What Is a Personal Guarantee for a Business Loan and Do I Need Independent Legal Advice?

When applying for a business loan, lenders often require one or more directors or shareholders to give a personal guarantee. It can be the key to securing finance, but it also carries significant personal risk.

A personal guarantee is not just a formality. It is a legally binding promise that makes you personally liable for the company’s debt if the company cannot repay it. Before signing, it’s vital to understand what you’re agreeing to and why independent legal advice (ILA) is often required by lenders.

This article provides a comprehensive overview on what personal guarantees are, when you might need one and the consequences of entering into it for you personally.

Understanding a Personal Guarantee

A personal guarantee is a contract between you (the guarantor) and the lender. It means that if the company fails to repay its loan, you will personally cover the outstanding balance.

Although the borrowing is in the company’s name, the guarantee gives the lender a direct claim against you as an individual. This removes the protection normally afforded by a company’s limited liability and exposes your personal assets to risk.

Once signed, a personal guarantee becomes enforceable as a separate legal obligation. There are more often than not provisions in the document that give lenders powerful control over future events, such as confirmation that the lender does not have to pursue the company first, they can demand payment from you immediately if the borrower defaults.

Why Lenders Require Personal Guarantees

From a lender’s perspective, a personal guarantee provides a safety net. When a limited company applies for finance, the lender’s ability to recover the debt is limited to the company’s assets. If those assets are insufficient, for example, if the business becomes insolvent, the lender could lose its money.

By obtaining a personal guarantee, the lender gains an additional layer of security. It ensures that at least one individual with personal means is responsible for repayment, even if the company cannot meet its obligations.

This is particularly common with new or small businesses that have little trading history or few tangible assets. The lender wants reassurance that someone is personally invested in the success of the business and will stand behind its commitments.

How Personal Guarantees Work in Practice

When the company takes out a business loan, it signs a loan agreement setting out repayment terms, interest rates, and other obligations. The director or shareholder then signs a personal guarantee, often as a separate deed.

If the company defaults on the loan, by missing payments, breaching covenants, or entering insolvency, the lender can immediately call upon the guarantee. This means the guarantor must pay the full amount owed (or up to any agreed limit) from their personal funds.

The guarantee typically allows the lender to pursue the guarantor directly, without having to exhaust remedies against the company first. This makes enforcement faster and more certain for the lender. It is usual for all costs, interest, fees, and enforcement expenses incurred by the lender to be recoverable from the guarantor in addition to the principal debt.

Most personal guarantees follow a similar structure and contain provisions that significantly strengthen the lender’s position.

The Legal Consequences of Signing

Signing a personal guarantee is a serious commitment. If the company fails to repay the loan, you become personally responsible for the outstanding balance, plus any interest, charges, or recovery costs.

If you fail to pay when demanded, the lender can take legal action against you. A successful claim could result in a County Court Judgment (CCJ), which may then be enforced by seizing personal assets, obtaining a charge over property, or applying for bankruptcy.

Even if you leave the company or sell your shares, the guarantee will remain in place unless the lender formally releases you in writing. It is not automatically revoked simply because your role or involvement changes (even if you resign as director and sell all shares in the borrowing company).

Typical Clauses Found in a Personal Guarantee

Although personal guarantees vary, most contain similar provisions. Understanding these terms before signing is essential. Below are a few example clauses that we often see, although all personal guarantees are prepared differently and differ from lender to lender:

Extent of Liability

This clause sets out how much you are personally responsible for. Some guarantees specify a capped amount, while others are “all monies” guarantees that cover all sums the company owes to the lender, both now and in the future.

Continuing Obligation

A guarantee is usually a continuing obligation, meaning it remains in force until the lender releases you. It may also be “on demand”, allowing the lender to call in the guarantee at any time once the company defaults.

Joint and Several Liability

Where there are multiple guarantors, this clause means each one can be held liable for the full debt. The lender can choose to pursue any one guarantor for the entire amount.

Interest and Costs

You will often be responsible for interest, default fees, and the lender’s legal and enforcement costs, not just the original loan amount. This can escalate quickly as lenders tend to have the drafting of what can be included as wide as possible.

Security or Charging Provisions

Some guarantees include or are linked to granting the lender security over your property or assets. This allows them to register a charge or enforce against specific assets if the debt remains unpaid. Such charges are likely to have further specific terms under a separate further charge document.

Variation and Waiver Clauses

These give the lender flexibility to change the underlying loan terms, such as extending credit or altering repayment dates, without releasing you from your obligations under the guarantee.

Assignment Clauses

These allow the lender to transfer the benefit of the guarantee to another party, such as a new lender or debt purchaser, while you are restricted from assigning your obligations under the guarantee.

No Set-Off Clauses

These prevent you from offsetting any money owed to you by the lender against your liability under the guarantee. Also, you can be restricted from raising counterclaims or relying on other rights of deduction or abatement to reduce or delay payment when a demand is made.

Because these clauses can create open-ended, long-lasting obligations (even potentially applicable to your estate), you should never sign without first receiving proper independent legal advice.

Limited and Unlimited Guarantees

A limited guarantee caps your personal liability at a specific sum, offering some certainty about your exposure.

An unlimited guarantee, by contrast, has no ceiling. You could be liable for the full outstanding debt (plus interest and costs) regardless of the amount. This obligation could dwarf the initial amount the company borrowed that you were aware of or even primarily involved in arranging.

Most lenders prefer unlimited guarantees, but a solicitor can often help you negotiate a cap or otherwise restrict your liability to a fair level.

Why Independent Legal Advice Is Often Required by the Lender

From the lender’s point of view, it is crucial that the person providing the personal guarantee fully understands the nature and consequences of what they are signing. The lender will want to ensure that their position is protected as far as possible and that the guarantee cannot later be challenged.

This requirement is rooted in long-established case law, where courts have, in certain circumstances, set aside personal guarantees on the basis that the guarantor did not properly understand the document, was misled, or entered into it under undue influence or pressure. Historically, guarantees have been challenged where a guarantor argued they were unaware of the scope of their liability or the lender’s rights, particularly where the guarantee exposed personal assets or created unlimited liability.

To mitigate this risk, lenders frequently require the guarantor to obtain independent legal advice from a qualified solicitor before accepting the guarantee. This requirement protects both sides.

For the lender, it strengthens the enforceability of the guarantee and significantly reduces the risk of future disputes or claims that the document should be set aside. A lender does not want a guarantor later asserting that they did not understand the terms, were pressured into signing, or were not properly advised of the consequences.

For the guarantor, independent legal advice provides an opportunity to have the key terms and risks explained in plain language by a solicitor who acts solely for them. The solicitor will discuss the lender’s powers under the guarantee and the loan agreement, such as when the lender can demand payment, add interest, or take enforcement action, and will explain what could happen if the borrower defaults.

What Independent Legal Advice Covers

During the independent legal advice process, your personal solicitor will be required by the lender to review at least the personal guarantee if not also other security-related documents (i.e., a debenture or loan agreement) but most typically the loan agreement and any security documents, and explain:

• The key terms of the guarantee, including your liability and any caps or continuing obligations;
• The powers of the lender, such as their ability to call in the debt on demand, vary the loan terms, or transfer the debt to another party;
• The risks and consequences if the company defaults, including potential personal insolvency or loss of assets; and
• The procedural rights of both parties, such as notice requirements, enforcement powers, and release provisions.

The solicitor’s role is to ensure you understand these matters fully, that you are entering into the agreement freely, and that you are aware of the implications. Once satisfied, the solicitor may also be required by the lender to provide a certificate of independent legal advice, which is sent to the lender as proof that the guarantor has received proper explanation and advice.

Why Independent Legal Advice Protects You

Independent Legal Advice is far more than a procedural hurdle, it is your safeguard against signing something you don’t fully understand.

A solicitor can identify clauses that make the guarantee particularly risky or one-sided, such as unlimited liability or lender discretion to alter terms without notice. They can also advise whether the document could be renegotiated, for example, by introducing a liability cap or time limit.

Once signed, a personal guarantee is legally binding. Ensuring you understand the document at the outset can prevent serious financial hardship later.

What Happens if the Guarantee Is Enforced

If your company defaults on the business loan, the lender may issue a formal demand under the guarantee. This requires you to pay the amount owed immediately.

If you cannot pay, the lender can take legal action against you personally. Court proceedings could result in a judgment and subsequent enforcement through charging orders, asset seizure, or bankruptcy proceedings.

At this stage, legal advice is still valuable. A solicitor can review whether the lender has properly complied with the guarantee’s terms or whether any defences or negotiation options are available.

Can You Withdraw or Be Released from a Guarantee?

Generally, a personal guarantee cannot be revoked once given. It remains binding until the underlying debt is repaid or the lender confirms in writing that you are released (depending on the personal guarantee’s specific terms).

If you leave the company or sell your shares, you should always request a release as part of your exit arrangements. Otherwise, you could remain liable for new borrowing incurred after you’ve left.

Some guarantees allow for termination in relation to future obligations, but this must be clearly stated in the document. You cannot unilaterally withdraw from a guarantee once signed.

Do not rely on the word of an incoming buyer, new director, finance broker. Get a release in writing from the lender themselves for your records.

Costs and Process of Independent Legal Advice

Obtaining Independent Legal Advice is a straightforward process. We regularly advise directors, shareholders, and business owners who are asked to sign personal guarantees for business loans. We review the documents in advance, hold a confidential meeting (either in person or via video call depending on lender requirements), explain the key terms, and issue the lender’s required certificate of advice promptly.

This process ensures that both you and the lender can proceed confidently. The guarantor knowing exactly what they are committing to, and the lender, knowing that the guarantee will be enforceable.

The Importance of Understanding Before Signing

Signing a personal guarantee should never be done lightly. It effectively removes the legal separation between you and the company (given that the company is a separate legal entity) and places your personal assets at risk. Once given, it is extremely difficult to challenge or escape.

Independent Legal Advice provides the understanding, protection, and peace of mind that you need before signing such a significant commitment. It also satisfies the lender’s legal and procedural requirements, ensuring that the loan transaction can proceed smoothly and securely.

Conclusion & How We Can Help

Personal guarantees are legally binding and carry significant personal and financial consequences. When a business loan is secured by a personal guarantee, directors or shareholders risk their own assets if the company defaults. Understanding the scope of your liability (and the lender’s powers and rights) is crucial before signing.

Banks and other lenders will often require the guarantor to obtain independent legal advice from a qualified solicitor. The lender will typically not release funds or complete the loan agreement until this advice has been obtained (and a solicitor’s certificate confirming it) has been provided.

Our specialist commercial solicitors regularly advise individuals who are asked to sign personal guarantees in connection with business loans. We carefully review the guarantee and other loan documentation if required, explain the lender’s powers and your potential exposure, and outline what would happen if the borrower defaults. We also appreciate this is usually part of a wider transaction and ensure the lender’s formal independent legal advice requirements are satisfied and processed efficiently, issuing the certificate of advice promptly once the meeting has taken place.

If you have been asked to sign a personal guarantee or need to arrange independent legal advice, please do get in touch with us as a first step. Please email wewillhelp@jonathanlea.net with a copy of the guarantee and any related loan documents so that we can review them in advance, or call us on 01444 708640. After this call, we can then email you a scope of work, fee estimate (or fixed fee quote if possible), and confirmation of any other points or information mentioned on the call.

* VAT is charged at 20%

 

This article is intended for general information only, applies to the law at the time of publication, is not specific to the facts of your case and is not intended to be a replacement for legal advice. It is recommended that specific professional advice is sought before relying on any of the information given. © Jonathan Lea Limited. 

Photo by Vitaly Gariev on Unsplash