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What is income-driven repayment and how does it work?
What is income-driven repayment and how does it work?
Written by Kaela Worthen
Updated over a week ago

When your Paintbrush Loan begins, it will be repaid at a flat amount each month, coming from your business bank account. This can continue for the entire life of the loan—5 years.

However, if your business fails or the loan defaults, the remaining balance, up to $75k, can be repaid monthly, calculated at 15% of the personal income of the guarantor after approval of the income-driven repayment accommodation is approved.

What is a Personal Guarantee?

Your loan has a personal guarantee that will go into effect in certain (hopefully unlikely) circumstances.

A personal guarantee is a legally binding promise to repay on a loan personally if the primary borrower (in this case, your company) fails to repay. It’s a backup way to pay a loan, if the original borrower defaults. For the lender, a personal guarantee is a way to reduce the risk of a loan, in case a business fails. Personal guarantees are standard on most commercial loans, especially for early stage businesses, and they help provide additional security on the loan so that the lender can feel confident providing funds to more businesses.

Most personal loans are unsecured, which means that any assets owned by the guarantor are able to be claimed by the lender (homes, cars, 401ks, usually not your first-born child, etc.). They can do so immediately upon the default of the primary borrower (aka if the business were unable to make payment).

The Paintbrush Loan's personal guarantee uses income-driven repayment. We love this option because we believe it truly provides a best solution for both the lender and the borrower, providing you the flexibility you need throughout the life of the loan (see more about this below).

What Causes the Personal Guarantee to Go into Effect?

The income-driven personal guarantee of your Paintbrush Loan only kicks in under three circumstances.

  1. If the startup misses a payment on the term loan. Paintbrush services the loan, and in its discretion can accommodate for extraordinary circumstances, but typically the loan will move to the income-driven personal guarantee, due in full, the next month after a missed payment.

  2. A founder can submit a request to transition to the income-driven personal guarantee. Paintbrush will review the request and respond in a timely manner.

  3. Finally, Paintbrush has the option to convert the loan from the term repayment to the income-driven personal guarantee under materially adverse circumstances, like fraud or a violation of our terms of service.

How does the repayment actually work?

The Paintbrush Loan’s income-driven repayment requires the personal guarantor to repay the remaining balance of the loan, up to a maximum cap of $75,000 total, with a monthly repayment of 15% of the guarantor’s income. Learn more about what counts as income and how we verify it here.

Repayment typically happens via automated ACH withdrawal from your personal bank account, though occasionally it can be set up as a diversion of funds in your employer’s payroll providers (ADP, Gusto, etc.).

Why use income-driven repayment as a personal guarantee?

The benefits of income-driven repayment, as opposed to a traditional personal guarantee are many.

  1. Income-driven repayment is non-punitive. Your personal assets (401k, home, cars, etc.) are not subject to repossession, except in cases of fraud, etc. However, it is likely the total amount paid over time will exceed the commercial amortization.

  2. The payment amounts are flexible based on your circumstances. If you unexpectedly lose your job and your income is reduced to zero, repayment is put on pause until you are earning a minimum of $50,000/year. If your company cuts your salary, repayment amounts will drop because they are a percentage of your income.

  3. The repayment term is finite. The original 5-year timeframe applies whether the loan is being repaid from the business or using the income-driven personal guarantee. This means that when you hit the end of the life of the loan, repayment ends, regardless of what amount you've paid back.

The downside of income-driven repayment is the difficulty in calculating repayment interest rate. If you are paid a very high salary, it’s possible that you will end up paying the loan back at a much faster rate, which then makes your realized interest rate, or the rate calculated with the benefit of hindsight, high. This is why the Paintbrush Loan includes a repayment cap in place to make sure you don't get penalized for being successful—you'll pay off quicker, but you'll never pay more than $75,000.

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