Todd Davison, Managing Director of the StartUp Awards 2023 sponsor, Purbeck Insurance tells us all about cutting the risks of a personal guarantee:
Starting a business is one thing but keeping it going often needs extra cash and while there is a good choice of funding options to consider, a small business is unlikely to have enough assets to offer the lender as security. This means the business owner/s may be required to give a personal guarantee to the lender.
For some, signing a personal guarantee is part and parcel of the risks involved in starting and running a business, for others, it is a source of stress and anxiety. The good news is that there are ways to mitigate the risks including Personal Guarantee Insurance. During the past 5 years, we’ve protected 1,300 directors on over £200million of Personal Guarantee commitments – this includes £15million for start-up businesses, on loans from as small as £10,000 to one loan which was over £11million, with the average loan £250,000.
What is a personal guarantee?
A personal guarantee gives the lender a written promise, made by a director or number of directors, to accept liability for a company’s debt. This means that if the business defaults on a loan, the director’s home, car and anything in their personal bank account could be used to settle the outstanding debt. If they co-own their home, with a spouse or partner – they will also have to sign the guarantee.
If the personal assets aren’t sufficient to cover the debt, the business owner could find themselves facing bankruptcy which would have long-term ramifications and stop them from being a company director in the future.
It’s important to understand that a lender will go after whoever has the most chance of settling the debt so a minority stakeholding in the business won’t offer protection.
What type of finance requires a personal guarantee?
Personal Guarantees can apply to a wide range of loan facilities including those available from P2P lending platforms – in fact, Purbeck sees most of the demand for Personal Guarantee Insurance coming from the alternative finance market.
How to cut the risk
Before deciding whether signing a personal guarantee is right or wrong, business owners should get some independent advice. An accountant, solicitor, commercial broker or financial adviser can help work out the best options for the business and advise on the additional ways the personal risks can be cut when signing a personal guarantee.
Come to an agreement to share the guarantee with co-directors.
Work out with the lender if a time limit can be agreed for the guarantee and a cap on the amount but bear in mind that interest rates are rising and costs added to the debt can soon mount up.
Investigate if part of the loan rather than the whole loan is guaranteed and that settlement of the debt is sought first from the company’s assets before enforcing the guarantee. Clearly, in this instance the business owner will need to show what assets within the company could be used – this could be machinery, tools, or computer equipment.
Consider Personal Guarantee Insurance to mitigate the risk. This means if the business does fail, 80% of the loan will be settled by the insurance rather than the business owner’s home, savings and other personal assets being called on to settle the debt. The level of cover is based on a fixed percentage of the personal guarantee the company director wishes to insure. This is dependent on whether the corresponding finance facility is secured or unsecured. Personal Guarantee Insurance also does a lot more than payout following a claim. Policyholders are offered access to free mentoring and support services if the business gets into financial distress, plus the huge benefit of expert guidance at the point the debt needs to be Settled.
Whether it’s funding to start, sustain or grow a business, a Personal Guarantee shouldn’t be a barrier. Business owners should ensure they have benefited from expert, independent advice and looked at the ways they can mitigate the risk, including through Personal Guarantee Insurance.