Personal Guarantees

A personal guarantee can hold another person (such as a company director, parent or friend) personally liable if a related business is unable to repay the money owed. Personal guarantees are often required when first taking out a business loan or tenancy, especially for small and medium-sized enterprises. Most directors agree to guarantee loans on the assumption that the lender will never have any cause to rely on it, or to take action against the director personally.

What is the Impact of a Personal Guarantee?

If you have personally guaranteed a loan, for example, and your business faces unexpected financial difficulties and is thus unable to continue repaying the loan, the lender may turn to you as guarantor for payment. The impact of financial difficulties will therefore extend beyond the business world and will impact you personally as a guarantor too.

Can anything be done?

English law is notoriously lender-friendly; case law shows us that the Court will always start from a position of scepticism when assessing an allegation by a company’s director (or major shareholders), that they did not know what they were signing when they entered into guarantees in support of their company’s borrowings.

However, there are a range of legal tests to consider in assessing personal guarantees, especially when looking to reduce your liability as a director.

Key Legal Issues Affecting Personal Guarantees:

1. Contractual Issues and Formalities

The terms of a personal guarantee must be sufficiently certain and complete to enable the Court to give effect to them.

A personal guarantee must be in writing and signed by the guarantor (or some other person lawfully authorised to sign on the guarantor’s behalf). If the personal guarantee is not in writing, it will be unenforceable.

Having said that, a personal guarantee can be created by electronic means such as email.

2. Characteristics of Personal Guarantees

The liability of a personal guarantee is dependent on the underlying obligation entered into (e.g. the loan or other agreement entered into) – this is the principle of “co-extensiveness”.

The principle of co-extensiveness does not apply to indemnities. It’s for this reason that lenders usually expect an indemnity as well as a personal guarantee to be signed together, as the indemnity affords more protection. If the primary underlying agreement (e.g. the loan agreement) is found to be void or unenforceable, it will be easy to set the personal guarantee aside, but more difficult to set the indemnity aside.

The liability of a guarantor is a secondary obligation, dependent on the principal failing to perform its guaranteed obligations under the primary agreement (e.g. the loan agreement).

3. Unfair Contract Terms

Where the personal guarantee is in standard form, the tests of reasonableness and fairness will apply. If there is an unfair term within the personal guarantee, then it may not be binding on the guarantor. It is an established principle of English law, as per RBS v Etridge (No.2) [2002] 2 AC 773 that:

“a creditor is obliged to disclose to a guarantor any unusual feature of the contract between the creditor and the debtor which makes it materially different in a potentially disadvantageous respect from what the guarantor might naturally expect”.

4. Undue Influence and Misrepresentation

Undue influence and misrepresentation can arise in numerous relationships where a fiduciary relationship exists (a particularly personal or trusting relationship between two parties). In addition, the case of RBS v Etridge (No.2) [2002] 2 AC 773 set out that, subject to a number of exclusions, a lender should be put on notice of undue influence and/or misrepresentation where a wife is to guarantee her husband’s debts of a company, even if she may be jointly liable or is a director.

The first and most important step a lender should take to minimise the risk of undue influence/misrepresentation being used as a defence to a personal guarantee is ensuring guarantors take independent legal advice.

In addition, it is possible that a guarantor can seek to rely on the defence of undue influence, if they entered into the particular transaction in question as a result of undue influence exercised by the lender. “Inaccurate explanations of a proposed transaction” can also amount to undue influence according to RBS v Etridge.

Personal Guarantees: How can we help?

Our team of specialist banking and finance lawyers can assist you in reviewing the terms of any personal guarantees and their underlying agreements, as well as an assessment of your exposure and liability under a personal guarantee with advice on the best avenue to progress the matter further, including; making a claim via court proceedings, a complaint to the Financial Ombudsman Service, or entering into negotiations with the financial institution in order to re-finance.

Get in touch with our expert team today via email or call 01202 525333.