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Table of Contents
- What is a personal guarantee?
- When might I need a personal guarantee?
- What is in a personal guarantee?
- Personal guarantee pros and cons
- How long does a personal guarantee last?
- Can you limit your liability under a personal guarantee?
- How enforceable is a personal guarantee?
- What is personal guarantee insurance?
- Do you need legal advice before entering into a personal guarantee?
- Alternatives to a personal guarantee
A personal guarantee is an agreement a loan provider might ask for from a business owner or director when they try to secure finance. A personal guarantee is effectively a promise to personally make repayments on the loan if the business can’t.
Becoming a business loan guarantor may be something you would prefer to avoid. But if you are willing to accept the conditions attached to it, the additional security personal guarantees give to a lender can help small businesses secure much-needed funding.
What is a personal guarantee?
A personal guarantee is a legal agreement between a lender and the owner or director of a business who promises to be a guarantor for credit awarded to their business. The main implication is that the owner can be held responsible for paying back the lender what is owed using their personal assets should the business default on its loan repayments or go insolvent.
For this reason, a personal guarantee is not something to be entered into lightly. But equally, many business owners are willing to sign up for what is often also called a “director’s guarantee” because it’s the only way to secure the finance they need for their business.
When might I need a personal guarantee?
A personal guarantee can help lenders mitigate the risk they feel they are taking on by lending to businesses. Because of the additional safety net of being able to call on the business owner or director to personally repay the loan should things go wrong, lenders might offer a loan, or a larger amount of finance, than they otherwise would.
In particular, a personal guarantee could prove important in helping newer or smaller businesses secure loans if they can’t provide the security a lender needs. In these circumstances, an unsecured business loan might be a good option, but these usually require a personal guarantee.
An owner acting as a business loan guarantor might also help if a company’s credit history isn’t sufficient or good enough to make them eligible for a business loan purely on their own merit.
A lender might request a personal guarantee for:
- business loans
- business mortgages
- property leases
- invoice financing
- asset leases
What is in a personal guarantee?
A personal guarantee should clearly outline the scope of the agreement and what lending is covered by it. For example, it might relate to one specific loan or the agreement could apply to a variety of different facilities from the same lender. This is crucial to understanding your full liability as a guarantor.
The terms should also outline the extent to which a guarantor is personally liable if their business cannot repay any debts included within the scope of the agreement. Some guarantees cap the extent to which a guarantor is personally liable.
Provisions and terms included within the agreement should be thorough and can include terms that might change a guarantor’s obligations over time. As such, it is essential to understand the full terms of any agreement before signing.
Personal guarantee pros and cons
Advantages of personal guarantees
- It may allow small business owners to get financing if they have little credit history or bad credit.
- A lender might offer more favourable terms because of the guarantee.
- The funding can help your business grow.
Disadvantages of personal guarantees
- Your business’s ability to repay its loans might change.
- Unless you are set up as a partnership or sole trader, personal assets can’t usually be pursued by creditors to settle business debts, but with a personal guarantee they may be able to if the business cannot pay.
- As a business loan guarantor, your savings, investments, home and other assets could be used to repay what is owed by the business, putting your personal finances at risk.
- If your assets are insufficient to cover the debts, you could end up personally bankrupt.
How long does a personal guarantee last?
A personal guarantee is valid for the length of time specified in the agreement. If there is a time limit for the guarantee, a business loan guarantor’s obligation to personally cover the debts ends when this passes.
These limitation periods should be discussed and agreed when the personal agreement is drawn up. A solicitor can help you negotiate and make sure you understand the terms of the agreement.
It’s also worth noting that a personal guarantee can still apply to a company director, even after they have left the business that borrowed the finance for which the agreement applies. However, you can ask to be released from the obligations of your personal guarantee when leaving the company.
Can you limit your liability under a personal guarantee?
It might be possible to negotiate a cap on the amount of debt you could be liable for under a personal guarantee. It’s also important to establish which loans will be covered by the guarantee, and the situation regarding any additional credit that might be taken out from the same lender in the future.
Carefully considering the terms and conditions of a guarantee agreement is essential. A solicitor can help you understand your responsibilities as a guarantor.
How enforceable is a personal guarantee?
Defaulting on a personal agreement may allow the lender to make a claim for any asset that was put forward as collateral. If you don’t pay on time, you risk legal action from the lender or even a petition to make you bankrupt.
If you are hoping for a last-minute reprieve, the bad news is that most personal guarantees are enforceable. Enforceable personal guarantees must be:
- Written down: There must be a written copy of the agreement.
- Signed: The agreement should be signed by both the guarantor and their authorised agent.
- Clear: Terms of the personal guarantee must not be cryptic, and there should be clear evidence of offer, acceptance, consideration, intention and capacity.
Other circumstances, such as the guarantee having been signed under duress, can make an agreement unenforceable. If you are unsure, seek legal advice.
What is personal guarantee insurance?
Personal guarantee insurance can be taken out by a business loan guarantor to provide some financial protection to their personal wealth should the guarantee be called on. However, the insurance won’t ever cover the guarantee in its entirety, instead typically covering between 60% and 80%. The cost of the personal guarantee insurance policy will vary depending upon factors such as the size of the guarantee and the assets being used as security.
You can obtain personal guarantee insurance for existing guarantees or brand new ones, while coverage can extend across multiple guarantors or guarantees.
Do you need legal advice before entering into a personal guarantee?
Most lenders will want you to have independent legal advice before signing a personal guarantee. Seeking such professional advice can help ensure you are fully aware of the terms of the agreement you’re about to enter into and assist with negotiations on these terms, if necessary.
Alternatives to a personal guarantee
If a personal guarantee is not right for you, there are business finance options which may not require them.
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