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There is nothing more personal than a personal guaranty.

Business owners often go to great lengths to minimize the risk of personal liability. Once the guaranty is signed, life may never be quite the same again. Prudent business owners limit personal liability by: (i) operating through a corporation, limited liability company or other form of business entity; (ii) buying liability insurance to protect against liability; and (iii) following corporate formalities. But, when it comes to borrowing money or obtaining credit, it is often difficult, if not impossible, to avoid going “personal.”

Lenders want borrowers to have every incentive to repay the loan. A lender’s hook into the personal assets of the business owner is the strongest lever a lender has to get paid. Even in good times, it can be difficult to avoid signing a personal guaranty.

So, with little chance of avoiding a personal guaranty, are there any strategies for reducing their reach? The answer is yes, but it requires some forethought and planning.

There are also a few things a business owner can do to limit the reach of a personal guaranty. Here are some ideas:

  1. Have More Than One Option.
    When looking to borrow, have more than one option. Some banks and other financial institutions, and some trade creditors, may be willing to limit the reach of a personal guaranty when competing for your business.
  2. Limit the Exposure/Business Partners.
    You may want to ask the lender to limit your exposure under a personal guaranty to your percentage interest in the company. So, for example, if you have three partners and you each own 33.33% interest in the company, ask your lender to limit your liability under a personal guaranty to one-third of any claimed amount. Some lenders will accommodate such a request.
  3. Spouse as Business Partner.
    Consider whether you want to include your spouse as a co-owner of your business. Banks and other lenders typically want all those with an ownership interest in the business to sign a personal guaranty when the business takes out a loan. (Some banks will waive the personal guaranty requirement if the business partner owns 20% or less in the company.) While there are many factors to consider, limiting a spouse’s exposure to business debts is an important goal.
  4. Limit the Length of the Personal Guaranty.
    If you will be reducing the amount of the loan over time, you may want to ask your lender to consider limiting the personal guaranty to the first two or three years of the loan with the thought that your real estate or other assets which secure the loan will, at that point, provide adequate protection for repayment to the lender.
  5. Avoid Self Renewing or Blanket Personal Guarantees.
    Often, when working with suppliers, a business owner may sign a personal guaranty at the start of the relationship without realizing that this personal guaranty will continue indefinitely or renew automatically. I recently reviewed a 12 year old guaranty which a trade creditor was asserting as a basis for personal liability. You may want to put a sunset date on a personal guaranty or negotiate with the trade creditor to eliminate or limit the reach of the personal guaranty after you have established yourself as a reliable borrower.

Personal guarantees are a reality few business owners can avoid. However, if presented with a guaranty, attempt to limit its scope and impact by requesting reasonable limitations.