When a company takes out a mortgage for purchasing or refinancing a property, the lender will usually ask the company directors to give a personal guarantee. This is an additional layer of security for the lender – a “second bite of the cherry” should the company borrower fail to comply with the mortgage terms.
As most Special Purchase Vehicles (SPV’s) for property purchase have no trading assets, the only asset is the property. The personal guarantee is therefore more protection for the lender and the lender will carry out credit and other checks on the proposed directors before proceeding the company loan.
The personal guarantee given by the director is fairly onerous and directors need to fully understand the risks and implications in giving such a guarantee. Saying that, it is very rare for a lender to lender to a company borrower without requiring this so the risk is part of “doing business.”
The personal guarantee has the effect of making the director personally liable for the debt if the company defaults on its repayments. It effectively removes the “shield” of personal liability for directors of limited companies in respect of the loan they are guaranteeing. It puts the director in the same position of borrowing the money in their own name, akin to a residential mortgage.
If the company is dissolved or defaults, the lender can call on the personal guarantee for any money owing to them. They do not have to pursue the company first, the director is liable regardless of the status of the company.
It is very important that the director should consider the risk they are taking and the implications this ay have on their personal assets.
What is a personal guarantee?
A personal guarantee is essentially a promise from the borrower to the lender that if the company is unable to repay the money, the director will be personally liable for the debt.
Lenders are asking for personal guarantees even where they have a first legal charge over the property!
Personal guarantees are binding contracts, and from the moment the guarantee is completed i it becomes legally enforceable. There is no set time period during which a guarantee can be valid but usually it will mirror the length of the company loan. The personal guarantee will be for the full loan amount plus fees, interest and other costs in the case of default. Even if there are two or more company directors, most guarantees will be for the full amount per director, the sum is not divided between the number of directors.
Matters to consider
It may become necessary for the director to cover the debt using their own assets (including their home or other assets) and they are not able to, they may personally face bankruptcy and disqualification from any future activities as a company director. The enforcement of the guarantee and/or failure to pay may affect the director’s credit rating and their ability to borrow money in the future, whether secured or unsecured. The director needs to view the personal guarantee as a new loan they are personally entering into.
Personal assets used to secure the guarantee can be sold by the bank without needing to go to court. This might include the director’s home.
It may be possible to resist the imposition of a personal guarantee if the company borrower has sufficient assets to repay the loan or has a good trading history, but it is fairly unusual for this to be successful.
Independent Advice
Even though you may fully understand the risks and implications of the guarantee is, nearly all lenders will require you to take independent legal advice prior to signing it. This is advice to you ad directors “independently” from the company, you are also required to take the advice independently from the other guarantors. This is frustrating and seems to be unnecessary but this stems from case law.
In the case of Barclays Bank Plc v O’Brien [1994] 1 AC 180 a married couple who took out a second mortgage on their home as security for overdraft facilities extended by Barclays to the husband’s company. The wife signed the documents relying solely on her husband’s (false) representation that the deed was limited to £60,000 and would last three weeks only. In the end, the husband’s company reached a £154,000 overdraft, as a result of which Barclays sought an order for possession of the mortgage security – i.e. the couple’s home.
In this case, the Court found for the wife and limited her liability to the initial £60,000. For the lender, the guarantee may only be fully enforceable when Independent Legal Advice is given. Had the wife received the independent advice, she would have been made fully aware of the terms of the loan and Barclays could have enforced against her.
The bank took no steps to have the documents explained to the wife nor did it suggest that the wife should take independent legal advice. Lenders now require this advice to protect their ability