What can you do if your business is in debt?
Who is personally liable for business debts?
When some people start a business (limited company), they can become so intertwined that they cannot detach themselves.
It’s as if the business owner and business merge into a new combined entity. These individuals often find themselves grappling with debt, striving to keep their business – and themselves - out of the red. These are typically small owner-managed businesses, where every resource has been invested to ensure the company's success for themselves and their families.
When it comes to debt associated with the business, it’s imperative to draw a line of separation between the business debt and your personal debt.
What is the meaning of personal guarantee?
Too often, we hear of business owners who have spoken to their creditors, mixing their business and personal debts, citing that they cannot make their monthly loan payments because their company revenue has dropped. There is insufficient money to cover their personal expenses (mortgage) and business loan payments. However, we’re talking about two completely separate debts. The business is not responsible for the owner's personal expenses.
That being said, the first thing to clear up is whether you have any personal guarantees attached to the business's debts. This is the interesting part: Many business owners cannot answer this question because they don’t know.
We'll explain...
When it comes to borrowing, having personal guarantees attached to the business means that you will assume legal personal responsibility if the company cannot pay the debt.
This is a substantial personal risk; you can see how the lines between business and personal debt can blur.
If you are a company director and do not know if you have any personal guarantees attached to the business debts, you must find out immediately. This is important to clarify because it ultimately determines how you can handle the debt; we'll come to this later.
What to say to creditors when you can't pay?
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 struggling, and he has no other option but to contact his creditors to let them know. John sends a letter telling the creditors that all he can afford is a monthly token payment towards the debt.
John then explains that something has happened to him personally, which in turn means the business revenue has decreased. The money is no longer available to pay his debt obligations, as he needs to pay his mortgage. Finally, he signs the letter with his name, John Rogers.
Wrong move, John!
John has made his personal problem the business problem. The creditor doesn't need to know about his personal problem right now. They only care about the business. All letters from the creditor will be addressed to the company 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 the business name.
The creditor is well-versed in business debt. They understand that John is not obligated to disclose his personal situation, but they won’t stop him. The creditor will allow John to keep providing more information. The creditor will likely reject the token payments and demand detailed business account information, such as bank statements.
John's 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 against John.
Due to John’s misunderstanding about the debt, there’s also a significant risk that John could use his own 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. Acting on behalf of the business
John should have communicated on behalf of the company, stating his position. e.g. John Rogers, Director of the business name. The business is a limited company and employs John as a director. If he leaves, another director can be employed to replace him.
2. Business’ financial issues only
John should only share information about the business's financial issues, not his own. The company pays him a salary, but 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 if you have a personal guarantee?
The bank would decide when and if they want to go directly to you to assume responsibility for the business debt. If the bank goes directly to you to recover the debt, you must work with the bank to agree on a solution.
What happens if there is no personal guarantee?
If your business can obtain credit by itself, 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 fewer restrictions, such as its recovery actions. For example, as business debt is not classified as consumer debt, the Consumer Credit Act is non-applicable.
If the bank issues a County Court Judgment (CCJ) against the company name, it will not affect you, only the company.
However, there is an exception to consider. If you are a shareholder, you may be responsible 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.
Remember to read The Real Debt Guy's final thoughts below!
The Real Debt Guy is a qualified financial adviser and a UK debt expert. The information in this article is considered to be true and correct at the publication date.
