Signing a personal guarantee is like co-signing a business loan. A personal guarantee is a legally binding promise to repay a business debt from your own personal funds if your company is unable to pay it. Signing a personal guarantee means that, when it comes to the creditor on the guarantee, you cannot rely on the fact that your business is an LLC or a corporation to avoid paying that creditor. In some ways, a personal guarantee undoes the protections that you put in place when you set up your business as a corporation or an LLC.
If your business defaults on a loan that you personally guaranteed, your personal assets may be at risk. A creditor can sue you personally for the company’s outstanding debt. If you lose, the court can enter judgment against you personally, and your bank accounts — even joint accounts — may be levied, your wages may be garnished and your property may be seized. Retirement accounts, Social Security income and disability income are usually safe, but other assets are not.
The content of every personal guarantee is slightly different. In general, the guarantor promises to pay the obligations of the business if the business fails to pay the loan as agreed. The guarantor also agrees to pay any interest, collection fees, attorney fees and court costs. The guarantor’s obligation persists even if the business declares bankruptcy. The guarantor may be able to avoid the obligations of the personal guarantee by declaring personal bankruptcy; otherwise, the guarantor is on the hook for the company’s debt.
A personal guarantee is so risky, you may wonder why any small business owner would sign one. The answer is simple: many lenders require them. Lenders understand the risks of doing business with a corporation or LLC, so they often require one or more of the major shareholders in a business to personally guarantee a loan, a line of credit or charge account. Small business owners have no choice but to sign a personal guarantee if they need to borrow operating capital or order inventory or other goods on credit.
Often, our business clients call us to discuss the need to sign a personal guarantee and evaluate the options to avoid signing one.