A personal guarantee is a written promise by a person (guarantor) that if a third party doesn’t pay its debts to the party entitled to the benefit of the guarantee, then the guarantor will make those payments.
Personal guarantees are regularly given by directors and sometimes shareholders of companies to personally guarantee the payment of money or obligations on behalf of the company, but they are also given on behalf of other individuals such as children.
They can be essential security for small to medium businesses in their contractual dealings with customers as the guarantor is then personally liable to pay the debt, whereas without the guarantee, the company could enter into liquidation and the contracting entity would have to prove the debt in the liquidation and risk not getting any return at all.
Common examples of where personal guarantees are used are in relation to:
- leases of real property by companies;
- loans by banks to adult children when purchasing property;
- company loans from banks; and
- company applications for credit at other businesses.
Managing risk
Entering info a personal guarantee is risky. You are placing your own assets at risk for the benefit of another person or entity so you should get legal advice before entering into one as well as assessing the commercial or other merits of providing the guarantee at all.
Considerations to help limit the risk include:
- capping the maximum amount of the guarantee or the term in respect of which the guarantee is valid for;
- requiring the guarantee to be secondary only (and not create a primarily liability of the guarantor);
- removing security provisions such as caveats;
- not allowing any variation to the agreement between the beneficiary and the person/entity whose liabilities are being guaranteed without your notice or consent;
- seeking to have the guarantee removed at some point once the borrower can demonstrate their own capacity to repay the debt.
however, often the beneficiary of the guarantee will not agree to these changes.
Aiding enforceability
If you are seeking to rely on a personal guarantee in your business, then you ought to get it drafted by a lawyer however, some basic tips to aid in enforceability include:
- obtain a copy of the guarantor’s identification documents to properly identify them;
- conduct some due diligence on the guarantor’s financial standing/capacity to pay;
- obtain actual security for the guarantee obligation;
- ensure it is signed and witnessed by an independent adult
FURTHER INFORMATION
For further information, please contact McKillop Legal on (02) 9521 2455 or email help@mckilloplegal.com.au
This information is general only and is not a substitute for proper legal advice. Please contact McKillop Legal to discuss your needs.
