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Can Business Bankruptcy Ruin Your Personal Credit?

business-bankruptcy-personal-creditIf you’re a small-business owner, you’re probably not the type to be intimidated by statistics. You’re a risk-taker who would rather try and fail, than always wonder if you could have made it on your own. Sure, your business could go under, but even if you were to take the safe route and work a steady corporate job, there would always be the chance that you’d be laid off, or that the company you were working for would decide that off-shoring your department would be a more cost-effective strategy.

That being said, you’re probably aware that the statistics on small-business failure are less than rosy; the exact numbers vary by industry, but 50-70% of startups fail within the first 18 months. Depending on how much debt is incurred by starting the business, some of those businesses are forced to declare bankruptcy. So what happens to the business owners? Are their assets protected by from liability for business debts? What about their personal credit ratings? Well, that depends.

Legal Structure Is Key

Small-business owners have several options when it comes to choosing a business legal structure. Sole proprietorships and partnerships are easy to form and inexpensive to maintain, but they do not separate the business from its owners, from a legal standpoint. Thus, owners of failed businesses organized under these legal structures are fully liable for business debts. In contrast, organizing a business as an LLC or corporation establishes it as a separate legal entity, capable of assuming responsibility for business debts.

How Business Credit Shields Personal Credit

Getting a tax ID and incorporating or forming a limited liability company enables a business to be legally responsible for its own debts, but its creditworthiness is another matter entirely. In order to be considered bankable by banks and other lenders, a business must first establish a solid business credit rating. Until a business has proven its capacity to manage debt, business owners will often have no choice but to waive the protection offered by the corporate veil by providing personal guarantees, or collateralizing their personal holdings.

Small-business owners can get their businesses started down the road to creditworthiness by registering with the business credit bureaus, establishing working relationships with lenders by opening business bank accounts, prudently managing their lines of trade credit, and monitoring business credit ratings. Through careful financial management and business credit monitoring, small-business owners can help their enterprises build the credibility necessary to protect their own personal assets and credit ratings.

So the answer to the titular question of this article is: “Yes, a business bankruptcy can certainly ruin one’s personal credit, but there are simple measures that any small-business owner can take to prevent that from happening.”

Author:

John R. Klaras is a serial entrepreneur and small business professional, a writer, and an educator by trade. With nearly a decade of experience in the telecommunications industry, he is currently in the process of building a burgeoning new microbusiness. He has written for leading companies in a wide variety of verticals, including travel, finance, motorsports, and real estate.