SMEs Don’t Understand Personal Guarantees

misunderstanding PGPersonal Guarantees Misunderstood

The provision of a personal guarantee (PG) is essential to limited company borrowing. All high street lenders will ask for a personal guarantee when lending to incorporated companies, it has been that way for many, many years.

The surprising thing about it is how little the SME owner knows about what a personal guarantee actually means. The FCA are starting to focus on how personal guarantees (PG) are enforced, the lack of awareness over what a PG means is partly behind this change of tact.

A recent survey of 510 SME owners undertaken by Wirefund showed some alarming misconceptions about PGs and what they actually commit the provider to. Let me expand on it by sharing some of the questions, responses and correct answers.

What Best Describes a Personal Guarantee?

Sometimes a business loan includes something called a personal guarantee. Which of the following, if any, best describes what that means?
  1. That a business owner/director will personally guarantee the money will be paid on time, to the best of their ability (21%)
  2. That a business owner/director will personally guarantee that if there is enough money in their business bank account, they will use it to pay back the loan (17%)
  3. That if a business owner/director fails to repay the loan, all business assets can be repossessed, but no personal assets will be (7%)
  4. That the bank will be able to repossess the personal assets business owners or directors if the business cannot pay back the loan (45%)
  5. None of the above 10%

The correct answer is ‘d’. Everything that is owned personally is at risk when a PG is called upon for payment. 55% of respondents had the wrong understanding of what the PG they had given was committing them to.

What assets do you think are commonly used to guarantee a standard business loan?
  1. However much cash there is in a business bank account (27%)
  2. All assets relating to the business (56%)
  3. Any personal assets belonging to a key person in the business (e.g. house, car) (39%)
  4. Other (1%)
  5. Don’t know (14%)

The correct answer is ‘c’. Any personal asset is covered by the PG. A staggering 61% of respondents got this one wrong. Bear in mind that respondents could answer more than one category, 83% thought the PG covered assets within the business when the primary purpose is to capture assets outside of the company.

When lending to SMEs, how commonly do you think high street banks require someone from the business to put their own assets down as collateral?
  1. Never (5%)
  2. Rarely (15%)
  3. Occasionally (34%)
  4. Regularly (37%)
  5. All the time (8%)

The correct answer is ‘e’, all the time.

What To Do About Giving a PG

The bottom line is that because a limited company can be wound up and when it fails it normally does so with few (if any) assets remaining then you can understand why a lender would want to take the PG. For many lenders having the PG in place means they have some leverage from which to negotiate a settlement or insist you remain committed to putting things right.

If you want to borrow then in all likelihood you will be providing a PG.

I am not suggesting that you don’t give a PG, it is pretty much a mandatory thing, just understand what it means and what risk it opens you up to. There is a lack of understanding over PGs so please check the agreement and always take good legal advice before signing anything.

By Dave Farmer

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