Are you personally liable for business debt? The liability depends on the structure of your business and the terms of the loan. When you are taking on new business debt, it’s important to understand how liability will be managed in the future if you default on the loan. If you are held personally liable, then it’s possible for the lenders to come after personal assets such as real estate property, cars, personal bank accounts, and more.
How Business Formation Affects Business Debt
The type of business affects whether you are personally liable for business debt. If your business is set up as a partnership or sole proprietor, then you can be forced to use personal assets to pay business loans.
On the other hand, a corporate structure is beneficial because it acts as a shield against personal liability. If your business is organized as a corporation (an LLC), then you would not be liable yourself for business debt.
Exceptions for Business Debt Liability
Even when a business is structured to protect you from being personally liable for business debt, there are situations where the corporate shield can be broken. For example, certain tax bills can be collected through personal liability if the business doesn’t meet the payment requirements.
Also, you must maintain corporate formalities to receive debt shielding through the corporation. If you set up a corporation but don’t stick to the requirements for a corporate entity, then creditors can seek payment from the business shareholders.
Signing a Personal Guarantee
One other reason you might be held liable for business debt is if you choose to sign a personal guarantee for the loan. This situation is most common in new businesses. Since you haven’t built up a credit history for the business, then the creditor might ask you to be personally liable for the debt.
Personal guarantees are often requested when a business owns real estate, signs a lease for office space, accepted a loan for expensive equipment, or purchased inventory and materials on credit.
How to Manage Personal Liability
If you are personally liable for business debt, then you need to be careful with your financial strategy. A business misstep could have long-term effects on your personal credit. So, always choose loans with a clear understanding of the payment terms.
When setting up a business or restructuring your current business, it’s smart to consider your personal liability. A few strategic steps can create a corporate entity that is separate from your personal finances. Then, you can make business decisions without worrying about whether you are personally liable for business debt.