How does a divorce affect your business borrowing?

A divorce touches business borrowing at three points and nowhere else. Everything else about it is outside what a funding conversation can usefully address, and this page does not attempt it. Get a family lawyer. What follows is about the loan.

Point one: who has to sign

Lenders care about whether anyone other than the named owner has a claim on the business or on the collateral.

Under 13 CFR 120.160, SBA's rule is that "holders of at least a 20 percent ownership interest generally must guarantee the loan", with SBA or the lender able to require guarantees from others where necessary. If a settlement transfers 25 percent of the company to a former spouse, that person becomes a required guarantor on a subsequent SBA loan, whether or not they have anything to do with the business. That is a structural consequence worth knowing before the percentages are agreed.

Point two: uncertainty is worse than a bad outcome

A lender can underwrite a business owned 60/40 by two people who dislike each other. It struggles to underwrite a business whose ownership will be determined by a court at an unknown future date.

What makes a file lendable during a proceeding:

• A signed settlement or a court order that fixes the ownership.
• A standstill or interim agreement stating that neither party will encumber or transfer the business pending resolution — which at least tells the lender what cannot happen.
• A clear statement of who currently has authority to bind the company, supported by the operating agreement or bylaws.

What makes it unlendable: a live dispute over control, competing signatures on company documents, or a temporary order restraining the business from incurring debt. That last one is common and is frequently overlooked — if an order restrains either party from encumbering marital assets, taking a secured loan against the business may breach it. Check before you apply, because a lender that discovers it at closing will walk, and the consequences of breaching an order are not commercial.

Point three: the buyout arithmetic

Where business debt funds the purchase of a departing spouse's interest, the debt service is the entire underwriting question.

A 400,000 buyout financed over seven years at an illustrative 11.5 percent costs 6,954.58 a month, or 83,455 a year. Total debt service becomes 179,455, and coverage falls to 218,000 ÷ 179,455 = 1.21.

That still clears a 1.20 floor, with 2,654 of EBITDA to spare. It does not clear a 1.25 floor. Work out the maximum instead of guessing: at 1.20, total supportable annual debt service is 218,000 ÷ 1.20 = 181,667, less the existing 96,000 leaves 85,667 a year, which at the same rate and term supports a buyout of about 410,600.

So 400,000 works and 450,000 does not. That is a number to have in the room before the figure is negotiated, because a settlement agreed at a level the business cannot finance has to be renegotiated or funded from somewhere else.

Two structuring points that change the arithmetic:

• A seller note from the departing spouse, subordinated and on standby, moves part of the consideration outside the coverage calculation while the senior debt is outstanding. Whether the departing party will accept it is a negotiation, but it is often the difference between a financeable settlement and an unfinanceable one.
• Term length. The same 400,000 over ten years rather than seven reduces the annual cost materially and improves coverage. It also costs more in total interest. That is a real trade-off, not a trick.

What to have ready

• The current operating agreement or bylaws, with any buy-sell provisions flagged. Many contain a mechanism for exactly this situation, including a valuation method, and it governs.
• Any court order or interim agreement affecting the business or its assets.
• A recent valuation, if one has been prepared for the proceeding. Lenders will read it and may not agree with it, but its absence is worse than its presence.
• Two years of business tax returns and current interim financials.
• A clear statement of what the post-settlement cap table will look like, with percentages.

What to ask for and what to refuse

Ask the lender directly, early: does your policy require a spouse's signature in my state, and on which documents? The answer determines whether the timing of your application and the timing of your settlement can be separated at all.

Ask your family lawyer, before you apply, whether any order or agreement restricts the business from borrowing or granting security. One email.

Refuse to sign loan documents that make representations about ownership you cannot currently support. Refuse to time a borrowing to get ahead of a settlement without telling your own lawyer. And refuse to agree a buyout figure before someone has run the coverage arithmetic above — a settlement the business cannot service is a problem that arrives a year later and is harder to fix than it was to prevent.