Adam Tavener looks at a recent report from the Bank of England highlighting the scale of small business owners using their homes to secure lending and asks: what’s the alternative?
The in-house blog of the Bank of England (BoE) recently contained an article raising concerns about the scale of SME owners using their family homes to secure business lending. According to the report, around half of all bank facilities provided to small business are secured in this way.
This article goes on to claim that the use of such security by lenders makes a mockery of limited liability, and that falling house prices could affect this source of funding. No s***t Sherlock, where have you been for the last forty years or more?
The almost blanket use of personal guarantees, whether supported by property or not, has rendered limited liability utterly redundant for years. Very few SMEs have balance sheets that are strong enough and contain the right asset mix, to support significant external lending without the directors agreeing to accept personal liability for the debt. There is nothing new in this, and some might argue that a personal liability is an effective way of managing moral hazard and encouraging prudence.
Extending this liability to a charge on the family home usually occurs when the individual’s only asset that contains realisable equity of similar or greater value than the debt is their house. Again, nothing new in this. Either way, the protection offered by limited liability is long gone and the consequences of failure in both cases can be personal bankruptcy and the loss of the property in question.
Not nice. But what are the alternatives? Not borrowing at all is, of course, one option, but by and large, businesses that are seeking to borrow are doing so to grow and to increase their profitability and value. Therefore, shunning personal risk may come with a very high opportunity cost attached.
Other assets such as pensions can be leveraged to support growth, however not all SME owners have a pension pot of sufficient size as to make this viable, so often it’s the house or nothing. Of course, there are many protections involved in this process and believe me, the banks are not keen on the last resort of repossession, as it’s not a good outcome for anyone. So, they do ensure that as far as possible, the business has the wherewithal to repay the debt.
Apparently, according to the BoE, the value of the housing stock that currently stands as security for SME borrowing is £1.5tn. That’s ten times more than the annual amount invested into SMEs. Of course, that number isn’t all free equity and much will be subject to mortgage, but there still feels like a huge gap between the amounts secured and the net equity available to support it, which is why I was scratching my head a bit at the blog’s assertion that somehow this practice left SMEs’ external funding arrangements vulnerable to falling house prices. In an extreme situation, yes, I suppose so, but it’s my experience that if such a crash occurs we all have bigger things to worry about.
My real confusion with this article was what the author thought should, or could, be done about it. Yes, directors give guarantees and charges on their homes. Yes, absolutely, they’d rather not but they are taking a calculated risk to achieve a business goal. Give them real alternatives and I’m sure that there would be a stampede, but this is a free market and these processes have evolved for a reason, so only a meaningful government intervention is likely to change the current dynamic, and I can’t see that happening.
As I like to say to my team, nice article, but what’s your suggestion? Don’t bring me problems, bring me the solution too.
About Adam Tavener
Adam is founder and chairman of Clifton Asset Management Plc, the innovators behind the Pension-led funding brand (www.pensionledfunding.com), providing high quality non-bank finance to SME's across the UK. Clifton employs approximately one hundred staff in their headquarters near Bristol.
Currently almost 2,000 businesses have used Clifton for pension-led funding. With over £260million of pension-led funding provided to these SMEs, Clifton is now one of the largest alternative funding providers in the UK, and it was recognised at the Business Moneyfacts Awards 2014 as the Best Alternative Funding Provider in the UK.
The Clifton Group of companies also includes Pensioneer Trustee’s Morgan Lloyd (www.morgan-lloyd.co.uk) and Wealth Management and Employee Benefits business, Clifton Wealth Ltd (www.clifton-wealth.com).
Adam and Clifton were the catalyst for the creation of the Alternative Business Funding (ABF) collaboration and non-bank funding portal - www.alternativebusinessfunding.co.uk. The portal unites the country's top non-bank funding providers to exchange rejected applicants for credit between themselves. In 2014, ABF successfully lobbied BIS and The Treasury to introduce legislation to force the major banks to pass over the details of rejected SME applicants to the non-bank sector.
In the course of developing the ABF collaboration Adam was part of The Treasury working group created to deliver the new bank referral legislation. As well as HMT, Adam has advised the British Business Bank, Downing Street and The Department for Business, Innovation and Skills.
In 2017, HM Treasury, acting on the advice of the British Business Bank, appointed ABF as one of the Government’s designated finance platforms for the Bank Referral Scheme.
Adam is a CBI regional council member.