A tax lien can be a red mark on your business loan application.
For most small business owners, debt is an unavoidable aspect of doing business. You don’t always have the capital to make purchases in cash, nor can you pay every bill at the same time. But when your debts begin to pile up and taxes go unpaid, your debt can have potentially devastating consequences for your small business. Chief among them is the dreaded tax lien—an official government claim to your property due to unpaid taxes.
Tax liens can impact your financing options much more than your run-of-the-mill debts. Whether you have a tax lien against your personal assets or your business, your business financing options are going to become much slimmer until the debt is paid in full. But that doesn’t inherently mean that getting a loan with a tax lien is impossible. You’ll just have to be much more strategic with how, when, and from whom you source the capital your business needs.
What is a Tax Lien, and How Do They Work?
When you fail to pay your taxes, the IRS can file a written claim to your business, essentially an “IOU” to the government. If you then sell your property, the government gets rights to the money. And if you don’t pay what you owe, eventually the government can enforce the lien by seizing your business to satisfy that debt.
A tax lien allows the government to skip the line and get paid before any other creditors to whom you might owe money. This means your business fails and you have a tax lien, other creditors may end up with nothing. Understandably, this makes lenders hesitant to loan money to an individual or business with a tax lien.
How Tax Liens Impact Your Business
Even if your tax lien is personal, rather than professional, you can still expect the effects of your tax trouble to spill over into your business operations. Lenders often look at both the individual as well as their company when determining whether or not they’re likely to pay back what they’ve borrowed. So a personal lien against a business partner will make their company appear just as financially risky an investment as the individual his or herself.
How Do Tax Liens Affect Your Financing Options?
Tax liens can have a cascading effect on your company’s financing options and creditworthiness, whether or not the lien is against yourself, a business partner, or your business. Lenders place risk at the heart of their decision to loan money to individuals and businesses: the more you’re able to demonstrate a track record of paying your debts, the less risky you appear.
But even if you have a tax lien against you or your company, you’re not inherently disqualified from borrowing money. The number of lenders that will give you a loan simply becomes smaller, and the kinds of companies willing to loan you money will look a bit different. Here’s what you need to know if you’re looking at your financing options with a tax lien.
Tax Liens and Borrower Risk
The spottier your repayment history, the riskier you’ll appear to lenders. And tax liens signal to lenders that you’re either unable or unwilling to pay back your obligations, which poses a major risk that the lender will not get their loan repaid. That said, tax liens no longer impact your credit score, which means that this key indicator of your creditworthiness won’t take a hit if you’re in tax trouble. Lenders will still be able to see that you have a tax lien against yourself or your business, however, so it’s important to know that this aspect of your finances won’t go without notice—and it will certainly have an impact on your risk assessment.
Be Sure the Lien is Accurate
No person—or agency—is perfect and the IRS has made errors when filing liens in the past. Catching (and removing) an erroneous tax lien will make it much easier to find a business loan, so it’s important to address any issues quickly. If you’ve paid off a lien but it hasn’t been released or you believe you owed a different amount of taxes, contact your county clerk, recorder or assessor’s office to verify the lien.
When you receive a notice from the IRS, you’ll be given steps for correcting mistakes. They will vary depending on the type of lien (for example, a lien on your car will be correct through the DMV), but the process should be straightforward.
Repaying Your Tax Lien
The best way to alleviate tax lien-related financing challenges is to pay your back taxes as quickly as you can. Obvious though it may seem, the best thing you could do for your personal and professional financial health is to get the lien off of your financial records. Thankfully, the Internal Revenue Service is often willing to work with debtors to find repayment solutions that help them recoup money in a way that won’t financially ruin the people who owe them unpaid taxes. The IRS may also strike a deal with you that would only require you to pay back a percentage of your tax lien’s total. As soon as you’re notified of your tax lien, reach out to the IRS to assess your repayment options.
Financing Your Business Through Alternative Lending
If you need access to a loan, but can’t afford to wait until your tax lien is repaid, you’ll have to look toward alternative lending providers. Alternative lenders act similarly to the conventional banks in terms of the loans they offer, but differ from banks in terms of their appetite for risk. These institutions are more risk-tolerant, which means that they may be willing to take on riskier creditors in exchange for higher interest rates and less borrower-friendly terms.
Some lenders may be okay with a lien under a certain size. Others may view the lien in comparison to your annual business revenue. Liens that are smaller than 7% to 10% of your annual revenue are more likely to make it through a lender’s underwriting process.
You’re still better off paying your tax debt and waiting for the lien to be removed from your record (which happens 30 days after you’ve fully paid off your debt), but alternative lenders can help you find the financing you need when that’s not possible.
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Tax liens will have an unavoidable impact on your business financing options. But this doesn’t inherently mean that you’ll be ineligible for loans while you work out your debt. By reaching out to the IRS for federal tax liens (or state taxation bodies for state tax liens), working out payment plans, and being diligent about erasing your tax debt as quick as you can, you can still keep your business on the right financial track. And if you need financing while you tackle these tasks, you always have an option in alternative lending, which can give you the money you need when others won’t. As challenging as a tax lien may seem, it’s far from a financial death knell for you or your company—all you need to do is keep calm, stick to a plan, and get creative.