Buying a franchise: how to limit personal liability for financing

Joining a franchise network often requires external finance. But interest rates and repayments are not the only considerations: you also need to know who will bear the consequences if the outlet fails to make money. Setting up a limited liability company will not, in itself, protect your personal assets if you give a personal guarantee or other security to a bank, landlord or franchisor. Before buying, check not only whether finance is available, but above all where your own liability begins and ends.

1. Map out who wants you to commit to what

Start with a simple overview of every document you will be signing. Personal obligations are not necessarily confined to the loan agreement. They may appear in a separate guarantee, leasing terms or a schedule to the franchise agreement. For each document, note the creditor, the debtor, the debt being secured and the assets that could be at risk.

In particular, distinguish between the following:

• Guarantee: you undertake to pay the creditor if the debtor fails to meet their obligation; the precise procedure depends on the law and the agreed terms.
• Co-debtor liability: you are not merely a fallback payer. If liability is joint and several, the creditor can demand the full amount directly from you.
• Security over assets: specified assets can be used to satisfy the secured debt. Using your own property as security creates a different risk from using the outlet’s equipment.
• Bill of exchange or promissory note: these instruments create separate obligations and require particular scrutiny, especially if they are incomplete when signed.

Do not accept an explanation that a director’s signature is ‘just a formality’. Check whether you are signing solely on behalf of the company or also in your own capacity as a guarantor or co-debtor.

2. Separate company obligations from personal assets

The Czech Republic has no dedicated franchise legislation, compulsory state franchise register or prescribed franchise disclosure document. A franchise agreement is generally an agreement not specifically defined by statute, entered into under Section 1746(2) of the Civil Code, Act No. 89/2012 Coll. General rules on pre-contractual dealings also apply: the absence of a specific disclosure document does not give parties free rein to withhold material information.

Guarantees and security over assets are governed primarily by the Civil Code. The position of a shareholder in a Czech limited liability company (s.r.o.) is also governed by the Business Corporations Act, Act No. 90/2012 Coll. As a rule, shareholders in an s.r.o. are jointly and severally liable for the company’s debts up to the amount of outstanding capital contributions shown in the Commercial Register when the creditor demands payment. A personal guarantee you voluntarily sign, however, creates an additional, separate obligation.

A business loan to operate a franchise cannot automatically be treated as consumer credit either. Even an individual may not be acting as a consumer when signing. If the security affects matrimonial property or the family home, obtain a separate assessment of the consents required and the potential consequences of enforcement. A spouse’s signature may have a different meaning in different documents.

3. Negotiate the amount, scope and end of the guarantee

The greatest risk often lies in broadly worded security covering all present and future debts without a clear limit. Guaranteeing a specific equipment loan is not the same as guaranteeing all the company’s obligations to a creditor, including further loans or contractual penalties.

Put specific proposals to the creditor:

• Limit the guarantee to a clearly identified agreement and an overall maximum amount.
• Clarify whether the limit includes interest, penalties and enforcement costs.
• Reduce the scope of the guarantee as the principal is repaid, under an agreed mechanism.
• Set out the conditions and procedure for the guarantor’s full release.
• Exclude any automatic extension of the security to new financing without your consent.

A date appearing in the document does not necessarily mean that no claim can be made after it. The precise wording and nature of the obligation are what matter. Similarly, selling your shareholding or ending the franchise relationship will not usually release you from a personal guarantee. You need a mechanism agreed by the creditor, not merely a promise from a future buyer.

4. Compare financing by risk, not just interest rate

Two offers with the same repayment amount can have very different consequences. Compare the assets required as security, personal guarantees, drawdown conditions and circumstances in which the creditor can demand early repayment. In particular, establish whether losing the franchise licence or breaching another agreement could trigger such a demand.

Ask for an alternative involving a smaller loan, a larger contribution from your own funds or more limited security. However, a larger contribution must not exhaust your working capital reserve. The aim is not to remove one risk only to create another: an outlet without cash for wages and stock can struggle even if its loan repayments are manageable.

Scrutinise financing recommended by the franchisor just as carefully as an offer from an independent bank. The franchisor’s recommendation is no assurance that taking on a personal obligation is safe. Before signing, have a lawyer review the loan documents, the security arrangements and their interaction with the franchise agreement together.

Practical takeaway: Do not sign until you can explain in your own words whose debt you are liable for, up to what amount, which assets are at risk and under what conditions your personal obligation will end.