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Even the best plans can go astray, leaving you with debt against your business that you can’t afford to repay. A default occurs when you fail to make your monthly payments. This can seriously effect both your business and your personal credit, and you may find yourself stuck paying for the consequences out of your own pocket — including interest charges, higher interest rates for future loans, and possibly being rejected for loans in the future.
You and your business partners might be required to pay off the loan with your personal funds if you signed a personal guarantee.
How much you have to pay depends on the type of personal guarantee you have. In some cases, you might have to cover the total loan cost and any associated legal fees. Other agreements might cap how much you have to pay or split responsibility between owners based on the percentage of ownership.
A personal guarantee means that you’re responsible for repaying your loan if your business can’t. Lenders require this as a form of security — even on unsecured loans — to ensure that they will still be repaid even if your business goes under. There are two types of personal guarantees, so be sure you understand what your financial risk is before you sign any loan documents.
Your lender can come after your personal assets if your business is unable to repay its debts.
If it’s a secured loan and you’re a sole proprietor, a collection agency will likely be able to seize your personal assets along with your business assets to pay back your loan. If you secured your loan with personal property — like your house or your car — this can be repossessed as well.
If it’s an unsecured business loan and you’re incorporated, the process becomes more difficult for the collection agency unless you signed a personal guarantee. This allows lenders to collect against your personal assets, even if your business is structured as a Canadian-Controlled Private Corporation (CCPC) or a public corporation. You may also be required to pay additional fees, penalties and the cost of the lawsuit.
When you default on a business loan, it can lower both your personal and business credit scores if the loan was personally guaranteed or if you were a sole proprietor. If your business is set up as its own distinct legal entity, then your personal credit score will be unaffected — but it will still hurt your business one.
If you’re having trouble repaying the loan and cannot agree with the lender on a way to keep making payments, the lender will provide you with a Notice of Default containing instructions or conditions that must be fulfilled by a certain time. If you don’t follow these instructions, the lender will simply demand repayment by a particular date. If the loan remains unpaid, the lender will seize your business assets and cash in on any personal or corporate guarantees you provided beforehand.
Because banks provide the funds for these loans, they handle the collection and settlement processes, not the government. However, the government mandates that banks follow all the steps that would normally be taken to protect business interests, thus ensuring that the government only repays its guaranteed portion of the loan whenever it’s absolutely necessary.
Banks have up until 60 months after your last payment on the loan to file a claim with the government for repayment.
If you aren’t able to repay your business loan, make sure you know two things: The lender’s late payment policy and how it processes default. Check what your lender charges for late payments — and if you default, contact your lender’s customer service to see what steps it will take to collect on past-due accounts.
Default isn’t the end of the world, but it can be a tough situation to get out of. By contacting your lender and negotiating, you could avoid expensive fees and the loss of your assets. However, the best defense against default is staying ahead of your payments and knowing the terms of your loan. Read our guide to business loans to learn more about staying ahead of payments.
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