The absolute worst thing that can happen following a sale of your business is that you receive a summons and complaint naming you‚ personally‚ in a lawsuit. This means that a person or company is coming after your personal assets (as opposed to your business assets) including your personal bank accounts‚ your house‚ your cars‚ your children’s college fund‚ your personal investment portfolio and other assets that you have worked very hard to acquire over the years.
Unfortunately‚ for the unsuspecting business seller‚ this scenario happens much too often. Avoiding personal obligations should be among your top priorities when selling your business. Although there are many instances where personal liability may arise‚ here are some keys to avoiding the personal liability trap when selling your business:
1. Properly Obtaining Landlord Consent
When you entered into the lease or sublease agreement‚ when you first started your business‚ you very likely either signed the lease personally or you signed the lease under your entity name with a personal guarantee. When selling your business‚ the goal is to terminate any obligation that you have with the landlord and either assign your interest in the lease to the purchaser of the business or have the tenant enter into a completely new lease with the landlord. If you are assigning your lease‚ you will (or should) sign an assignment agreement that memorializes the parties’ intention of transferring your lease to the purchaser. Within the assignment agreement‚ it is critical that the assignment identify two things: (i) that the landlord is consenting to the assignment (your attorney should have the landlord sign this document); and (ii) that the assignment agreement clearly states that any liability that you and any guarantors have to the landlord will cease upon execution of the assignment. Too often‚ this is overlooked and a problem arises following the sale. In the event the purchaser is signing a new lease‚ you must ensure that your attorney prepares a lease termination agreement and that agreement also states that the tenant’s liability (either you or your entity) ceases‚ as well as‚ terminating any obligations of the guarantor(s).
2. Properly Obtaining Lender’s Consent
Many businesses take out credit lines as part of their normal business operations. In the event your business opened a credit line (even if you never drew on it)‚ it is very important that you properly and timely notify the lender of the sale that will take place and either close or assign the line prior to the sale. Whether you are aware of it or not‚ when you were signing all of the loan documents‚ you very likely signed a personal guaranty or a guarantee from a different entity you may own. Most commercial lenders will require some type of guarantee from a business borrower. Similar to the obligations you have with a landlord‚ you must make sure that the assignment or termination of the line clearly states that as of the date of sale‚ all guarantees will cease to be operative.
3. Properly Advising Vendors/Contractors
Your relationship with other business owners is a critical component of your business. Whether it be your information technology contractor‚ a vendor that sells you your inventory or the company that services your alarm system‚ at various stages of being business‚ you have relationships with other business owners. Depending on how long you are in business‚ you may not recall establishing these accounts and relationships. One of the things in the fine print of the vendor agreement may have stated that in the event you owe any money or terminate the relationship early‚ that you will be personally responsible for the debt. Once you have made the decision to sell‚ it is important to review your agreements and properly notify your vendors and contractors that you will be terminating the agreement and follow the notice instructions on the agreement. The earlier in the process the better‚ as many vendors will require advanced notice to cancel.
4. Do the Right Thing
Although this seems pretty obvious‚ I have to mention this because some people just do not understand the potential ramifications of doing the “wrong thing”. Very often‚ when selling a business‚ a business seller will look to maximize their profit by “fudging” some information during the process. This could mean that some of the numbers disclosed to the buyer were not completely accurate or some modification was made to an agreement without the other side knowing about it. During the business sale process‚ a seller will have many opportunities to not be completely forthcoming. The reality is‚ however‚ that a cheater cheats only himself. In the context of a business sale‚ if there is any fraud during the process‚ the person who was defrauded will ultimately come after you for making the misrepresentation. Many people believe that the entity will shield them from personal liability but that is not always the case. In matters of fraud‚ the plaintiff may look to “pierce the corporate veil” and look to you personally. This is a potential disaster for you and‚ what I usually find is that the gain obtained from the fraud is nowhere near worth it. Keep this in mind when the time comes and remember that peace of mind is the goal.
5. Pay Your Taxes
No matter what happens‚ the government is going to get paid what it is owed. It is just a fact of life‚ unfortunately. During the business sale process‚ you should be working closely with your accountant to ensure that any and all tax obligations are minimized and ultimately paid.
There are other instances that can create personal liability when selling a business and you and your attorney must be aware of each one. Each business has different risks and enters into different arrangements for their business. You must make avoiding personal liability following the sale a top priority. For more information on avoiding personal obligations and other important information about the business sale process‚ click on the link below to download ENDWISE: the guide to selling your business with peace of mind.