Understanding Personal Guarantees

A property purchaser’s parents provided a personal guarantee to help their child with buying a first home.  Years went by and the guarantee was never called upon.  Eventually the parents forgot that they had even given the guarantee.  Some years later their child bought a second property, and at this point the bank requested a second personal guarantee from the parents.  The first guarantee was still in place, as their child continued to pay off the mortgage on that property. 

Their child then got into financial strife and could not meet the repayment obligations to the bank, and suddenly the parents were being asked to pay a total sum of the two guarantees.  They were forced to sell their own home and personal assets in order to free up enough money to repay the bank, and were left homeless and almost bankrupt.   

Unfortunately this very upsetting situation is not unexpected in the context of personal guarantees, because of the seriousness of the guarantor’s obligations.  The parents could have ended up bankrupted if the debt to the bank had exceeded their own assets.

What is a personal guarantee?

When a person gives a personal guarantee, they confirm in writing that they will be liable for paying someone else’s debt, if that person cannot.  The guarantor (or indeed the borrower) might be a person, a trustee of a trust or a company director, depending on the circumstances. 

A personal guarantee is often required in the context of obtaining finance, if the lender wants certainty that it will be repaid should the borrower be unable to meet their debt.

As well as giving a personal guarantee, the guarantor may be asked to provide an indemnity to the lender which says that they will be liable for all costs or losses associated with recovering the debt if the guarantee is called upon.

Some important things to look out for when providing a guarantee include:

• The value of the guarantee
• What else the guarantor may be liable for
• Whether the guarantee amount is limited or open (in other words, is the amount fixed or could it increase in future?)
• Any security the lender may take (for example a mortgage over the guarantor’s home)
• The length of the guarantee, if applicable
• How the guarantee can be cancelled.

It is extremely important that the terms of a guarantee are recorded in writing, and signed by all parties.  Without a written record of the terms of the guarantee, the parties could face lengthy and costly legal action to try to enforce the agreement.

The guarantor must be given the opportunity to seek independent legal advice - and should get such advice - before signing.  Guarantee documents are often long and complex, and the guarantor must know the full extent of what they are agreeing to before signing.

What happens if the guarantee is called upon?

Guarantors can be surprised to learn that the lender does not have to go after the borrower first for repayment of the debt – they can go straight to the guarantor. 

The lender will require repayment of everything that is owing, and any other costs that the guarantor has agreed to in writing – which could include things like the lender’s legal fees and debt collection costs.

If the guarantor cannot meet their obligations, they may find themselves in an extremely serious situation.  The guarantor may have to sell or liquidate their assets in a hurry, and could face bankruptcy (if a private person) or insolvency (if a company) if they cannot repay the debt.

If you are looking to provide a guarantee, or have provided one but have concerns about the extent of your obligations, you should see your legal advisor as a matter of priority.