You may require a loan to start or grow your business. Sometimes, you may not have any business collateral to secure the loan. In such a case, you need to depend on a personal guarantee, which is a promise to repay the loan from the owner’s personal assets in case the business can’t pay. Although it may put the owner’s personal assets at risk, it also presents an opportunity for those who want to do business but don’t have sufficient credit history. A personal guarantee business loan can help your business to grow.
Types Of Personal Guarantees
Lenders sometimes hesitate to offer loans to small businesses due to their limited credit history. So, they look for assurance beyond their business assets. Here, a personal guarantee acts as an extra security and increases the chance of loan approval. If you are thinking of securing a personal guarantee business loan, then you need to know the different types of personal loans available.
➡️ Unlimited Guarantees
Here, the guarantor is held responsible for the whole loan amount, including the principal amount, interest, and any fees. This type of personal guarantee poses the highest risk to personal assets.
➡️ Limited Guarantees
Here, a specific cap is set on the guarantor’s liability. The guarantor is only responsible for repaying the predetermined amount of the debt. The guarantor will share the responsibility of repaying the loan with other people involved in the business. For example, if there are three owners in the business, then each owner will be liable to pay 33% of the outstanding loan amount.
Limited guarantees provide some sort of protection to personal assets. This type of guarantee can be a joint or several guarantee. Each individual guarantor in this case is individually and collectively responsible for paying the whole loan amount. If one guarantor fails to pay, then the lender can go to the other lenders to recover the debt. This creates an extra burden on each guarantor to repay the loan.
When To Use a Personal Guarantee
Getting a personal guarantee business loan is very common today, especially for small businesses. If you need startup funding to buy equipment or working capital, then you need to give a personal guarantee, as your new business doesn’t have any credit history to have anything else as collateral for the loan. For business expansion or new investments, you may require loans by providing a personal guarantee.
Things To Consider When Giving a Personal Guarantee
Small businesses often don’t have enough credit history, so, the lenders ask for a personal guarantee where the owner becomes liable to pay the debt in case the company defaults. This puts the owner’s personal assets at risk. Therefore, before giving a personal guarantee for a business loan, you must consider a number of factors.
☑️ Evaluate Current Financial Standing
It is important to feel confident about the progress of your business. Also, you should make sure that your business can repay the loan in difficult periods as well. Otherwise, along with the business, you will lose your personal assets too. You must evaluate your personal financial situation, too. Make a list of your assets, liabilities, expenses, and income to find out how your financial stability will be affected if you default on the loan payment.
☑️ Consider The Unlimited vs Limited Guarantee
You must consider whether to go for an unlimited or a limited guarantee. In case of a limited guarantee, you need to negotiate a limited guarantee, that is, a capped amount and time limit, with the lender.
☑️ Seek Financial and Legal Advice
You must get professional financial advice. There are ways you can improve the terms of loan. For example, if you can demonstrate increased credit access, then you can improve the terms of the loan as it will show lenders that you will be able to pay off the loan on time. You must also be clear with the lender whether your personal guarantee will cover just one loan or future loans with the lender as well.
Be selective of the assets that you give as personal guarantee, like excluding pension or primary home. That way, you won’t be risking your entire life to repay the loan if you default on payments. If you fail to repay the loan, your personal credit history will be greatly affected. You could become bankrupt, too. Therefore, it is better to evaluate your assets and liabilities with a financial advisor so that you can understand the broader impact of your finances. Hire an attorney to review all the terms and conditions so that you don’t get into any trouble later on.
☑️ Get a Personal Guarantee Insurance
You should get personal guarantee insurance to protect your assets if your business defaults. Consider the percentage of debt that the insurance will cover and the other terms of the insurance policy. Insurance premiums can be expensive. So, you must consider the cost of insurance premiums to determine if taking insurance for personal guarantee is worthwhile or not.
How To Protect Your Assets
You should plan early if you are thinking of taking up a personal guarantee business loan. When signing a personal guarantee, make sure you don’t have those assets in your name; instead, use asset protection planning to transfer assets out of your name into other entities. This way, the creditor won’t be able to get easy access to your assets in case you default on payments.
Another strategy to protect your personal assets is to negotiate a cap on the amount of guarantee to limit your maximum liability. You can also look for co-guarantors to share liability and financial risk. Your business must also maintain sufficient cash flow to ensure timely loan payment. By regularly reviewing the financial condition of the business and taking necessary proactive measures, you can protect your assets.
Conclusion
A personal guarantee business loan can be helpful for both the borrowers and the lenders. From the borrower’s perspective, the chance of securing a good loan increases. For lenders, a personal guarantee provides additional security. However, as the borrower’s assets are at risk when giving a personal guarantee, the entire process must be evaluated carefully in presence of professional advisors.
