Sued With Your Business Partner: 6 Decisions for MCA Co-Guarantors

If a merchant cash advance funder has sued you, your business, and your business partner, you will be making six decisions: responding on time, whether to settle on your own or with your partner, which defenses you might mount, and accepting that your partner’s bankruptcy won’t protect you. The biggest ones will be accepting that the funder could collect from you alone, and that some moves would backfire.

The summons sets a deadline to reply to the complaint, by filing your answer in court. In New York state court, it’s either twenty or thirty days after service, depending on whether you were served by hand or not. In federal court, you have 21 days after service. You may have only days left when you read this. If you miss the deadline, you will be in default, and might be making the biggest mistake in your life. Once the court enters the judgment, you’ll have many fewer defenses.

MCA contracts often require that New York state or federal courts have jurisdiction, and if so, New York rules often apply, even if your business is in another state. Some funder contracts require arbitration instead, but if so, the funder can go to court to confirm the arbitration award and get a judgment.

Liable to the Funder for the Whole Amount

You may think that your partner was at fault, or that it was your partner’s company which had the contract with the funder. That doesn’t protect you. If you and your partner were co-guarantors, then each of you is liable to the funder for the whole amount of the judgment. The funder gets to collect what it is owed. It can pick who to collect from. Your contribution claim against your partner will mean little if the partner is bankrupt, or if the money is gone. If there is a judgment against both of you, the funder will keep collecting its judgment interest. If it’s the New York statutory rate, that’s 9% of whatever was owed, each year.

That brings you to your third decision. If you want to settle, do it with your partner, or on your own? If the funder releases your partner without reserving rights against you, it would be reducing its claim against you by your partner’s share of the original liability, under New York law. The offer may include additional terms, like a new personal guaranty, or penalties if you are late or miss payments. Be sure to have any proposal from the funder reviewed before you sign anything.

You may think that if the partnership is bankrupt, or if your partner has discharged the obligation in a personal bankruptcy, you will get off the hook yourself. But you would probably be wrong. Your partner’s bankruptcy filing might protect him or her, but not you. If the partner gets a discharge, that’s your partner, not you. Chapter 13 filers can also get the injunction protecting against collection efforts against non-filing co-debtors, but only for consumer debts.

Mounting a Defense

That brings you to your fifth decision, about mounting a defense. While you must answer the complaint, and deny any allegations which you believe are untrue, you should concentrate on the ones which will work. Using form answers will send the wrong message.

If you signed a confession of judgment in the contract, you might have a defense to filing it, under New York law. Since 2019 New York has barred filing a confession of judgment against someone who did not live in the state. If the funder filed the confession, it should be in the county where you lived when you signed, or the county where you live now. If it is filed more than three years after you signed, you should try to get it vacated.

Some other potential defenses you might look for:

• The service may have been defective.
• You might be able to fight the guaranty itself, and how far it reaches.
• Any misrepresentation by the merchant cash advance funder, or broker, might be a defense.

Which defenses apply to you will depend on your exact wording of your contract, and the facts of your case.

As for usury, New York has a statute which prevents raising usury if the borrower is a corporation, except for criminal usury. If you try to fight a merchant cash advance by saying it was actually a loan, the court looks for a reconciliation of advances, a fixed term, and whether the funder would recover its money if you went bankrupt. If the court decides it is a loan, and the interest is over 25% a year, it is criminal usury. In 2023 a federal court of appeals found that a merchant cash advance could be recast as a loan, noting that the funder allowed collection against the guarantors even if the merchant went bankrupt. But your MCA might not be a disguised loan. You should not assume it will be thrown out.

Mistakes That Can Do More Harm

That brings you to your final decision: all the moves you will avoid, or learn that you shouldn’t have made, since they could make things much worse. If you set up a new company and transfer your assets or contracts to it, you may hear from the merchant cash advance funder. Things like moving assets away to dodge collection can bring fraudulent transfer claims and sanctions, and personal liability. Telling your bank that a series of authorized debits were not authorized can create liability for you. Closing or changing accounts, or stopping automated ACH payments on your own may be treated as breach.

Before your deadline, gather up every document connected with the MCA contract: the original contract, each amendment to the contract, and each ACH authorization. Bring them all to a lawyer who has handled these. Bring your last 90 days of bank statements, and copies of every email, text or voicemail from the funder or the funder’s broker. Do not sign any new paperwork.