Your Credit Score Will Be Damaged
One of the first things that will happen if you default on a business loan is damage to your personal credit score. When you take out a small business loan, you usually personally guarantee the debt. This means if your business defaults, your personal credit record will show the default. The late payments will show up on your personal credit report and likely drop your personal credit score by 100 points or more. A low credit score makes it difficult to get approved for future loans or lines of credit.
Legal Action Can Be Taken
Your lender will most likely take legal action if you default on your small business loan. They can sue you personally to recover the unpaid debt. If they win a judgement against you, the lender can then use collection methods to get their money back. This can include garnishing your wages, putting liens on your bank accounts or other assets, or forcing the sale of your assets to pay off the debt.
Your Entire Loan Balance Can Be Demanded
Even if you’ve been making payments on the loan for years, defaulting allows the lender to call the entire outstanding balance due immediately. So if you originally borrowed $100,000 and still owe $75,000, the lender can demand the remaining $75,000 be paid back right away when you default. This immediate debt burden makes it very difficult for most businesses to recover from a default.
The Lender Can Seize Business Assets
If your business assets like real estate, inventory, or equipment were used as collateral for the loan, the lender has the right to seize those assets if you default. They can take possession of the assets and sell them in order to pay back what they are owed from the loan. Having essential business assets taken away makes it extremely hard to continue operating your business.
You May Have to File Bankruptcy
For many small business owners, defaulting on a loan results in the need to file personal or business bankruptcy. Defaulting triggers the lender’s right to immediately call the full loan balance due. Facing such a sudden, massive debt burden leaves filing bankruptcy as the only option for many businesses and business owners.
It Damages Your Reputation
Word spreads quickly in the business community. If you default on a loan, it can seriously hurt your business’s reputation. It signals to other businesses that you are not dependable. Suppliers may stop doing business with you. Future potential lenders will see you as too risky to lend to. Your customers may also lose confidence in your business’s viability.
Foreclosure Is Possible if Real Estate Is Involved
If you used commercial real estate as collateral for your small business loan, defaulting on the loan payments could lead to foreclosure. The lender has the right to seize the property, sell it, and use the proceeds to pay off your loan debt. Losing your place of business can be the final nail in the coffin for many small businesses.
Defenses Against Default
Defaulting on a small business loan can clearly have devastating financial and operational impacts on your company. But there are some potential defenses business owners can use to fight default or mitigate the consequences:
- Claiming improper service – If you were not properly served the notice of default, you may be able to fight it.
- Arguing breach of contract – If you can show the lender did not fulfill their obligations under the loan agreement, you may be able to prevent default.
- Asking for forbearance – You may be able to negotiate alternative repayment plans to avoid default.
- Filing bankruptcy – Filing for bankruptcy may stop collections and allow you to restructure debts.
- Selling collateral – You can try to sell assets used as collateral to pay off the loan and avoid default.
While defaulting on a small business loan can certainly create a very difficult situation, being aware of the consequences and exploring your options gives you a better chance of finding a resolution.