Marketlend Academy: how to protect your business in a housing downturn
The state of the economy affects every business, especially small and medium sized enterprises. One issue that could be of particular concern for business owners is the recent decline in home prices.
Housing Market Conditions in Australia
Higher mortgage rates, increased lending regulations and financial scandals have led to a sharp decline in housing prices in the Australian market. Australian home prices have dropped for 11 months in a row, resulting in a 2% annual fall, the sharpest decline in property values in six years.
This is a business issue, as well as a homeowner issue, because reduced home values could have a serious effect on the financial interests of small and medium-sized businesses and, perhaps more importantly, their access to capital.
Impact of Reduced Property Values on Australian SMEs
A Duke University report states that “improvements in collateral values ease credit constraints for borrowers and can have multiplier effects on economic growth.” However, what happens when the opposite occurs and there are declines in collateral values? There are several ways that lower housing prices impact Australian businesses due to lower financial leverage.
Small and medium-size business owners in Australia may find it difficult to get financing from banks to start their companies, which is why it is fairly common for them to use residential real estate as collateral. The home’s value serves as protection for the lender in case the borrower is not able to repay the loan.
Previous property booms have facilitated lending, but the recent reduced property values will make it increasingly difficult to use homes as collateral to obtain small business loans. It will also be harder to utilize home equity lines or cash-out refinancing to finance startups or fund operations. Finally, the value of the guarantor’s personal assets will be lower, thus inhibiting their ability to use personal guarantees to secure business loans.
Strategies to Protect Business Assets Amidst Financial Instability
Separate Personal and Business Finances
The first step to protect your business amidst lower housing prices is to separate personal and business finances. Many Australian entrepreneurs have one bank account for dual purposes, which can put their personal assets at risk in the case of bankruptcy.
Linking your finances can also be detrimental to the business—if the lender observes that higher interest rates make it challenging to repay a mortgage, they may be less likely to offer new business loans. Alternatively, if a business is struggling, a lender may be unwilling to keep it afloat if there is insufficient property value to be used as collateral.
It is best to use different bank accounts and credit cards to separate business and personal finances. This will also make it easier to track businesses expenses and use them as tax deductions at tax time. While some expenses may overlap, such as car usage or a home office, designate a percent usage for business and pay it out of the specific account.
Utilise Secure Loans from Personal Funds
Many business owners use personal savings as capital injections to fund their businesses. However, should the company face financial constraints and go bankrupt, the investments will never be returned.
A better alternative is to make a secured loan to the business, using personal assets as collateral. Although this choice also carries some level of risk, if the business declares bankruptcy, the funds may be recovered through a liquidation. Additionally, there may be certain tax advantages for repaying a personal loan.
Maintain a Strict Budget
Businesses that are not properly budgeted for will likely require more cash infusions to sustain them through tough times. As it will likely be more difficult to obtain small business loans due to lower home values, it is important to maintain and stick to a budget for your business.
Keep detailed data about your spending and earnings and pay yourself a set salary—these steps will help you to understand your business expenses and anticipate and save for the future.
Financial concerns that affect SMEs are really everyone’s concern, since 90% of all Australian companies are small businesses that account for 33% of the country’s GDP and employ over 40% of its workforce. The current state of the housing market will no doubt affect entrepreneurship in Australia. However, with proper planning and implementation as well as guidance from a business attorney and a financial advisor, business owners should be able to sustain their companies and find funding for new business ventures.