When you take a business loan for your LLC and also make a personal guarantee as part of the agreement, your LLC cannot protect any personal assets that are part of the agreement. This is because the personal guarantee is a legally binding commitment outside of the LLC from the person signing that they will use their own personal assets to pay for the loan plus interest if the business cannot make the business loan payments.
Lenders use personal guarantees as a way to determine whether you believe you can repay the loan. It is a confidence builder that could be the deciding factor in whether or not your business loan application is approved.
The minute the deal is signed, you are on the hook for the agreed-upon amount. This is why you’ll want to evaluate your risk before agreeing to a personal guarantee and know your options before you make the commitment.
Evaluate Your Risks
Before making a personal guarantee on a business loan, think about the risk you’re willing to take and the current situation of the business. If cash flow is strong and growing, even if your company does not have equipment or assets to put up as collateral, making a personal guarantee may not be a high risk in this situation.
On the other hand, if a lender says that a personal guarantee is required because they view your business as high-risk due to financial instability and not enough assets, then you may want to think twice before putting your personal financial situation at risk. If the business defaults, the lender can come for your home, stocks, bonds, investments, bank accounts, and other personal assets.
Know Your Options
If you do decide to make a personal guarantee, you can either have a limited or unlimited guarantee.
- Limited personal guarantees only require you to cover a percentage of the loan plus interest with your personal assets. It does not mean the lender is limited in what they can seize, just in the total amount that you must pay.
- Unlimited personal guarantees will require you to cover the full cost of the loan plus interest with your personal assets.
This is why you should always try to get a limited personal guarantee when available for small business loans.
Ways to Protect Personal Assets in Personal Guarantees
There are a few ways you can protect yourself when making a personal guarantee on a business loan, but they need to be done before you sign the agreement. The first is providing a limited personal guarantee where you’re only responsible for a percentage of the loan if the business defaults.
Your second option is to have specific assets excluded from seizure like your retirement accounts or your primary residence. You will want this to be put in writing and to be as specific as you can when declaring what cannot be seized in a default situation.
A third option is to define specific assets in a list and make sure these are the only ones that can be sold off if you default on the loan. Be as specific as possible when making a list of assets.
Instead of saying “cars” or “vehicles,” which are very general, list specific VIN numbers (vehicle identification numbers) with the makes and models of the vehicles that can be seized. Do not list “vacation property” as a general asset. Instead, list the physical address of the property so that there can be no confusion regarding what the lender can pursue in the event of a default.
Personal guarantees are often required by lenders and financing companies in various situations, such as when a business is new or doesn’t have enough assets to use for collateral in case of a default. Some financing companies require personal guarantees as a standard practice. They build confidence that the borrower will be able to pay back their loan, and they give the lender a way to recoup their losses if they do not. Don’t stress if you are asked to make one. Go in knowing your options and keep the commitment within your comfort levels.
SmallBusinessLoans does not provide tax, legal or accounting advice. This material has been prepared for informational purposes only. You should consult your own tax, legal and accounting advisors.
