Choosing what kind of entity to form, whether a corporation or a limited-liability company, for instance, is an early and critical step. Establishing a separate business bank account makes it easier to keep personal and business expenses separate. Even when forming a business entity and creating a business bank account, you still risk exposure, especially in the early days of the business. You may have to guarantee loans for your business even after taking these steps.
If you have a fledgling business, no one knows if it will succeed or not. Any decent lender will therefore be exposed for a while. Hence, a lender will often ask for a personal guarantee, especially when lending to a new business. If you are just starting out and seeking to lease commercial space, landlords may want a personal guarantee from the business owner as a condition to a lease. They want some assurance of their monthly rent check. But, if you have a brand new business, and they must build out space, they take a huge risk with you.
Before you sign: Just because a lender or landlord insists on a personal guarantee, that doesn’t mean you should sign it. It is best to review any document before you sign it with the help of a qualified attorney. That way you will have an understanding of your rights and obligations.
Personally Liable for the Business Loan
A personal guarantee of a business loan obligates the person, for instance a business owner, who signs the guarantee to be personally liable for the business loan if the business that received the loan fails to pay its debts. If you sign one, you make the lender’s (or the landlord’s) loan an obligation of yours. By signing a personal guarantee, you take away the shield of your business entity as a separate legal and financial entity. Creditors can come after your personal assets if your business goes south and can’t meet its obligations. If you are considering co-signing on a business loan or signing a personal guarantee of it, you take a great risk. Further, shutting the business will probably not protect you from its creditors. The larger the debt, the greater the risk to you personally.
In many instances when the business stops paying, the creditor sues both the business and the guarantor personally. It’s essential to understand that you’ll have to deal with a lawsuit even if you have closed the company. If you ignore the lawsuit, you’ll probably receive a default judgment. Then the creditor can collect on that judgment through your personal assets.
As for who must sign a guarantee, the main candidates, obviously, are the business owners. If you run a one-person shop or act as sole owner, it’s usually just you. If you have partners, however, lenders typically require that all owners with a substantial stake sign personally. Depending on the particular agreement, this usually means anyone owning 20% or more of the business, but more guarantors are desirable because it spreads the lender’s risk of default.
If you do not own the business in question, think long and hard before co-signing a business loan or guaranteeing a loan made to it. You have no control over how the business is run, so you have no way of judging its health. Businesses come and go, but that doesn’t end your obligation.
Key Clauses
Beware of signing any form presented to you without taking time to read all of it. Key clauses are often tucked into later pages. You could also face another risk, especially with an out-of-state lender: a clause that may require that all disputes be heard by the courts in or near the lender’s location, even if that’s far from where you live.
Included in some personal guarantees are what are known as ”waiver of service” clauses. These mean the lender does not have to serve you with legal papers to sue you, in the manner that the law normally requires. A signed waiver of service will allow the lender to put a copy in the mail. Because you have waived notice, you may not know about any legal action against you until a court already has a judgment. A lender with a judgment against you can levy your bank account and freeze it, and that may take you by surprise.
Whatever your circumstances, read everything before signing it to understand any terms that specify that disputes have to be heard in a particular place. In many cases, a guarantee may be a necessary risk, enabling your business to get off the ground. Just be sure of how much you risk and what you may lose.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
