Ramifications of Personal Guarantees in Leases and Loans
Ramifications of personal guarantees – the issue a corporate lawyer can help with.
One of the key benefits of using a corporation or limited liability company to own and operate your business is limited liability – beyond what you contribute to the business, your personal assets generally are not exposed to the liabilities of the business. However, by executing a personal guarantee of a lease or a loan, you can easily undermine the benefit of limited liability.
When you personally guarantee your business loan, you are personally liable for the obligations under the loan (including payment of principal and interest) if your business cannot pay its loan obligations.
Ideally, you do not want to execute a personal guarantee of your business’ lease or loan. You should try to negotiate the terms of your business’ lease or loan to avoid executing a personal guarantee.
However, as a practical matter, in dealing with a new business that has limited assets, it will be commonplace for a landlord or a bank to require a personal guarantee from you as a condition of leasing property or loaning funds to your business. If a personal guarantee cannot be avoided, there are at least some things that you can do to minimize the adverse ramifications of executing a personal guarantee.
First, you should try to limit the potential financial liability under any personal guarantee; for example, you could only personally guarantee 50% of your business’ obligations under a lease or a loan or limit your personal guarantee to only cover certain specific leasehold costs under a lease.
Second, you should try to limit who bears liability under any personal guarantee; for example, you could have a separate entity, rather than you individually, execute the personal guarantee (thereby limiting liability under the personal guarantee to the separate entity’s assets, and not to all of your personal assets), and you could exclude your spouse or children from executing the personal guarantee.
Third, you should try to have the personal guarantee terminate after a specific period of time or upon satisfaction of a specific condition; for example, your personal guarantee could terminate once your business has realized a certain amount of sales or “equity value”.
Fourth, your obligation under any personal guarantee should be unsecured; it should not be secured by any specific personal assets.
Fifth, you should establish some form of “asset protection” plan for your personal assets, so that if a landlord or bank sues you on the personal guarantee, it will be more difficult for this creditor to lien on or attach your personal assets.