A personal guarantee, which is essentially a lender’s way to safe hold their investment by requiring business borrowers to include personal assets in their loan request as collateral, has become a fixture in small business lending in recent years. Defined in the lending industry as an agreement that makes one liable to a lender for one’s own business and third party debt obligations, personal guarantees are often necessary to obtain a small business loan.
Unlike Special Purpose Vehicles, which are used in Collateralized Debt Obligations and Asset-Backed Securities in the structured finance industry to absolve companies and corporations from personal liability in regards to their entity’s debt obligations, in today’s lending climate small business owners are almost universally required to sign a personal guarantee including their personal assets should they wish to borrow money.
This dichotomy was recently covered in a conversation between James Coughlin, an loan officer at Asterisk Financial Group, Casper Zublin, a business owner, Randy Evans, an attorney, and Jon Consentino, a broker of business loans which was hosted by BoeFly, LLC, and internet-based company that helps match borrowers and lenders seeking to obtain small business loans.
After a brief introduction on today’s lending environment by Mr.Consentino, the conversation turned to Casper Zublin, a business owner, and President and Chief Operating Officer of International Rubber Products, a rubber manufacturer in the medical industry based out of California, whose experience signing personal guarantees for his business spans 25 years.
Nayor asked, “Can you think of a time in which you were generally concerned a PG [Personal Guaranty] was going to come into effect? That the bank was going to rely on your PG to meet – to meet your debt obligations?” to which Mr. Zublin responded candidly, “I can tell you I’ve lost a lot of sleepless nights over PGs. That was probably one of the worst days of my life. I told my wife, if things continued in this direction that we would lose everything.”
Despite the hardships endured by Mr. Zublin as a result of having a personal guarantee attached to his loan requirement, when asked if he would require a PG in light of the stresses that he experienced, he said yes.
“So, if you were a banker… would you require your borrowers to give a PG in light of the stress that you’ve mentioned that it places on that borrower?
“Would I – if I was making a loan would I ask for a personal guarantee? Yeah, probably. I think that’s a fact of life and I think business has become fairly sophisticated and business men are fairly sophisticated,” Mr. Zublin replied. He noted that in the two loans he has received in the last 12 months valued at approximately $4 million, not one offer came without him having to sign a personal guarantee.
To offer some insight on how to protect yourself and alternatives to signing a personal guarantee, Randy Evans, a practicing attorney at Monroe Moxness Berg PA, offered some advice. His advice included bringing in additional guarantors, pledging alternative pieces of collateral as credit enhancements, and obtaining a letter of credit, which is a letter issued by one bank to another bank to serve as a guarantee for payment under a set of specified conditions.
“The most prevalent right now, in this market, is to use a letter of credit. We’ve had a number of transactions, finance transactions, over the last three or four years where clients have been successful in using a letter of credit for some defined amount of money over some defined period of time as a way to at least put some limits around the exposure,” said Evans.
Lastly, James Coughlin, a lender and Chief Underwriting Officer at Asterisk Financial Group, offered an additional piece of advice: obtaining Personal Guarantee Insurance during the origination process, which can also be seen as a form of credit enhancement.
“Personal guarantee insurance was developed specifically to address that anxiety or worry that business owners have and that the lender will pursue them for deficiencies. And the product is available for catastrophic loss.” He added, “[Percentage of insured liability] is at the business owner’s option between 30 and 70 percent of the risk that they’re signing up for. So on a million dollar loan if you sign up for 50 percent guarantee, you’re only on the hook for 500,000.”
At the end of the webinar, Nayor posed the question to the audience “In light of what you’ve heard today, are you more likely to negotiate your next personal guarantee?” Over 60 percent said yes. What about you?
Daniel Chertok is an associate at BoeFly, LLC.
The entire Personal Guarantee 101 webinar, including the question and answer session is available online for those that that could not attend. It will be of interest to entrepreneurs, franchise industry practitioners and vendors who supply, consult, coach, mentor and serve small and medium-sized, privately-held businesses.
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