This month we look at one of the early warning signs that a business may need pre-insolvency advice – fintech lending. In this instance we are referring to online business loan applications. There has been a proliferation of lenders in this space, with their loans promoted as short-term unsecured business lending. Clearly, there is a space in the market for this type of lending, and in the right circumstances, this can be a viable solution to a short-term cashflow problem. However, this should be very carefully considered, and we strongly recommend clients considering fintech lending explore all available options first.
Our case study this month shows how making the wrong call can turn an unsecured company debt into a secured personal debt. Our firm has assisted a number of clients who have taken on fintech loans. Sometimes they got the loan because the business was in arrears with the ATO and need cash quickly to make a payment or as part of a payment plan arrangement. Sometimes it was because an important creditor payment is overdue and needs to be made. The owner believes that if they can solve that short-term problem that things will improve. They will get that new client, or win that tender, or sales will pick up.
Often the client will talk to their bankers first and try to sort out some sort of overdraft excess or short-term assistance. At some point though, the bank will not be prepared to assist. This may be when the owner has run out of security to borrow against or is outside the bank’s normal lending policy. The business still needs the cash though, so, what do you do? A quick internet search will find you a variety of lenders offering unsecured business loans with terms of 3 months to around 2 years for amounts from $5,000 to $100,000 or more. Simple, easy application. Approvals within 24 hours. Problem solved!
As we said earlier, this is fine when the borrowing need is genuinely short-term and things go according to plan. Fintech lenders can also offer a convenient solution. At the end of the day though, you pay for this convenience. Establishment or application fees of say, 3%. Interest rates for unsecured loans are generally around 15% to 25% or more.
Our case study this month looks at a client who borrowed $60,000 from a fintech lender to meet an urgent ATO payment. This kept the wolves from the door for the time being, but the business had some fundamental issues with legacy debt and cashflow. The fintech loan treated the symptom, but not the cause. Ultimately the business was unable to satisfy its creditors and had no choice but to cease trading.
What many business owners do not realise is that when the lender promotes their product as unsecured, they mean not secured against the company or by a mortgage. So, the lender does not take a charge on the Personal Property Securities Register (PPSR), nor do they take a mortgage over the business owner’s property. Of course, the business owner has to personally guarantee the loan.
When our client was unable to pay the fintech loan from the business he was shocked when the lender registered a caveat over their family home. No PPSR charge, no mortgage – but a caveatable interest clause. Nasty things these caveatable interest clauses. The creditor, in this case the fintech lender, has the right to lodge a caveat over any property in the name of the guarantor. Once a caveat gets lodged it can be really hard to get it removed without paying the creditor in full – including all legal fees. If the owner was surprised, his wife was even more so, and this caused a lot of distress for the family.
So, if we go back and look at the situation prior to the business taking out the loan;
The debt to the ATO was unsecured.
The business owner was not personally liable for the debt, as all PAYG and superannuation was up -to-date with the debt representing GST obligations
The business had legacy debt and cashflow issues.
The choice the business owner had was between trying to address these issues now and seek specialist advice or take out a short-term business loan to sort of “put a bandaid” over the problem. Unfortunately, our client did not consult their accountant at this stage, but rather chose what looked like the quick and easy solution – a fintech loan.
Within a few months the business had fallen into arrears with the ATO again. Other creditors were also pressing for payment. While the fintech loan bought some time, it did not solve the problem. So, some 9 months down the track the client did consult their accountant, who arranged a meeting with de Jonge Read to examine all available options.
Let’s have a look at what this decision meant;
The business owner is now personally liable for the debt.
The family home now has a caveat on it in relation to the debt.
The fundamental cashflow issues of the business have not been addressed, and only hidden for a short period of time.
The business was unable to keep trading and had to close anyway.
The cost of the quick and easy fintech loan? The establishment fee for the $60,000 loan was $1,800. The business paid interest for 9 months at a rate of 18%, totaling around $8,100. The business owner had to personally pay the lender to get the caveat removed from the family home. The caveator demanded reimbursement for the legal fees involved in registering and removing the caveat. These fees totaled around $8,000. So, the total cost for an ATO debt the owner was not originally liable for was nearly $78,000.
The key take home here is:
If your client has creditor or ATO pressure and is talking about taking out a fintech loan they should STOP and seek specialist advice. There can be more effective ways to deal with the issues that businesses face than taking out an “unsecured” high interest rate loan. If your client has already taken out such a loan, and you are only seeing it when you review their file, there can still be huge value in seeking specialist advice.