Personal guarantees on business loans are common. But before you sign one, make sure you know what it can mean for your business and your personal finances.
What is a personal guarantee on a business loan?
A personal guarantee is a borrower’s promise to repay a business loan from their personal assets if the business defaults. A personal guarantee is similar to business collateral in that it provides lenders assurance and helps some businesses get credit they may not qualify for otherwise.
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There are two particular types of personal guarantees on business loans:
Unlimited personal guarantees. These generally mean that an individual guarantor is responsible for paying everything owed to the lender until the loan is paid in full. For example, if the business borrows $100,000, the borrower with an unlimited personal guarantee is personally responsible for repaying the debt if the business can’t.
Limited personal guarantees. These typically mean the guarantor shares responsibility with other people for repaying the debt if the business defaults. For example, if a business borrows $100,000 and there are three owners who each own 33% of the business, the owners may each be personally responsible for repaying up to a third of the outstanding balance if the business can’t repay the debt. However, limited personal guarantees may include joint and several liability, which means the lender can demand payment for all of the debt from one, some or all of the guarantors.
Do all business loans require a personal guarantee?
Government lenders: The Small Business Administration requires unlimited personal guarantees from borrowers who own 20% or more of a business applying for an SBA loan.
Bank lenders: Here are examples of lenders that require personal guarantees for one or more of their business lending products:
Online lenders: Getting a loan online likely comes with a personal guarantee. These lenders, for example, require a personal guarantee for one or more of their business lending products:
Can I get a business loan with no personal guarantee?
While most lenders ask for a personal guarantee, a 2020 Federal Reserve survey of small-business credit found that only 59% of firms with debt used a personal guarantee to secure that debt. That means you can get a business loan without a personal guarantee — but you’ll likely have to appease the lender in another fashion.
For instance, it may be possible to avoid a personal guarantee by offering a larger deposit or a letter of credit. Borrowers may also be able to talk lenders into a limited personal guarantee that attaches only to certain borrower assets or that lifts after a certain period of time.
Keep in mind that an unsecured loan is not the same thing as not requiring a personal guarantee. These loans aren’t secured by physical collateral, like equipment or a building, so a lender will most likely require a personal guarantee or lien to help ensure repayment.
Should I sign a personal guarantee on a business loan?
Personal guarantees on business loans can be hard to avoid. But before signing one, make sure you consider the following:
Are you confident your business will be able to repay the loan and abide by the other conditions of the loan? Review your business plan and financial statements to determine if the business can reliably make the payments. Even if the math looks good, remember that if the business does make the payments but violates the other conditions of the loan, the lender could still consider the business in default.
Do you understand the terms of the personal guarantee? Be sure you know how much you could be liable for, how long you’d have to pay and whether the lender will come after certain assets you own first.
Do you have the funds to repay the loan if the business defaults? Once you know the circumstances under which you’d be personally on the hook for the loan, ask yourself whether you could sustain a drop in your credit score and financial security if that day actually comes.