What is a Corporate Lien?
A corporate lien is legal claim against a business for money owed to another entity. A corporate lien is usually placed on a business for a debt or unpaid bills owed to another business. Corporate liens may also be used to recover back taxes owed to the government. A corporate lien is placed on the debtor company's assets to record that the company has outstanding financial obligations. The presence of a corporate lien is important information for shareholders and potential buyers to know.
How Corporate Liens Work
Corporate liens are just a type of lien that is used against a business rather than an individual. Placing a corporate lien against a business requires a court order agreeing that the company is in arrears for money owed to another entity. Once there is a court order agreeing that the money is owed, that claim is filed and attached to registered assets of the business. When the corporate lien is filed, the assets subject to the lien cannot be sold freely - technically known as no longer being unencumbered.
- Corporate liens are legal claims against a business that are backed by a court order and filed against the assets of the business.
- Corporate liens prevent the sale of the assets that they are attached to until the money owed has been paid or otherwise settled.
- Corporate liens have priority over shareholder claims should a business go into bankruptcy.
- Investors and potential purchasers of the business can find information on outstanding corporate liens using public databases.
There are instances where more than one outstanding lien will be in place against a business. If the business fails, the order of the lien holders matters greatly in terms of who will get paid back. More liens on a business present more risks for future lenders. Lenders are less likely to take on risk with second and third lien positions as a result.
Corporate Liens Versus Personal Liens
Corporate liens work just like a personal lien. For example, when a bank finances a personal automobile loan, they hold a lien on that automobile securing the loan should it not be paid back in full. The core purpose of a lien is to guarantee a loan. In the event the loan is not paid off in full, the creditor may take possession of the asset that the lien secures, in this case the automobile. A lien is essentially a form of collateral, where a borrower puts up something of value they own in exchange for securing new credit.
Where personal and corporate liens differ is the fact that a corporate lien can become a type of investment in and of itself. If a company cannot meet its obligations, investors can purchase the corporate lien and settle on their own with the lender. Examples of this are most often seen in the area of unpaid back taxes, where a company suddenly must pay large amounts in back taxes, plus penalties. In these cases investors may step in to prevent bankruptcy and to negotiate new lending terms. Should the company declare bankruptcy in the end, holders of the corporate lien are likely to be given priority over others waiting in line to be repaid, including stockholders.
Corporate Liens and the Impact on Purchasing a Business
Obviously a buyer of a business needs to perform due diligence to assure there are no outstanding corporate liens held against the company. Legally, liens must be disclosed as part of the purchase process and may not necessarily be deal breaker depending on the history behind the lien. If, for example, a company is in the process of disputing the legality of the lien, there may be a justification for the company not paying it off or settling it in advance of sale.
If you are considering buying a business, however, it is worthwhile doing your own research to discover any corporate liens in advance rather than depending on solely on the seller's disclosures. There are publicly available databases for potential buyers to search for any outstanding liens. There are three kinds of searchable liens available to the public. The first is a UCC lien, which is filed with the Secretary of State’s office in most U.S. states. Tax liens are also typically filed in the state of the company’s legal headquarters and will show any liens placed against unpaid back taxes. Lastly, judgment liens are filed when a legal judgment has already occurred; these judgments are most often filed in local county courthouses.
When buying a business, you can also hire someone who is familiar with these types of lien searches to avoid any post-sale surprises and avoid costly post-sale legal action against the seller.