Access to finance at speed can make or break a growing business. It can also make or break the people behind that business who find themselves signing a personal guarantee to secure the funding they need.
Personal guarantees can apply to a wide range of finance facilities, whether from a traditional lender, peer-to-peer platform or as part of an asset finance deal. Even loans secured through lenders backed by the Enterprise Finance Guarantee may be subject to a personal guarantee.
See also: Should I give a personal guarantee?
It may seem obvious that a personal guarantee will put the personal assets of the business owner at risk yet in a recent survey we conducted we found that 39pc confessed that they were not aware of this fact. Indeed, 58pc of small business owners did not seek professional advice when securing business finance.
Here I explain what you need to know about personal guarantees and what you can do to mitigate the risks, including taking personal guarantee insurance.
What is a personal guarantee?
A personal guarantee provides security to a lender that in the event you default on a business loan, they can call on your personal assets to settle the debt and any interest accrued. As such, by signing a personal guarantee you are usually putting your home and savings on the line.
What are the risks?
If a call is made under the guarantee, you and any other guarantors will be liable to pay the company’s debt. You could lose your home, your bank account could be frozen and your savings taken to settle the outstanding debt. If your personal assets fail to cover the debt, you may be made bankrupt. This would not only adversely affect your credit rating but you won’t be able to act as a company director without court permission.
Even if you have a minority stake holding in the business, the whole amount can be called from one guarantor and the lender will pursue whoever they believe is most likely to settle the debt.
How common is it for business owners to sign a personal guarantee?
It is most common in loans for small and medium sized businesses that do not have enough assets within the business to provide the security the lender needs. In a recent study we found almost one third (32pc) of SMEs turning over more than £1m a year were required to sign a personal guarantee as condition of a finance deal.
Why does a personal guarantee unlock access to finance?
For many small businesses, signing a personal guarantee is the only way to access new finance. If you are willing to accept the risk, it increases your options in terms of loan facilities considerably and gives you access to the cash you need.
I already have a personal guarantee for a loan – can I have two in place?
If you’ve signed a personal guarantee for another business loan previously, you can take out another personal guarantee but don’t forget that they are cumulative so you could be doubling the risk to your personal assets
Do I need to sign a personal guarantee if I am using a lender backed by the Enterprise Finance Guarantee?
Personal Guarantees may still be required even if there is an EFG loan.
What questions should I ask before signing on the dotted line?
- Seek absolute clarity on where your responsibilities for the guarantee begin and end – for example is the guarantee loan specific or does it cover all future loans that the lender may provide?
- Negotiate a time limit for the guarantee and a cap on the amount, but do remember interest and costs added to the debt can soon mount up
- Ask that the lender seeks settlement from company’s assets before enforcing the guarantee
- Confirm all points of agreement intention and expectation in writing with the lender. This could be crucial if there comes a point when you’re trying to negotiate out of a personal guarantee
Is there any way out of a personal guarantee?
In some cases, there is scope to challenge a call on a guarantee:
- If material alterations have been made to the guarantee after you’ve signed it and they are prejudicial to you, the guarantee may not be enforceable
- If all the key facts were not disclosed at the time of signing the guarantee, you may have scope to negotiate out of the guarantee
- If you were subject to undue influence in signing the guarantee, your individual circumstances and position in the company will need to be examined
Is there anything else I can do to mitigate the risk?
It may be possible to negotiate the percentage of the loan you should guarantee which would reduce the personal risk to you. Also work out a way that you are not solely carrying the liability – so split the guarantee between your fellow directors if you have any.
You may also be able to use personal guarantee insurance to insure yourself against the risk of a personal guarantee being called in, keeping your personal assets safe in the future. We found[i] that nearly three quarters of SMEs (74pc) would be more likely to take out a loan with a personal guarantee if they could insure against the risk of providing it.
This relatively new type of insurance will offset any outstanding obligations called in under a personal guarantee. The level of cover is based on a fixed percentage of the personal guarantee you wish to insure, and this is dependent on whether the corresponding finance facility is secured or unsecured.
Todd Davison is director of Purbeck Insurance. Since launch in June 2017, Purbeck Insurance has supported SME directors on over £40,000,000 of personal guarantees