What is a lien?

A lien is a legal claim that one party files to claim ownership to someone else’s assets. When a business takes out a loan to fund equipment or other expenses, their lender can take out a lien on the borrower as a way of indicating that they could reclaim that property in the event of non-repayment. If you have a lien on any of your assets, you will not be able to sell them until you pay off your original debt.

Creditors give lenders security that they will get their assets back after giving out a loan to a business. They also create a record of a business’s financial obligations for future financial transactions or equity sales.

Related:How To Get Business Funding: A Guide for Employers

How do liens work?

Some lenders have automatic lien rights while others have to go through the court system to place a lien on your business. A bank or other lender can have the lien written into the loan agreement before lending you money. As long as you make agreed-upon payments to your lender, they will not be able to seize your business property. If you stop making payments, the lender can act on their lien or file for one in court.

Government institutions may be able to seize your property without filing for a lien, and other lenders may be able to place a lien in court even if it was not in the initial agreement. Creditors use this process to place a lien when a debtor does not pay back a loan:

1. Collect proof of debt: The lender will gather bills, invoices and communications that outline a history of non-payment.
2. File for a court order from a judge:The borrower can refute the lien in court, and a judge will decide whether the lender can issue a lien.
3. Claim property:If the judge agrees to give the lender a lien, they will identify the borrower’s assets such as inventory, property and equipment. The lender notifies the county clerk, DMV and banking institutions to prevent the business from selling the property.
4. Seizure and sale:The lender can now seize the assets and sell them, often through an auction. If the borrower still owes part of the loan, the lender can apply to place additional liens against the business.

Types of business liens

Here are types of business liens:

Consensual liens

A consensual lien, also known as a security interest, happens when a business agrees to the lien as a condition of getting a loan or line of credit. Consensual liens apply to specific assets outlined in a contract. For example, if you take out an auto loan to pay for a truck for your company, you might agree to a lien that allows the bank to take back the car if you don’t repay the loan.

Tax liens

If a business owes back taxes, the government can place a tax lien to recover the debt. A tax lien can be placed on real estate, inventory and even intellectual property.

Related:Tax Accountant Job Description

Attorney’s lien

A lawyer can apply for a lien if they provide legal services for a company and they fail to pay the agreed-upon amount.

Mechanic’s lien

Unpaid debts to a supplier or contractor can result in a mechanic’s lien. The contractor can file a lien against a business’s property if they built, expanded or repaired a building and did not get paid.

Judgment lien

A judgment lien is any lien granted in court due to a lawsuit. Judgment liens may result in a business liquidating its assets for repayment.

Consequences of a lien

Some lenders do not do business with companies that have a lien against them, even if the lien is agreed-upon in a contract. Liens are paid in the order of filing, so a second lender may not want to risk another debtor getting paid first. Tax liens can lower your business’s credit score and limit your future borrowing opportunities. Liens can also be costly if you pay back part of a loan then stop, as the lender may have the rights to all of the original collateral on top of payments already made.

How to remove a lien

If you want to sell your property, get a loan or start improving your business credit, take steps to remove the lien from your property.

1. The best way to get rid of a lien is to pay it off directly. You may be able to negotiate with the lender and settle on a smaller lump sum to release the debt.
2. If your company has a tax lien, your companyaccountant can communicate with the IRS to set up a payment schedule and ensure their lien doesn’t impact your ability to get loans in the meantime.
3. You can check for liens by contacting your local county clerk’s office. Some areas have online tools where you can search by address or business name. If a lien comes up that you were not aware of or that you think is not legal, contact the debtor to have it corrected or challenge them in court to clear it from your records. Having a bookkeeper who tracks your debts, payments and purchases can help you show evidence that a lien is illegitimate.

Related:How to Hire a Bookkeeper

Frequently asked questions about liens

Is a lien a loan?

A lien is not a loan, but it can be a condition of a loan. Liens can be placed on the assets purchased with the loan.

What is a security interest?

A security interest is a consensual lien where the borrower gives up something they own as collateral for a loan.

What is the difference between a personal and business lien?

A personal lien applies to an individual’s private property, while a business lien applies to a company’s property. Personal liens are common in home mortgages and personal vehicle loans. A debtor cannot seize personal property based on a business lien.