Evidence on the Lack of Separation between Business and Personal Risks among Small Businesses
Small business researchers conjecture that there is little separation between business and personal risks among small businesses. Personal assets and wealth can be subject to business risks in the form of an implicit or explicit claim depending on the organizational form and whether personal commitments are pledged by owners. The choice of organizational form can be considered a mechanism to increase the degree of separation; however, lenders' requirements for personal commitments mitigate the benefits of limited liability provisions. This paper examines the role of personal collateral and personal guarantees in augmenting implicit claims on business and personal assets with explicit claims on personal assets and personal wealth. We document the degree of non-separation of business and personal risks for 692 firms. Our results suggests that small business owners have a significant incidence of personal assets and wealth pledged for business loans, even for organizational forms such as S-corporations and C-corporations with limited legal liability. These results confirm the conjecture that there is a lack of separation between business and personal risks. The lack of separation of business and personal risks has important policy implications for the borrowing patterns and access to credit markets of small businesses.
Volume (Year): 4 (1995)
Issue (Month): 2 (Fall)
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"Collateral, loan quality, and bank risk,"
Finance and Economics Discussion Series
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