Entrepreneurs pay business debts before their mortgages

Posted by: John Tozzi on September 08, 2008

Small business owners are more willing to default on their home mortgages than on their business debts, according to research out today from credit bureau Experian. Some 312,000 business owners were at least 90 days late on a mortgage payment at some point between April 2007 and April 2008. That’s 2 percent of all business owners with mortgages, a lower rate than the broader population of homeowners (almost 4 percent).

Business owners protect their companies even at the expense of their homes to keep their source of income intact, according to Experian. “Particularly for those who have had a severe mortgage delinquency, these people are seeing absolutely punishing equity reductions, they’re seeing refinancing options dry up, and they’re looking at their business as being a stable source of cash flow,” says Torsten Gerwien, Experian’s vp of decision sciences.

I also imagine many people in this situation may be non-employers or micro-business (fewer than 10 employees) owners whose personal finances are pretty much intertwined with their businesses. Their business debts may be smaller and easier to pay than their mortgages.

Some other surprises after the jump.

1) The rate of mortgage delinquency was about the same regardless of how old the homeowner's business was or how many employees it had.

2) Even after falling behind on mortgages, small business owners were able to access business credit, particularly trade credit from suppliers.

Experian is in the business of selling data to people trying to determine whether a potential borrower will pay them back. Their big-picture takeaway is that even small business owners severely behind on their personal mortgages may be good credit risks for business-related lending. But because small businesses are often evaluated based on the owner's consumer credit score, they may appear to be riskier borrowers than they actually are.

Says Gerwien: "For the business owner that’s got mortgage trouble, there’s still commercial funding available as long as you’re making your [business] payments properly." After a delinquency, the personal credit available to business owners declines, so they turn more to commercial financing, especially trade credit from suppliers, Gerwien says.

Experian also found that there was no peak in delinquencies in the April '07 to April '08 period -- the trendline just goes up. The problem disproportionately hit states like Nevada, Florida, and California where the housing bust was most severe.

Some caveats about the data: These numbers are culled from an Experian database that links consumer credit profiles with business credit profiles. The delinquencies include all types of mortgages, including primary, home equity loans, loans for second homes or investment properties, etc.

Reader Comments

Tony

September 9, 2008 04:16 PM

How do you think this affects someone like Teresa Phillips of Graspr.com that was written up in USA TODAY yesterday morning. Things look like they are starting to come around and the site will become self sufficient with advertising.

Carol

September 10, 2008 04:34 PM

In this article by John Tozzi, he is probably looking at the statistics of franchised small retail businesses, which are included in the Experian database.

Of course, those small retail franchise business owners who have used SBA Loans to finance the startup of their franchised businesses will always pay FIRST their SBA Loan and royalties to the franchisor, and their lease payment to the business Landlord, and their debt to suppliers, because if they default on their business loan or their lease or the royalry payment to the franchisor (assessed on their gross sales and NOT on their profits) they will lose everything invested in their business almost immediately under the terms of the contracts they have signed with the franchisors. Franchisees are required to sign personal guarantees to get business loans and to post collateral and when they lose their businesses they often lose their homes, as well.

If they miss a royalty payment or a lease payment as a franchisee, the frnchisor immediately can get an injunction from the court to close them down and take their business from them, and sell it to someone else for almost nothing, who may be able to break even and continue to pay the franchisor the royalties on the gross sales of the business.

The churning of small franchised business units is what has made franchising durable in our "retail" economy where there are MALLS located every three or four miles apart, who often become obsolete in ten years or less because of the SATURATION of markets in pursuit of the maximization of profits. Franchisors have a better chance of surviving recessions because they don't share in the failure of the business units in their systems that are employed to saturate markets.

Government depends on franchising to stimulate the economy in recessions when good jobs are scarce and citizens are looking to self-employment to survive in the economy. Government is pushing franchises to VETS and their family members through the initiative of THE PATRIOT EXPRESS LOAN program, a pilot program that was implemented ty the SBA in June of 2007. They are no doubt hoping that franchising can again help us to survive the recession and to provide the appearance that there is growth of good jobs in the economy. Retail franchise jobs are not good jobs with benefits or a future for the employees or the owners of the franchises. .

The banks and lenders have additional exposure to franchised business losses because they have been willing these past many years to loan on home equity to buy a franchised business and haven't until recently been doing due diligence on the franchisor because the home (that was rising in value every day) was such excellent collateral. Now, of course, they will have to eat some of those loans.

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About

What's it like to run your own company today? Entrepreneurs face multiple hurdles new and old, from raising capital and managing employees to keeping up with technology and competing in a global marketplace. In this blog, the Small Business channel's John Tozzi and Nick Leiber discuss the news, trends, and ideas that matter to small business owners. Follow them on Twitter @newentrepreneur.

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