Personal Guarantees – The Pros and Cons

What is a Personal Guarantee?

A personal guarantee is an agreement that allows a lender to go after your personal assets if you or your company defaults on a loan.

What are the advantages of a Personal Guarantee to a borrower?

There are many reasons a borrower/Director might agree to a Personal Guarantee. Sometimes its non-negotiable, the lender will insist on it, but it can also give you access to more lenders and lower rates. If your project is going to be profitable then agreeing to a Personal Guarantee may not be considered much of a risk.

Why do lenders ask for Person Guarantees?

The borrower is normally looking to maximise the loan, reduce the fees and monthly interest payable, and give as little security as they can.  The lender is looking to get security over assets, minimise the LTV (loan-to-value) whilst making sure the appropriate interest and fees are charged proportionate to the risk. The lender will appreciate they are in a competitive market and that the developer will shop around online and via brokers to maximise any profit on a scheme.
A Personal Guarantee can lower the lenders financial investment risk, they can therefore offer cheaper rates to gain business.

What are the disadvantages?

The main disadvantage of a personal guarantee is very simple. If your business becomes unable to pay its debt, you become personally liable for it. That means the lender can pursue you personally and that puts your personal assets (including your home) at risk.  Responding to legal action on a defaulted loan, outstanding interest, fees and costs can be a lengthy process, it can be detrimental to your business and sometime involve having to file for bankruptcy.

Should the Personal Guarantee be Unlimited?

The answer is no. An unlimited guarantee is considered illegal by the courts so a lender should only ever ask for a guarantee that is capped to a certain amount.
If a guarantor is happy to give an unlimited guarantee it usually rings alarm bells with the lender as to the borrower’s attitude to risk. They will start to wonder how many other PG’s there are hidden in the bottom drawer!

How does RQ Capital View Personal Guarantees?

At RQ Capital, in over 150 loans since incorporation, we have not always taken Personal Guarantees.
In our experience the larger the guaranteed loan the more likely that the guarantor will fight paying it and be less likely to cooperate. 
A better indicator to us of the character of the borrower is their credit history and how they treat other creditors. We take each loan on a case by case basis and typically cap our Personal Guarantees to the size of the loan plus interest as a condition for access to the lower rates.  
Our advice is shop around and be prepared to pay a higher rate for a reduced or the complete removal of a Personal Guarantee.

What should you do if you default on a loan secured by Personal Guarantee?

Do everything you possibly can to facilitate the recovery process.  In every lending organisation there is someone who will be the ultimate arbiter of how aggressive they chose to be with guarantors and will have the discretion to vary that treatment on a case by case basis.  Don’t make their decision easy by ignoring their calls, work with them to find a solution. By helping to find purchasers for the distressed asset, lenders are likely to be more lenient with you. They don’t want the legal headache of pursuing their lost investment either and may even waiver the Personal Guarantee even though there has been a shortfall in recovery.