Personal Guarantees for Business Loans

What is a personal guarantee?

A personal guarantee is a type of security which is commonly given by an individual in support of a third party’s borrowing. It is a contract between the guarantor and a third party (typically a lender). Effectively, the person giving the personal guarantee is promising to make good on the primary obligations owed by the borrower to the lender. The personal guarantee means that the guarantor will have personal liability and will place their own assets at risk.

The purpose is to strengthen the lender’s position in the event the business does not repay its debt. If a limited company falls into an insolvency situation, it is very unlikely that a lender would be able to recover the outstanding balance owed to them. By taking a personal guarantee, if the business defaults, the lender has another party to pursue for the debt.

For example, if a company wants to borrow money from a bank, the bank might seek a personal guarantee from one or more company director. If the company defaults on the terms of the loan agreement, the director(s) will be personally responsible to the lender to pay the company’s debt.

Typically, the guarantor will be liable to repay the outstanding debt on demand once the company is in default, and the lender could start legal proceedings against the guarantor personally if they do not pay promptly.

It is quite common for owners or directors of small businesses and start-ups to be required to sign a personal guarantee in support of company borrowing, as they might be seen as a greater risk for the lender if the company does not have a long trading or credit history.

Are personal guarantees always required?

No. Whether or not a personal guarantee is required to support any borrowing will usually depend on a number of factors, including the lender’s typical lending requirements as well as the credit history (or credit rating) of the business, the level of the business finance being offered, and any other risks involved in the lending from the bank’s perspective.

A lender may not seek a personal guarantee if they have other types of security to support the borrowing (for example, a charge over property or a debenture over the company’s assets). However, some lenders insist on taking more security as an extra layer of security of protection.

Personal guarantees can also be sought in order non-lending scenarios. In some cases personal guarantees will be requested to support other business obligations, such as in support of a lease over commercial property, for an overdraft on a company current account.

Sometimes, offering a personal guarantee can be the only option to secure lending or funding options.

Is a personal guarantee legally binding?

Yes, provided certain formalities are met, personal guarantees are legally binding. As soon as you enter into a guarantee you are personally liable for the underlying agreement, and your personal assets will be at risk in the event of default. It is therefore extremely important to take independent legal advice on the content of a personal guarantee before signing.

Most banks and other lenders will insist that you take legal advice, to ensure that you understand the implications of the personal guarantee.

It is especially important that you take advice in relation to a guarantee in support of a company in which you are not a director, shareholder or otherwise have a vested interest in. If you are not a business owner or director, you may not have any oversight as to whether (i) the company is able to keep to its repayment schedule under the payments, (ii) if more borrowing is taken in the future, and (iii) the general viability of the company.

What can I expect from the legal advice?

Banks and other lenders are not generally prepared to negotiate the terms of a personal guarantee. However, it is important that you understand the nature and extent of the commitment that you are entering into.

Legal advice will explain the content of the guarantee to you, and will also highlight whether any provision of the guarantee is non-standard or unusual.

When signing a personal guarantee, you will usually have to have your signature witnessed by an independent witness.

Can I limit the amount that I guarantee?

The amount of your exposure under a guarantee can vary and it’s important to have clarity as to what your potential liability could be in the worst case scenario. Guarantees can really vary as to what they cover:

• Some guarantees are linked to a specific sum, so the guarantor’s personal liability is capped
• Some guarantees have no cap, and can relate not just the borrowing being taken out at the time the guarantee is signed, but all future obligations of the company
• Some guarantees are a hybrid – they will be “all monies” guarantees in that they cover future liabilities of the company, however the guarantor’s liability will be capped at a fixed amount (usually plus interest and costs)

It is always worthwhile seeking to negotiate the extent of the the guarantee with the relevant lender.

If I provide a personal guarantee will any additional security be sought?

Even if you provide a personal guarantee the lender may wish to obtain additional security over the company’s assets. This can include a company debenture, or additional personal guarantees from other individuals. Much will depend on the amount that is being lent and the lender’s lending criteria.

Generally speaking, the lender will be able to choose which part of their security they enforce if the company defaults on its debt. This means that they can pursue the guarantor under the personal guarantee, even if that guarantee is not their only security.

Once I have given a personal guarantee, can I bring it to an end?

This will depend on the terms of the personal guarantee. Some guarantees will give the guarantor the right to “crystallise” the guarantee. The effect of this is that if the guarantee is an “all monies” guarantee (i.e. it covers future borrowing), once the guarantee has been crystallised, the guarantor would no longer be liable for any new borrowing taken out after the crystallisation date. However, the personal guarantee would remain valid in respect of all borrowing taken out before the crystallisation date.

How long will the personal guarantee be valid for?

Most personal guarantees are “continuing security”, meaning that the personal guarantee will continue in force indefinitely. Do not assume that the lender will automatically discharge the personal guarantee once the underlying debt is repaid. It is important that the guarantor asks for it to be formally discharged.

Does the lender have to attempt to recover the debt from the borrower before making a claim under the personal guarantee?

Most personal guarantees provide that the lender does not have to bring proceedings against or make a recovery from the borrower before making a claim under a personal guarantee.

The lender will usually make an assessment of their best route to recovering payment of the outstanding debt owed to them, and pursue that party.