Business loan vs personal loan or home equity line of credit to buy a business

A buyer short of cash for a purchase can borrow through the company or business, or in their own name. The searches “business loan vs personal loan” and “HELOC to buy a business” point at the same question: who is the borrower, and what is pledged? The answers change what the lender can take and what the buyer can lose; how the money is used bears on whether the interest is deductible. This page compares the features of each. It does not recommend one.

A business acquisition loan

BDC describes senior debt as the bulk of a typical acquisition financing package: a loan secured on the assets of the company. The amount may not be fully secured by specific assets, but the lender has a first charge against assets such as accounts receivable, inventory, real estate and equipment in a recovery situation. That is lending against the business. Whether it also reaches the buyer personally depends on the lender’s terms. BDC, writing about working capital loans, says that without tangible collateral a borrower will generally be required to sign a personal guarantee.

A personal loan or a HELOC

The Financial Consumer Agency of Canada says personal loans allow you to borrow a fixed amount of money and pay it back over a certain period. There are two types, secured and unsecured. A home equity line of credit is a revolving credit product secured by your home. If you don’t pay back what you owe, your lender may take possession of your home. Either way the borrower is the individual, not the business being bought.

Where they differ

• Borrower: the business, or the buyer as an individual.
• Security: business assets, the buyer’s home, or nothing for an unsecured personal loan.
• Form of money: a fixed amount repaid over a set term, or revolving credit under a HELOC.
• Recourse: a guarantee can bring personal assets into a business loan, as the next section explains.

Guarantees and the federal program

Under the Canada Small Business Financing Program guidelines, a lender can take unsecured personal guarantees up to the original amount of the loan disbursed. A loan may be ineligible if the lender has taken a personal guarantee that is secured by collateral assets, subject to the conditions the guidelines set. The guidelines also say that in an acquisition of shares the loan is advanced to a shareholder, not to a small business eligible to finance eligible assets, so the acquisition of shares is not eligible for financing. A buyer purchasing shares in their own name cannot use that program for it. The personal guarantee entry explains the instrument itself.

Interest and use of funds

The Income Tax Act, in paragraph 20(1)(c), allows a deduction for an amount paid or payable for the year under a legal obligation to pay interest on borrowed money used for the purpose of earning income from a business or property, or a reasonable amount in respect of it, whichever is less. Money borrowed to acquire property whose income would be exempt, or to acquire a life insurance policy, is excluded, and other provisions of the Act can limit the deduction. As written, the test turns on how the borrowed money is used. The name of the loan does not decide it. Whether a particular loan qualifies is a question for a tax professional.

Which fits depends on

These are factors to work through, not a recommendation. A lender or adviser can tell you how each applies to your deal.

• If the lender requires a personal guarantee anyway, the personal exposure of a business loan and a personal loan may overlap.
• If the home would be pledged, ask whether the lender registers a charge on it and what happens if repayment fails.
• If the deal is a share purchase, the program guidelines do not finance it, so ask what else the lender offers.
• If the funds are needed for a fixed price at closing, compare a fixed amount over a set term with revolving credit.
• If the buyer intends to deduct interest, confirm with an accountant how the funds will be used and documented.