“Great news, Evan! We’ve reviewed your company’s Bank application for the $100,000 operating loan and we’ve agreed to advance the funds today. The terms of the loan are: there will be no security, no interest charged and the loan will be repayable when you have the extra cash to pay us. We hope you will agree to accept the loan under these terms.”
Did you just say that no bank would be crazy enough to make a loan under these terms? And what was that about the bank having to protect its depositors’ money when lending? And what was that about earning interest on depositors’ funds?
A banker who made that loan would be guilty of the most extreme career-limiting move possible. A Bank that intended to stay in business would almost never make that loan without security over the business assets – accounts receivable, inventory, equipment, furniture and anything else of value.
Now let’s take a look at your company’s balance sheet. If your company owes you, (its shareholder), money, is that loan unsecured, interest-free and open for repayment only when convenient? Why are you not entitled to the same protection that your banker would require from your company before lending it one dollar? In fact, not only are you entitled to the same protection, you should demand it!
Perhaps your company has already borrowed from a Bank and has pledged all its assets as security. Remember that, in the event a financial crisis forced the liquidation of those assets to repay the Bank as secured creditor, any surplus funds remaining after full repayment to the Bank would be available for sharing by all unsecured creditors. If your shareholder’s loan were properly secured and registered, you could be next in line to receive the surplus funds.
Remember also that the bank’s position may change dramatically from the date you advanced your loan until the time when assets are being liquidated. There may even be no money owing to the bank when a liquidation takes place, in which case your loan would enjoy a first position over the proceeds.