Why You Should Never Pledge Your Home As Collateral for a Business Loan

In states that allow business owners to pledge their personal residences as part of a business collateral package, many banks have adopted the practice as a standard procedure.

This is a really touchy issue with me. My entire banking career has been in Texas — a state that doesn’t allow borrowers to use home equity as collateral for a business loan. I think that is a very good law. I have never made a loan and used a personal residence as part of a collateral package.

I tried to do some research to determine how many states allow this practice. I also wanted to know whether any states allow the use of personal residences with specific restrictions that may be important for borrowers to consider. I didn’t find any solid, reliable nationwide data about these practices.

At first, it might seem like laws allowing the use of a primary residence as collateral on business loans are a good deal for borrowers. Many borrowers, especially startup borrowers, may have most of their net worth tied up in their residences.

In the last 3-4 months, however, I have assisted clients in Washington, Louisiana, Massachusetts, and California who where in trouble with their business loans. In each of these cases the businesses I was helping had been strong before the recession. In one case two major natural disasters in three years decimated my client’s community. Sales plummeted, and the bank began foreclosing on the borrower’s business assets and personal residence. Two other clients were hurt by the very weak economic conditions in their communities.

All three borrowers asked me to negotiate offers in compromise with their banks, so the banks would leave their personal residences alone and simply take their companies’ business assets. So far I have been successful on two of the three, and the third is being considered at this time.

In each case, my clients didn’t think to try to negotiate their personal residences out of the banks’ collateral packages at the time the loans were made. Perhaps they didn’t know the issue was negotiable. The truth is that a bank, or some types of non-bank lenders, will take every single piece of collateral they can to secure their loan – whether it makes sense or not.

I would give the same advice to anyone seeking a business loan — especially in states where banks routinely want to take a personal residence as collateral.

Everything is negotiable when it comes to what types of collateral a bank requires before it offers a loan. Once the loan is made, however, it is close to impossible to get a piece of collateral released.

Sam Thacker

Sam Thacker is a partner in Austin Texas based Business Finance Solutions.

Direct Email: sam@lesliethacker.com

Twitter: @SMBFinance

About Jason Myers

Jason Myers is the editor-in-chief of the Texas Entrepreneur Network and can be reached at jason@txenetworks.com