Seller Financing - How to Secure A Note
The financial markets are facing some of the most challenging times never seen before in generations, making buying a business a tougher proposition than just 18 months ago. During these times, lenders go to the extreme, as though their parent had just scolded them, and hunt for any possible reason to decline business purchase loans. They've been burnt.
With Money tougher to find, there is a drift toward seller’s replacing banks in terms of financing business purchases. Prior to 2007 seller financing was rare because money was easy to come by in real estate equity and SBA loans. Seller financing is now a common occurrence if the owner wants to sell the business and get their asking price.
First, get an attorney to help structure the security of the transaction. That being said, there are three areas needing security: (1) the lease, (2) the equipment, and (3) the real estate assets of the buyer, if any. Its the agent’s job to advise the seller on how to best secure the note and the attoreny's job the draft the security arrangements.
A seller should never accept an offer without having some picture of the buyer's history; financial, credit and experience.
Should the seller review the buyer's history and decide to finance part of the deal, then there are several technical devises used to help secure the loan. A good attorney can structure the security arrangement. And don't be foolish because you don't want to spend the legal fees and later down the road find the buyer has left you paying the rent, defaulted on the note, and sold his house and skipped town.
(a) SECURED BY THE BUYER’S ASSETS
The seller should request the buyer to personally guaranty the loan. The personal guaranty basically allows the seller to go after all the buyer’s assets in the event of a default, including the buyer’s real estate. But it doesn’t prevent the buyer from mortgaging the real estate to the 100% level, leaving the seller with nothing in the event the seller tries to collect. By placing a lien on the real estate, the seller is guaranteed a position in the real estate, albeit the position could be weak when the home has little equity.
(b) SECURING THE BUSINESS ASSETS
For the equipment, the seller should have escrow place a UCC financing statement on the business and assets. This of course doesn’t prevent the equipment from walking out. Of course, the buyer would be “stealing” should he/she walkout with the equipment, which is a crime.
(c) USING A LIQUOR LICENSE AS SECURITY
For the liquor license (California Only), the only license with meaningful value is the hard liquor license. Some county licenses are more precious than others. For example, in Napa, Placer and El Dorado Counties, liquor licenses have been know to trade for well over $200,000.
Securing the liquor license is tricky and presents certain risks to the seller.
So if the license has value and the seller decides to accept the risk, the agent has more analysis to do in order to understand what method should be used to secure the liquor license.
The whole point about securing the liquor license is to keep the seller’s name on the license. Here are the options:
(a) In the event the seller holds the liquor license in the seller’s name and not in another legal entity, then merely add the buyer’s name to the license and leave the seller as the primary owner. A corporate entity can be added too. An agreement needs to be drafted whereby once the debt is satisfied the seller’s name is removed. Again, an attorney should prepare this agreement. An interesting point of doing it this way is there is no transfer of the liquor license; hence no transfer process and all the delays associated with it.
(b) In the event the liquor license is under a corporate entity, and the buyer is an individual, then the individual can be added to the license as an individual with the primary owner remaining the seller’s corporation. As in option (a) above the agent should direct the seller to an attorney to draft the arrangement.
(c) In the event the buyer is a corporation or other legal entity and the seller is either an individual or legal entity, then the buyer’s legal entity needs to be added to the license with the seller’s entity remaining as the primary owner. As in option (a) above the seller should use an attorney to draft the arrangement.
(d) SECURING THE SELLER’S RIGHT TO RE-ENTER UPON BUYER DEFAULT
Remember, under an assignment, the seller loses all rights except the right to pay the rent in the event the buyer defaults. So the agent should suggest a sublease in the situation where the Buyer is financially weak, bad credit and/or lacks experience. The sublease should be coupled with a personal guarantee or trust deed on the buyer’s real estate and UCC-1 financing statement.