Marriage and Small Business Debt

By: Dean A. Langdon

Marriage involves sharing risks and rewards with a spouse. Entrepreneurial couples may establish a business together, or one spouse may establish a business and exclude their spouse due to the risk of economic loss.  After all, between 20-50% of small businesses fail within the first 5 years, depending on whose statistics you believe. So, if you’re the entrepreneurial spouse and want to protect your mate against potential economic losses if the business fails, what can you do?

First, know your rights. When you seek financing to start, continue or grow your business, don’t assume your spouse has to be included. Lenders are prohibited by federal law from discriminating in making or servicing loans due to someone’s marital status. 12 CFR 1002.1-1002.16 (Regulation B). And unless a spouse’s income will be used to repay the debt, the spouse will be able to use the account, or you live in a community property state, lenders are not supposed to ask or require information about a spouse. 12 CFR 1002.5(c)(2). If your spouse is not involved in the business and their income isn’t going to be used to repay the debt, you should decline any requests for information about them, or to include them on a loan.  Of course, you can voluntarily choose to include a spouse when borrowing to support a business, just realize that it’s your choice, not the lenders.

Second, determine how much of any existing assets you are willing to invest in the business. Virtually all lenders require the owner to invest their own funds to start a business, and each individual has a different comfort level with risk.  Are you willing to take a second mortgage on your home? Withdraw or take a loan from retirement accounts? Use existing credit cards to keep things going?  Depending on which of these resources are tapped, and how they are owned, you could be creating economic risk for your spouse unintentionally. For example, if you decide to withdraw funds from a retirement account, there will be taxes owed.  And if you and your spouse file a joint tax return, your spouse will be responsible for those taxes along with you.

Third, if there are marital assets that will be used as collateral for a business loan, there are ways for a spouse to agree their share of the property is collateral without making them responsible for the debt. While it usually happens all at once, getting a loan that is secured by real or personal property has two parts – a note where you borrow the money and agree to repayment terms, and a security interest or mortgage which gives a lender a right to recover property is you don’t pay back the note. In many states (including Kentucky), a lender will require a spouse to sign a mortgage if you have agreed to use real property as collateral for a loan, but that doesn’t mean they have to sign the note. If you aren’t relying on your spouse’s income to repay the debt and a lender asks your spouse to sign the note also, ask why they need to sign.  And remember, by signing the mortgage, they are agreeing that their rights in the real property are at risk if the loan isn’t repaid.

DelCotto Law Group wants you to be in the group of businesses that succeed wildly, but it’s important to recognize that factors outside your control can result in the failure of a business. Planning ahead for such potential risks is just part of good business planning.

About DelCotto Law Group

DelCotto Law Group is Kentucky’s asset protection law firm known for its commitment to the lifetime success of its clients. With offices located in Lexington, Louisville and Danville, DLG serves Kentuckians with complicated financial matters, especially in the areas of bankruptcy, complex litigation, and estate planning. For more information about filing bankruptcy or DelCotto Law Group, please call (859) 231-5800 or email info@dlgfirm.com.

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