(once again, this is not financial nor legal advice – if you need one, contact a specialist – this is a topic of grave importance!)

When trying to attain finance for a business, particularly as an SME and more particularly those with bad credit, it is quite common for banks and specialist lenders to ask the directors of a business to provide a personal guarantee on business loans (the term ‘personal guarantee’ is often interchanged with ‘director’s guarantee’). In this guide, we explain exactly what business loans with personal guarantees are and what this means for the director’s appointed as a guarantor. We also answer questions like do business loans always require personal guarantees? And, why do I have to personally guarantee a business loan?

What is a Personal Guarantee for a Business Loan?

A personal guarantee is a legal agreement between a lender and the directors of a business that will make them personally liable for any debts the company can’t pay under the loan arrangement. Should the business default on the loan or go insolvent, the directors appointed as guarantors on the loan will be responsible to pay the remaining sum owed. In some instances, it might be that just one director provides a personal guarantee on a business loan, in other cases, there may be multiple guarantors.

Agreeing to business loans with personal guarantees is a big decision and needless to say it can have significant implications if the business is unable to repay the loan. Your individual circumstances and your role in the business could all influence whether it’s the right decision for you.

While a personal guarantee is often viewed as a binding agreement, there are circumstances where it may not be legally enforceable. Factors such as whether the guarantor received legal or financial advice, the clarity of the guarantee terms, and the circumstances under which the guarantee was provided or procured can influence its enforceability

Making a Quick Decision

A tool that could be proved useful in this situation is somethign that can give you an holistic overview of what’s available on the business loan side, based on your data. You can use the tool below, which will not impact your credit score, to discover what’s currently available for your business.

Why do I have to Personally Guarantee a Business Loan?

One of the key advantages of a limited liability company is the separation of an owner’s personal financial welfare with that of the business, thus protecting their personal assets should the business go under. However, lenders are well aware of this and a personal guarantee leap frogs this barrier and will leave the guarantor personally liable for any money owed to the lender that the business failed to repay. 

Do Business Loans Require Personal Guarantees?

No, not all business loans have to be secured by a personal guarantee. However, with the uncertainty of the current economic climate, you’ll find that lenders, and particularly banks, do generally require a personal guarantee on business loans.

Banks may even request personal guarantees as a secondary security. So in addition to an asset or a property/mortgage being used as collateral on a secured business loan, a directors guarantee would act as a failsafe to the bank should the asset be of insufficient value to cover the outstanding loan sum. However, the bank may not necessarily always seek to recoup its money from the asset used to secure the loan first. Generally, as soon as a default occurs, the guarantee can be enacted and guarantors will be liable to pay back the sums owed. 

Specialist SME lenders generally offer both secured and unsecured small business loans. Capify is well known for not requiring property to secure a business loan, however, they do generally ask for a directors guarantee in its place. Considering loans can be accessed all the way through to $500,000, this could be advantageous to non-home owners and those lacking the assets required to secure a loan.

In general, business loans with personal guarantees are quite commonplace and it’s not unusual to come across a lender requiring one. Nevertheless, every situation is unique and a number of factors will influence whether a guarantee is required. A company’s credit history, financial performance and the loan amount sought are just some of the factors that could influence this. If a personal guarantee is still required, more preferential terms might be able to be negotiated. This could be limiting the amount for which the guarantor is liable, putting a time limit on how long the guarantee lasts or limiting the guarantee to your time as director.

Key Considerations Before Becoming a Guarantor on a Business Loan

It’s very important to understand the terms of the guarantee before agreeing to it. In most cases, the obligation under a guarantee can last forever (or at least until the credit has been repaid). This means you could be approached by a creditor many years after signing the original guarantee if the debt remains unpaid, even if you’re no longer involved with that company.

This is why we prefer the term personal guarantee as those individuals who are under the guarantee when it is originally signed remain the ones liable unless the guarantee is updated. The guarantee will not simply apply to new directors of the business unless this has been negotiated by the outgoing director and the guarantee has been updated. If a business has stuck to its repayment schedule and financial performance remains strong, updating the guarantor should be easier.

The enforceability of a personal guarantee can be contested under certain conditions. For instance, if the guarantor was rushed into signing the guarantee, placed under undue pressure, or if there was a significant imbalance in bargaining power, the guarantee might not be enforceable.

If you’re contacted by a creditor and aren’t able to pay the amount owed, you’ll either need to seek legal advice and dispute the guarantee if you believe you have grounds to do so or set up a payment arrangement. Failure to do this could result in a bankruptcy notice.

Advantages & Disadvantages to Providing a Personal Guarantee

There are a number of factors to consider before agreeing to a business loan with a personal guarantee and the situation will always be unique to your own circumstances. For instance a business owner with a resolute drive to grow their own business may be more inclined to provide a personal guarantee vs a director recently appointed to a new company. 

We weigh up just some of the pros and cons to business loans with personal guarantees below:

Advantages

Improve the Chances of Accessing Finance

Most obviously, you may simply be unable to access the finance required for your business if you aren’t prepared to provide a personal guarantee. The more recourse a lender has on assets or in the form of a personal guarantee, the more likely they are to offer credit.

Might Lower the Cost of the Loan

Even if you think your business would be eligible to access a loan without a guarantee, there’s a chance that providing a personal guarantee may lower the total cost of the loan.

Finance Pushes Your Business On

The risks associated with providing a personal guarantee could well be worth it if the finance propels your business to the next level.

Disadvantages 

Limited Liability will not Apply

For the creditor (or creditors) that have a personal guarantee in place, the limited liability is null and void. 

Liable Even if Resigned

It will depend on the terms, but normally the personal guarantee will still apply even if you’ve left the business and decisions made after you’ve left have caused the business to be unable to repay the credit that you guaranteed.

* While providing a personal guarantee can improve access to finance, it’s not always ironclad. There have been cases where personal guarantees have been set aside due to specific circumstances, offering potential relief to guarantors.

Alternative Lenders out There

You might well be able to access lenders that do not require a personal guarantee in order to secure a business loan. Set your borrowing preferences and apply with Lend marketplace in order to access over 50 leading Australian lenders in one place and improve your chances of securing the type of borrowing you want.

Final Word: Are Business Loans with Personal Guarantees for me? 

The requirement to provide a personal guarantee with business loans is quite common, so you shouldn’t necessarily turn the offer of finance down just on this basis. This is particularly true for SME loans as unfortunately the national default rate across Australia is simply larger than that of big corporates and residential mortgages (as shown in our industry research).

While there’s no need to bulk at the request of a personal guarantee, it doesn’t necessarily mean it’s the right decision for you and there could be alternative loan options out there which do not require one. Business loans with personal guarantees will also come with different terms and it’s important to understand your obligations should the guarantee be enacted. If you’re unsure, speak to a law firm prior to signing a personal guarantee.