How can indebtedness jeopardize a business?

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Business Banking relationships are essential. Many businesses acquire a bank loan collateralised by the total value of their assets to survive financially. Suppose a business owner with a good relationship with his bank dies. In that case, the bank may call the loan if the business begins to experience financial duress and defaults on repayment.

• Avoid collateralising personal assets. The prospect may not be favourable when the loan equals or exceeds the value of the business and personal assets.
• Following established rules, a bank may ask a business owner to collateralise a loan, not just with business assets and land, but with additional personally owned assets, which may encumber a spouse’s co-owned assets.
• Add to that a possible collateralising of any assets of a son or daughter (and spouses) who also share in family business ownership.
•  Family members of small business owners can also lose their financial security if the business defaults on loan repayments.
• If you own a business, avoid being held hostage by the lending institution financially or forced into liquidation.

Can life insurance reduce the risk associated with the family business debt? You can solve this in a family business such as a farm by insuring the oldest and succeeding generations using joint-first-to-die life insurance policies or individual plans. Where there are non-family businesses, each owner/partner should be insured to cover the debt. When the life insured dies, the tax-free life insurance proceeds can be used to pay back loans, win back ownership, and discharge any personal assets liens.

What if there is a Critical Illness?  Also, for the same reason, consider purchasing a Critical Illness Insurance policy for each principal business owner and key persons. This product could provide a substantial sum of money to pay off debt if one were to experience a significant illness such as a heart attack or stroke. If an individual were incapacitated, they may need to be bought out by a partner or an heir (a buy-sell agreement should exist). The risk of a loan being called increases when an owner-manager is critically ill, and the bank manager loses confidence in the stabilising influence of that owner.

Note: Life insurance contracts should be compared with an advisor to understand what portion of the life insurance is tax-free.

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