Business Debt and Personal Guarantees: What Directors Need to Know

What a personal guarantee is

A personal guarantee is a contract in which an individual, usually a director or shareholder, agrees to be personally responsible for a company's debt to a particular lender. If the company cannot pay, the lender can claim the outstanding amount, plus interest and costs, from the guarantor's personal assets. That can include savings, a share in the family home, vehicles and investments.

The guarantee is separate from the loan agreement. The company remains the borrower; the director becomes a backstop. Most guarantees are "all monies" guarantees covering everything the company owes that lender, not just the original loan, which is worth checking before taking a second facility from the same provider.

Why lenders require them

Limited liability means a lender to a company can only recover from the company's assets. For a small business with little in the way of property or equipment, that may be almost nothing. A guarantee gives the lender someone to pursue and, equally important, aligns the director's interests with repayment. For unsecured lending to limited companies a PG is standard rather than exceptional, as our page on unsecured business loans explains. Secured lending may rely on the asset instead, or ask for both.

Joint and several liability, caps and limited guarantees

Where two or more directors sign, the guarantee is normally joint and several. Each guarantor is liable for the full debt, and the lender can choose which of them to pursue.

Some guarantees are capped at a fixed amount, or at a percentage of the facility. Others are limited in time, or fall away once the loan balance drops below a threshold. These limits are negotiable before signing and almost impossible to add afterwards. A guarantor should know exactly what the cap is, whether interest and costs sit inside or outside it, and whether the guarantee covers future facilities.

What happens when a guarantee is called

1. Default by the company. The company misses payments, breaches a covenant or enters a formal insolvency process. Our guide on what happens when a business cannot repay its loans covers this stage.
2. Demand on the guarantor. The lender writes to the guarantor demanding payment of the outstanding amount within a stated period. The guarantee usually allows the lender to do this without first exhausting recovery from the company.
3. Negotiation. Many lenders will consider a repayment plan or a reduced settlement where the guarantor engages early and can show what they can afford. Any agreement should be confirmed in writing.
4. Statutory demand. If no agreement is reached, the lender can serve a statutory demand for a debt over the bankruptcy threshold. The guarantor has a short period to pay, agree terms or apply to set it aside.
5. Bankruptcy petition. An unpaid statutory demand allows the lender to petition for the guarantor's bankruptcy, with consequences for their home, credit and ability to act as a director.

Personal guarantee insurance

Insurance against a personal guarantee being called does exist. In general terms, a policy pays a proportion of the amount the guarantor has to pay the lender, up to a limit, if the guarantee is enforced following the company's failure. The proportion covered is usually below 100%, often rising over the first years of the policy, and there are exclusions, for example where the director has acted improperly. Premiums depend on the size of the guarantee and the business's risk profile. It reduces the loss rather than removing the liability.Finance Business Debt does not sell or arrange insurance.

Releasing or replacing a guarantee when refinancing

A common misunderstanding is that repaying a loan automatically ends the guarantee. It does not, particularly with all monies guarantees. When a facility is settled through business debt refinancing or a consolidation, the director should obtain written confirmation from the old lender that the guarantee is released. The new lender will almost certainly ask for a fresh guarantee, so the realistic goal is to replace one guarantee with another on better terms, not to escape guarantees altogether. Where a director is leaving the business, the remaining directors and the lender need to agree a release or substitution before the departure, since the guarantee otherwise survives.

Independent legal advice

Lenders often require a guarantor to take independent legal advice before signing, and many will not accept the guarantee without a solicitor's certificate. Even where it is not required, it is sensible. A solicitor can explain the cap, the all monies wording, any charge over property, and what the lender can do on default. Finance Business Debt does not provide legal advice and cannot review a guarantee for you.

Sole traders and partnerships

A sole trader does not sign a personal guarantee for their own business borrowing because there is no separate legal person to guarantee. They are already personally liable for every business debt. The same applies to partners in an ordinary partnership, who are jointly liable for partnership debts.

The regulatory position

The Financial Conduct Authority's consumer credit rules do not generally apply to lending to limited companies, and therefore do not generally cover the personal guarantees that support it. A director's guarantee is treated as a commercial arrangement between the lender and the individual. This is why the protections a consumer might expect, such as affordability assessments on the guarantor, do not necessarily apply, and why reading the document before signing matters so much.

Frequently asked questions