Understanding the risks of using personal money to pay company debts
If you use personal money to pay company debts and boost cash flow, the risks will vary depending on your operating structure. If you operate as a sole trader, you will be held personally liable for business debts, whereas, if you operate as a limited company, you will not be held personally liable for company debts, unless you sign a personal guarantee or act improperly.
Are you using personal money or credit cards to pay off company debts
If you are a sole trader, small business owner or a limited company director, then no doubt you will want to do everything possible to ensure that your business succeeds. Many businesses will find that they hit rough patches from time to time, but in some cases these can lead to more serious financial difficulties.
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So what should you do if you find your business in trouble?
If it is a simple case of a bump in the road then there may be temporary working capital and business financing routes that you can use to get your business back on track. Working capital loans, purchase order finance, invoice factoring, asset refinancing, creditor term negotiation or merchant service advances can all provide a much needed cash injection into your business. However for small start-up business or those which have a dubious track record or history of poor sales, these may not be forthcoming.
In this case many business owners may find themselves turning to personal money or credit cards to pay off company debts and inject cash into the business. However this can be dangerous, as if your business ultimately fails then you will be left personally liable for these debts.
Can you separate company debts from personal liability?
If you are a sole trader then you and your business are seen as a single entity and therefore you are automatically liable for any debts that are incurred by your business. Also if you are in a standard partnership then you and your business partner will be jointly personally liable for any debts acquired by the business.
However if you establish your business as either a Limited Liability Partnership or a Limited Company then there is a legal degree of separation between you and your business (and any of its debts). With both of these business types any financing etc. is taken out in your business’ name, with the business being held liable for repayments.
Establishing either a Limited Liability Partnership or a Limited Company is a slightly more complex process than setting up a sole trader or a standard partnership, and often requires the services of a professional accountant. However this extra level of both time and financial commitment at the outset of your business may save you considerable amounts of money and worry further along the line.
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What if you can’t raise finance solely against your business?
Unfortunately there are some cases where it isn’t possible to secure financing solely against your company. Some lenders may only provide business loans where you provide a personal guarantee, which means that you are guaranteeing your own personal assets against the loan if the business is unable to keep up repayments.
However in some circumstances even personal guarantees may not be enough to persuade lenders to support your business – especially if you are trying to raise finance to pay off company debts. In this case many business owners will turn to using personal money to pay off company debts. Using personal credit cards to pay off business debts can seem like a good solution in the short term, but it pays to think about how you are going to service this personal debt in the future? If the worse does happen and the business folds, then it may not just be the business that you have lost, but your personal solvency may also be severely damaged.
Loaning money to your own business
Rather than just simply using your own money to pay a specific debt, there are some circumstances in which lending personal money to your business can be made a more formal arrangement. Lending money to your business via a Director’s Loan can be an option if you have a Limited Company.
The first step is to check that the company’s Articles of Association allow the company to borrow money from the director, and if so whether there are any special restrictions or covenants on these. A formal loan agreement should then be drawn up setting out the date, size and potentially the purpose of the loan, along with the agreed rate of interest and the repayment schedule.
Regarding charging interest on a Director’s Loan to your company, firstly this can often be down to the discretion of the director, but if interest is charged then this must be recorded as both a business expense for the company and as personal income for the director which must be declared on their self assessment tax return. The company must also pay the director interest less income tax at the basic rate of 20% and report and pay the income tax each quarter using form CT61.
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If your company is struggling with unmanageable debts, squeezed cash flow, or an uncertain future, you are far from alone. We speak to company directors just like you every single day, and we are here to give you the help and advice you need. Call our team today on 0800 644 6080
In general we would recommend you engaging the services of a specialist accountant when providing a formal Director’s Loan to you company to ensure that full compliance is achieved. Handpicked Accountants is a great service that can quickly and easily connect you with a number of thoroughly vetted accountants in your area whom you can rely on to provide the highest levels of expert professional service for a fair and reasonable fee.
If you are a company director or business owner and are struggling to service your company debts then loaning money to your own business or using personal credit cards to pay off business debts can seem tempting. However this is often a sign that your company is in serious difficulty. Real Business Rescue has been providing specialist business recovery and turnaround advice for nearly 30 years. Our licenced insolvency practitioners will take the time to understand your business and its issues before recommending the most practical options for your business.
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