What is vendor finance?

The parties first agree the key terms in a heads of agreement: purchase price, deposit, vendor loan amount, rate, term, security and any earn-out thresholds. The buyer then carries out due diligence, often with a broker or adviser, and the seller confirms what is included in the sale. A deposit is paid at contract signing and may be held in escrow.

Lawyers draft the loan agreement, security deed, any guarantees and, for asset sales, a retention-of-title deed, setting out the repayment schedule, default events and enforcement rights. At settlement ownership transfers and the buyer starts scheduled repayments of principal and interest to the seller. The seller then monitors the buyer's financial performance and, if the buyer defaults, can enforce its security or step-in rights.

A vendor loan, secured by a security deed, mortgage or PPSR registration, is the usual form in a business sale. An instalment sale with retention of title suits staged payments for an asset, and a hire purchase keeps ownership with the seller until the last payment, which is common for equipment and vehicles. Lease-to-buy smooths the buyer's cash flow, and an earn-out ties part of the price to future performance when the parties disagree on valuation.

Vendor finance suits a creditworthy buyer who cannot get full bank finance, a seller who wants a wider pool of buyers or a higher price, and specialised businesses or assets that banks lend against conservatively. It is a poor fit when the buyer is insolvent or a borderline credit risk, when the asset depreciates quickly and enforcement would be costly, or when the seller needs the full proceeds immediately.

Perfecting security is what protects the seller. Take a general security agreement over the business assets and register a financing statement on the PPSR promptly, describing the collateral precisely, including serial numbers or VINs. Since the PPSA, the older fixed charge and floating charge language is expressed as non-circulating assets such as plant and circulating assets such as stock and receivables, and real property still needs a mortgage. A later lender who registers first can outrank an unregistered seller, and on buyer insolvency an unperfected seller may be left as an unsecured creditor.

On tax, a business sold as a going concern can be GST-free if the conditions are met, while individual asset sales may attract GST. Deferred consideration can change the timing of the CGT event, stamp duty may apply depending on the asset and the state, and interest on the vendor loan is assessable to the seller and generally deductible to the buyer. Confirm the tax position with the ATO and your adviser.