It's a common scenario: a business takes on debt to expand or launch a new product. But things aren’t moving as fast as they should be or the venture fails, and the business is left with debt it cannot pay off.
If creditors come knocking, it could be bad for business. The way your business is set up will determine how much creditors can take from you.
Entity Type and Creditors
A business’s entity type will typically determine whether creditors can come after your personal assets. The main exception here is the IRS. If you have unpaid payroll taxes, the Internal Revenue Service will hold you – the business owner – responsible regardless of whether your business is running as an LLC or partnership.
Sole Proprietors and Partnerships
Partnerships and sole proprietors are at greater risk of losing personal assets to creditors.
With a sole proprietorship, you are your business, which means that you are held personally responsible for business debts.
With a general partnership, you and all of your general partners can be held personally responsible for the partnership’s debts.
Corporations and Limited Liability Companies (LLC)
Corporations and LLCs are generally shielded from liability for business debts, but it’s not uncommon for owners to inadvertently give up personal asset protection.
There are many ways this can happen, but one of the most common ways is making a personal guarantee on a business loan or taking out personal loans for your business. You may also give up protection if you give a statement of personal liability before renting a space for your business.
What are Your Options When You Can’t Pay Your Business Debt?
Now that you have a better understanding of your liability, you can consider your options for paying down your debt.
If you’re not in too far over your head, loan consolidation may be a practical option for your business.
Debt consolidation will combine multiple loans and lines of credit into a single account with the lowest rate possible. This is achieved by taking the funds for the new loan to pay off all of the other debts. The only remaining debt would be the new consolidated loan.
There are both secured and unsecured consolidation loans. A secured loan will require some sort of collateral and will generally come with a lower interest rate. The lower rate may be attractive, but if your business is in serious trouble, it may not be worth the risk of losing the asset.
Debt consolidation isn’t the right option for every business. A financial advisor can help you compare the terms and conditions of the new consolidation loan versus your existing loan agreements.
If you don’t see a way out of the pile of debt your business has amassed, filing for bankruptcy may make sense.
Filing for bankruptcy will give you time. The bankruptcy court will typically put a stay on debt collection, which means creditors cannot repossess or foreclose on your property. Bankruptcy can also wipe out unsecured debt, like credit cards. Secured debts will need to be considered separately.
Filed under: Entrepeneur