Many business owners will need to secure financing from a bank or other financial institution at some point during the business cycle. The loaned funds may be required for working capital or capital expenditures. If you are running your business through a corporation, you may think that since the funds are being loaned to your corporation, only the corporation’s assets are at risk upon any default; after all, the corporation is a separate legal entity and you incorporated your business as a means of limiting your personal liability and separating the business assets from your personal assets. However, most lenders will require that you sign a personal guarantee before agreeing to lend funds to your corporation.
A personal guarantee is a written promise to guarantee the obligations of the borrower. Such obligations typically include the repayment of the amount due to the lender on the specific terms and conditions as set out in the loan agreement between the lender and borrower. Essentially, the guarantor is contractually liable to the lender for all unpaid amounts and other borrower obligations outlined in the loan agreement. In the case of a loan to your corporation, your personal guarantee to the lender means that you’ve authorized the lender to look to your personal assets to satisfy the debts and obligations of the corporation, should the corporation breach the terms of the loan agreement.
As you may already be well aware, banks are very careful, diligent, risk-averse entities. As such, unless your corporation owns high-value assets and has built a solid reputation with lenders and creditors over many years, your bank will very likely require that you sign a personal guarantee as a way of mitigating its risk. It does not want to bear any risk of not being able to realize on its loan because, for instance, the corporation is a shell (i.e., empty or has minimal assets) or has other secured creditors who have priority to the business assets. By having you sign a personal guarantee, the bank can be satisfied that you have sufficient personal interest at stake in the business, and as a result, you will be proactive in making sure that payments are made to the bank until the loan is paid in full.
The language in the agreement for the personal guarantee is usually expansive and covers all exceptions that might offer a means for a guarantor to be released from his or her obligations. Courts have also adopted a very strict approach when it comes to upholding personal guarantees, even if the agreement does not expressly include the word “guarantee”. When reading through the personal guarantee, many people are acutely drawn to how and how much the lender may collect from the guarantor; fewer people know that most personal guarantees also provide that the lender does not need to exhaust its efforts against the corporate borrower before going after the guarantor directly for debt recovery. Furthermore, if the assets of the guarantor are not enough to satisfy the amounts owing to the lender, the lender can still hold the guarantor personally liable for any shortfall.
Some lenders will also require guarantors to pledge their personal assets – real estate, vehicles, shares or other valuable property – as security for the payment or performance of the corporate borrower’s obligations. This may include signing general security agreements, share pledge agreements, mortgage contracts or other agreements that create a security interest in the guarantor’s property. The lender can then register its security interest under the Personal Property Security Act (if securing against personal property) or register a mortgage (if securing against real property). These security registrations may further limit the personal guarantor’s ability to obtain a personal loan or other secured financing.
Personal guarantees are always drafted to heavily favour the lender. Before agreeing to sign any personal guarantee for a loan to your corporation, consult with your business lawyer to ensure you fully understand the potential consequences and the extent of your liability. He or she may be able to negotiate certain guarantor-friendly limitations into the personal guarantee (e.g., limiting the guarantor’s obligations to a certain sum and/or period of time) that could reduce the risk and burden associated with providing the personal guarantee.