth taking.
The reason this is so important to clarify is because it ultimately determines how you can handle the debt, we'll come onto this later.
Business debt & speaking to creditors
Here’s an example of what typically happens time and time again, and more importantly what not to do:
John Rogers is a business owner. Unfortunately, his business is really struggling, he has no other option but to contact his creditors to let them know. John sends an email telling the creditor that all he can afford is a token payment every month towards the debt.
John then goes on to explain that something has happened to him personally, which in turn means the business revenue has decreased. The money is no longer available to pay towards his debt obligations, as he needs to pay his personal mortgage. Finally, he signs the letter (or email) with his name, John Rogers. Wrong move John!
John has innocently made his personal problem, the business' problem. The creditor does not need to know about his personal problem at this stage. It’s about the business. All letters from the creditor will be addressed to the business using words like ‘The Directors’ or the name of the Director at the business name if they know it e.g. John Rogers Director at business name.
Now the creditor understands how a business debt works. They know John doesn’t have to provide details of his personal situation, but they won’t stop him. The bank will simply allow John to keep providing more and more information. The bank may even reject the token payments and instead ask for detailed information about the business accounts, for example bank statements and other detailed information like that.
Johns' confusion about the business debt has created two risks...
John has left himself wide open to be called upon if he is a personal guarantor for the debt. John has given the creditor access to a lot of personal financial information. This information can then be used to determine the recovery action to take against John, should the situation arise where he has no option but to assume responsibility for the debt.
Due to John’s misunderstanding about the debt, there’s also a big risk that John could use his own personal money, or take out a personal loan to cover the debt. This is not an uncommon move and is entirely unnecessary.
So, what could John have done differently?
1. State he is acting on behalf of the business
What John should have done is communicate on behalf of the company stating his position. e.g. John Rogers Director at business name. The business is a limited company and John is employed by the company as a director. If he leaves, another director can be employed to replace him.
2. Talk about the business’ financial issues only
John should only share information about the business' financial issues, not his own personal financial issues. The business pays him a salary, what he does with his salary and his financial situation has nothing to do with the business. They are two completely separate things.
What happens to the Business Debt if I’m a Personal Guarantor?
If, in John's case, he was a personal guarantor of the business debt, the bank would decide when and if they want to go directly to John to assume responsibility for the business debt. If the bank goes direct to John, to try and recover the debt, then John will have to assume responsibility and work with the bank to agree a solution.
What happens to the Business Debt if I’m not a Personal Guarantor?
If your business is able to obtain credit on its own merit, i.e. you are not a personal guarantor, the bank cannot directly come to you to assume responsibility for the debt. The bank will treat the business as if it were a human being but with less restrictions, such as with the recovery actions it takes. For example, as the business debt is not classed as consumer debt the Consumer Credit Act is non-applicable.
If the bank issues a County Court Judgment (CCJ) against the company name it would have no effect on you, only the company.
However, there is an exception to consider. If you are a shareholder, you may have responsibility for the debt up to the value of your shares. So, if the value of your shares is £1,000 you will need to pay for those shares and the money will go towards the company debt.
Don't forget to read The Real Debt Guy's final thoughts below!
The information in this article is considered to be true and correct at the date of publication.