Part 1: How Does a Business Loan Work?

Are you in need of a business loan to help fund your new start up? If this sounds like you, then you might need to consult a lawyer with experience in business loans. Just to clarify, a business loan is simply a loan that is not for non-commercial purposes. This article is part 1 of a 4-part series on business loans, and will look at the role of the guarantor and the key considerations when seeking a business loan.

Business loans can either be secured or unsecured. For unsecured loans, the lender can only seek to recover a debt from the party that borrowed the money (“borrower”). Alternatively, secured loans not only guarantee the right to sue the borrower but also can take possession of, and sell, any property used in securing the loan. ‘Property’ can be defined as real property e.g. a house, flat, or piece of land, or other assets like shares, boats, cars, and even the goodwill of a business.

 The Role of a Guarantor

In some cases, the lender will only loan the funds if the borrower can provide a guarantor who, in the event of a default, will be able to cover the financial obligations under the loan. If the loan is being given to a business, it will usually have a guarantor that provides an added layer of security.

It is worth noting that the lender will either have secured rights or unsecured rights against the guarantor. The difference hinges on whether the guarantor provides any security in addition to the guarantee.

Main Considerations for Business Loans

It is not uncommon for business loans to be secured using personal assets. In some cases, the party looking to get a loan will mortgage the family home to provide security for the loan.

The main differentiating factor between a business loan and a personal loan is the purpose of the loan. Sometimes business owners will use part of a loan for business purposes and the other part for personal purposes. While this is one way of doing things, in terms of tax planning, it can be more effective to have loans dedicated to the business and loans that are purely personal. Unlike loans for personal use, the interest charges and fees for a business loan will be tax deductible

In addition to making security a prerequisite for granting a business loan, lenders will also sometimes require guarantors to seek independent legal (and financial) advice. The reason for this precautionary measure is that some guarantors have escaped liability by arguing that they did not fully comprehend the financial risks of becoming guarantor. If you are becoming a guarantor and are asked to seek independent advice, while this may inconvenience you, the reason for asking is to make sure that you fully know your rights and duties.

While business loans can enjoy some tax concessions on the interest charges, the test to qualify for such concessions is whether the purpose of obtaining the funds is to produce assessable income. If you are not sure about whether your loan qualifies for tax concessions, speak with a financial adviser or tax lawyer.

Conclusion

Stay tuned for part 2 on business loans where we will look at the alternatives to seeking a business loan, such as equipment leasing agreements and hire purchase agreements. For more legal information regarding business loans, contact LegalVision on 1300 544 755 and get yourself a fixed-fee quote today!