The decline in property values could create problems for small and medium businesses in Australia, says a specialist insolvency and business recovery practice.
Business owners often use their homes as a guarantee, but this could be dangerous as recent reports suggest house prices have fallen at their fastest rate in more than six years.
Trent Devine, a partner with Jirsch Sutherland, believes that while huge boom-fueled increase in home equity has allowed many businesses to remain afloat in the past, the current drop in property values may now spell disaster for small business owners.
He added, “Any business that has used personal finances for business borrowings is at risk. As property prices continue to fall, there are reduced levels of equity with which to finance or prop up a business.”
Devine said that borrowing from home equity to start a business is extremely common in Australia, especially among husband and wife businesses.
He added, “In the past, when times were tough, struggling businesses have been able to lean on the equity of their home. Now, with falling house prices and other factors, this can have a disastrous knock on effect for businesses.”
He said the potential for business insolvency often stems from an ill-advised link between business and household finances, a situation unavoidable for many new businesses.
“SMBs often use the same bank for the business that they use for personal banking, therefore they’re likely cross-collateralised,” he said. “They may have their mortgage and business loan with the same bank. They don’t separate one from the other.
“Rises in interest rates and resulting mortgage stress can certainly flow onto businesses as we’ve witnessed over the past 12 months. If a business is struggling, banks might now note that there’s now no property to support that business because the mortgage is under stress. Clearly, this means that business insolvency becomes a strong possibility.”
Devine strongly advises for business owners to treat home and business finances as separate entities to reduce risk.
He said, “Use different banks for business and personal uses so that cross-collateralisation is not an issue. If you are utilising personal funds, perhaps a secured loan to the business rather than opting for a capital injection might also be an option.
“Also, business owners who are looking to refinance to help fund their business’s cash flow might find this difficult because of falling house prices.
“When first setting up a business money can be incredibly tight, but it’s important for business owners to take the time and speak to their accountant or adviser to get the most appropriate advice. Options do exist and it’s important to explore them or risk losing everything.”