Assumption of Debt is Valid Consideration For Purchasing a Business… Use It.

Here is a very important and useful concept (especially in this debt-heavy economy) that can answer the question, “How do you purchase a business with limited cash?” The answer is easy—assumption of debt counts as valid consideration and will support a valuable purchase of a small business.

It works as follows: if there is secured bank debt, the purchaser will simply commit to a debt assumption agreement, promising the seller to pay the monthly note and the costs of default should the purchaser fail. (Beware, this is an empty promise and usually results in default, but this is how it works.)

The same principles apply to unsecured vendor debt (landlord debt, etc.). The acceptance of and promise to pay another’s debt, no matter what the debt be (i.e. “assumption of debt”)  is equivalent to valuable consideration to the person whose debts are being covered. Thus, the buyer can buy a business without cash by agreeing to assume the debt of the business. The seller is still on the hook and remains obligated if personally guaranteed, but as long as the buyer pays, the seller has received adequate consideration for the transaction, despite no money changing hands.

It is a buyer’s deal, as the seller remains at risk and the business will cash flow the payment stream and thus, the acquisition. However, when the seller is burned out, ready to walk away, out of cash and unable to operate and searching for an escape route, this type of offer works very well.

More typically, a deal is structured with some cash and some debt assumption, as the cash is the incentive for the seller to pack it in and leave, while the assumption of debt presumably gets the seller off the hook and allows the buyer to cash flow his acquisition.

New blood, maybe additional funding, can make the difference between the new buyer’s success and the old seller’s defeat and loss. Assumption of debt is the deal maker for both parties.

Go shopping, buy a business or two and use assumption of debt as consideration.