Seller-Financed Sales . . . Don’t Forget the Security

Congratulations. The years you’ve spent building your business into a real success story have paid off. Now you’ve found a buyer and you plan to head off into the sunset of retirement or on to a new venture.

But there is a bit of a snag. For one reason or another, your buyer can’t muster the entirety of the purchase price and you, as the seller, are asked to finance all or a part of the purchase.  In that situation, keep this in mind.  If you are going to be the bank, don’t forget to treat yourself as a bank would when lending purchase funds to a borrower.

Anyone who has borrowed from a bank or credit union for commercial purposes knows that the lender does not simply write a check, wish you good luck and off you go. No, the lender will require, at a minimum, a loan agreement, a promissory note, or possibly both. And, depending on the collateral at issue, additional requirements will likely include all, or a combination of security agreements, mortgages, pledge agreements, assignments and quite often personal guarantees.  The bank of “you”, as a seller financier, should require nothing less.

We all like to dream that our deals will always be flowers and sunshine. Unfortunately, in real life, there may often be weeds.  Problems can arise due to mismanagement or simply an economic downturn that suddenly threatens a once thriving business.  Without proper loan documentation and perfected security interests in your borrower’s collateral, you may end up with nothing if the business subsequently tanks.  Should the business fail under the new ownership, there still may be plenty of remaining assets – possibly enough that you could step in and resuscitate the business or sell the assets in a manner that will minimize your losses.  But without properly establishing your security interest you may not get the opportunity to protect yourself because you’ll likely be competing with numerous other creditors who could end up sharing an equal or greater slice of the limited pie.  It is also important to understand that if the sale is partially financed by a third party lender you may still obtain security interests and liens in collateral; however, the lender most likely will require that your interest in the collateral be subordinated (made secondary) to its interests.

Knowing the risks involved in the sale of a business and the means of protecting your interests can make all the difference in your financial security as you ride off into the sunset or begin a new chapter of your career.