[Silhouette]

Merchant accounts are one of several business services that young companies can't set typically set up without somehow binding the contract to the business owners themselves.

I've noticed a disturbing trend in this respect recently, with seemingly everyone from law firms to banks wanting personal guarantees from someone to back up the company. This practice should, IMHO, be prohibited by law, and this should be impossible to override via any contract.

The entire point of a limited company (in UK terms) structure is that you know you are running a legally separate entity, and everyone else knows they are dealing with a legally separate entity. Everyone should judge the risks they are willing to take and offer terms that factor in those risks accordingly. This is done to incentivise people to start new businesses where there may be some degree of risk, without having to risk literally the roof over their heads to do it, and is universally acknowledged to be in the interests of economic development, which is why every major economy in the world has a concept analogous to that limited company.

Checking the credibility of the principals and asking for things like business plans and company financial statements is all perfectly reasonable so that a potential business partner can judge the level of risk. However, allowing piercing agreements is simply a completely one-sided deal: the little guy is now back on the hook for all of the risk, yet still takes the hit on all the bureaucracy associated with running a formal company.

If such agreements were banned, the banks and lawyers and other high-powered services would still have to deal with other businesses or they'd have on customers. They'd just have to be more realistic about what they charged if they wanted to continue working with profitable customers in the long run.

[Edit: Incidentally, piercing agreements do not seem to be completely universal. We've seen some fairly unpleasantly one-sided terms while investigating payment services, frequently including things like requiring direct control of your main bank account so they can grab whatever they feel like whenever they feel like it, but not everyone has asked for personal guarantees (as opposed to a personal credit check) at least at the stage we've got to with them.]

[tptacek]

Banks already do ask for financials and corporate track record. You're required to stake your own credit when your financials are inadequate. You want that to be illegal? It's better than those companies not be able to obtain merchant accounts?

[Silhouette]

Banks already do ask for financials and corporate track record. You're required to stake your own credit when your financials are inadequate.

As far as I can see, those providers who require personal guarantees usually do so as a standard condition for almost any new business. Effectively, they consider everyone's financials to be inadequate.

You want that to be illegal? It's better than those companies not be able to obtain merchant accounts?

Someone would still offer the merchant account services to businesses who could demonstrate a reasonable business plan, because on balance they would make money from doing so. Most new businesses are not, in fact, going to experience a 30% chargeback rate four months after the original sale.

The banks obviously know that, they just want (as usual) to privatise the profits but externalise the risks/losses. I have no problem with prohibiting that kind of predatory behaviour. It's a potentially significant barrier to starting a new business, and with the global economy in its current state, allowing absurdly risk-averse banks to inhibit new businesses is exactly what we shouldn't be doing.

If the banking industry had a track record of assessing its clients responsibly and lending (or not lending) based on the results of those assessments and reasonable assumptions, I would be happy to cut them some slack. But we all know damn well that they aren't doing that. And if governments are going to pressure them just to lend to small businesses, they should certainly pressure them to provide basic services to businesses that are viable without relying on loans as well.

[tptacek]

If someone could make money by offering merchant services to businesses with no credit history, they'd already be doing it. No law requires banks to require personal credit checks for merchant accounts.

[Silhouette]

If someone could make money by offering merchant services to businesses with no credit history, they'd already be doing it.

They are already doing it, every time a new business opens an account with them.

No law requires banks to require personal credit checks for merchant accounts.

I'm not talking about credit checks, I'm talking about a personal guarantee, of the "taking your house" variety.

[tptacek]

If it's possible to build a viable business offering merchant account services backed by absolutely nothing other than the creditworthiness of a brand-new corporation, why is nobody doing that already?

[Silhouette]

Because they don't have to. The negotiating positions are entirely one-sided, and since they command all the power, they can essentially impose arbitrarily harsh terms to any extent the law permits.

[Spooky23]

Why would expose themselves to such obvious fraud?

The personal guarantees go away once your business is a going concern.

[Silhouette]

Sorry, what obvious fraud?

And if the personal guarantees are going to go away once the business is a going concern, there's no problem with writing a shut-off date into the contract to make this explicit from the beginning, is there?

[joe_littlebiz]

"SQUARE" (square.com) does.

[marshray]

You're begging the false dichotomy here.

Insisting on personal liability for a corporate account is equivalent to denying the account to the corporation.

Bankers would prefer to have you sign away your first born children too (sounds like something out of Dickens). But we've made such practices illegal and there's no evidence that the money supply is suffering for it.

[tptacek]

Help me understand. What you're suggesting is that, simply by having paid a couple hundred bucks to incorporate, regardless of my personal credit, I should be able to establish a merchant account?

[marshray]

Asking to see some personal references and a personal background check is one thing. But requring a 'natural person' to become personally liable for a corporate contract is basically equivalent to denying the corporation.

So maybe the bank is willing to issue the merchant account to the individual with the understanding that it may be used by a corporation. But let's not call it something it isn't.

[tptacek]

You said it earlier: requiring a personal guarantee is indeed the equivalent of denying the account to the corporation. I'm not sure what else there is to talk about, unless you think contracts for merchant accounts should be compulsory.

[Silhouette]

I'm not sure what else there is to talk about, unless you think contracts for merchant accounts should be compulsory.

Completely automatic is obviously silly because of the fraud risk, but a presumption in favour and/or formal restrictions on acceptable criteria for refusal aren't nearly as absurd as you're implying.

We're talking about a very closed industry and a service that, in practice, directly affects people's ability to trade.

We regulate service providers in other essential industries, and they can't deny provision to a customer just because they don't like them. It's part of the deal if you want to operate in those markets.

And there are all kinds of laws to prevent or restrict one-sided deals that inhibit people's ability to trade. There are laws about monopolies and anti-competitive behaviour. The handling of non-compete agreements in employment law would be another obvious example in a slightly different context.

[Silhouette]

No, we're suggesting that if you're going to offer a merchant account to a company, your decision and terms should be based on the nature of that company.

You might reasonably do a credit check on the principals, since someone running a company who has a track record of bad debts is obviously a warning sign. Likewise you can check them against the databases of people who've been kicked off payment services before.

But in the end, you should be looking at whether a company has a credible business plan and people who are likely to execute it well. That's apparently good enough for other major financial transactions, including attracting investors and things like company credit cards for principals on the day you open a bank account. How come everyone else in the world can use common sense and make an informed judgement about risk, but merchant account providers can't?

[tptacek]

Ok, and now the answer to that question is, "No, actuarially, we cannot offer you a merchant account backed only by your corporation." Like I said before. Your response is... what? No merchant account for you?

[marshray]

No, I've outlined two other options:

A. The bank offers a merchant account to a party they feel is worthy with the understanding that this party is going to use the account for the corporation.

B. The bank re-evaluates their criteria for merchant accounts and/or develops new products with which to serve the demand for merchant accounts.

But the status quo seems to me like a situation in which an entrepreneur can't start an honest corporation without putting his kids' college savings at risk of highly unpredictable fraud loss. Unless this person is connected to the right people in finance and banking, of course.

Why shouldn't my local tree-trimmer be able to accept credit cards? Like Greece, imagine the uncaptured tax that results from this sector of the economy dealing instead in mostly cash. I don't think this the current system is optimal or fair.

[Silhouette]

Ok, and now the answer to that question is, "No, actuarially, we cannot offer you a merchant account backed only by your corporation." Like I said before.

Well, I don't believe that would be the universal answer in most cases, and perhaps where it really is there is a lesson that someone should learn cheaply. But let's assume you're right for the sake of this discussion.

Your response is... what?

That a financial service company with no new clients is not long for the business world.