Guarantees and Personal Guarantees are important and serious commercial documents.
When you sign one it is difficult to get out of it, when they are properly done.
Then some things can happen outside the contract that allows can make the guarantees and personal guarantees unenforceable.
What is a Personal Guarantee?
A personal guarantee is a guarantee given by a person rather than a company.
The liability to honour the guarantee is personal to you. There is no protection from a company. This means that all of your assets are on the line to payment if the lender is not able to get a full refund from the business.
Personal guarantees are attractive to creditors when the guarantor has assets to cover the exposure of the creditor.
Legal Requirements for a Guarantee
Many documents are called guarantees when they are not.
The factors that courts take into account are:
Proper interpretation: “Contracts of Guarantee are interpreted as a whole”. It is the particular words used in the relevant clauses that count. Not what it is called.
Title of document: the title of the document is not decisive
Substance over form: Just because the word “guarantee” is used in the contract somewhere, does not make it a guarantee.
Guarantees have several formal requirements to be a guarantee to put it beyond doubt that it is a guarantee.
Form of guarantees: It must be evidenced in writing. The writing is maybe a formal contract or agreement, note, memorandum or promissory note
Signed: The guarantor should sign it, or have their authorised agent sign it. The name may be written or printed, so long as it is intended to operate as a signature
Secondary Liability: Establish that the guarantor has a secondary liability to perform the guaranteed obligation. The principal debtor has the primary liability to “perform the contract”.
Consideration: The document should satisfy the requirements of any other contract.
That means, offer and acceptance, consideration, an intention to be legally bound and capacity to make the contract
What makes Guarantees so special?
The parties to a contract make promises that they will do the things set out in contracts. The party to the contract is responsible for the performance of a promise.
Guarantees are different. Guarantees are a promise by a person not responsible for the performance of the contract.
Guarantors receive no benefit from the contract.
They expose themselves to the liability of the contract for no return.
Guarantors promise that they will make good to a creditor failure by the primary contracting party to perform the contractual obligations.
Therefore, guarantees create a secondary obligation to perform the contract on the guarantor, where the primary obligor (often a debtor) fails to deliver on their contractual obligations.
For these reasons, law imports special considerations for guarantees to be valid: the guarantor is not primarily responsible for the performance of the contract. It is outside their control. Someone else is primarily responsible.
We come to the main differences between indemnities and guarantees in a moment.
How long is a personal guarantee enforceable?
A guarantor’s liability is “coextensive” with the debtor.
Whatever the debtor is liable for to the creditor is the liability of the guarantor. If the debtor’s liability is released, so is the liability of the guarantor.
Guarantors have all the defences to payment and/or performance available to them as the debtor.
This means two things:
Where the debtor remains liable to the creditor, so does the guarantor.
If the debtor can show that his or her liability is extinguished or reduced, the guarantor gets the benefit of that reduction.
There may be terms in the contract of guarantee, which caps the liability of the guarantor or even limits the time in which the credit can call upon in the guarantor to make good the default.
Unenforceable personal guarantees
When do guarantees become unenforceable?
In the worst case, they only become unenforceable after the relevant “limitation period” expires.
A limitation period is a maximum period allowed by the law to commence legal proceedings for breach of the contract of guarantee. Then the contract may contain time bars, which restrict the time within which the creditor may claim. It depends on what is said in the contract.
The general law rules are:
For normal contracts, 6 years from the date that the breach of contract took place
For deeds, 12 years from the date of the breach.
It is not likely that a creditor will allow this to happen.
In addition, things might have happened before or after the guarantee was signed which make it unenforceable.
That is next.
Defences: How to get out of a personal guarantee
Some guarantees will have loopholes, others will not. However, it is not just the terms of the guarantee that decide these things. The creditor may behave themselves in a way that prevents them from relying on the guarantee.
Some of the more common ways guarantors get out of a personal guarantee include:
The guarantee has been undermined by fraud or undue influence; because the guarantor was substantially misled before, it was signed
The creditor repudiated the contract of guarantee, and the guarantor accepts the repudiation
The creditor has failed to tell the guarantor something that affects the relationship between the debtor and creditor
A variation is made between creditor and debtor in a way, which the guarantor would not have expected. Possibilities include:
Extension on the time to pay
Increase in the sum of the debt of the debtor
A “condition precedent” to the guarantee was agreed and never satisfied.
The guarantor may have agreed to be a co-guarantor. The other intended guarantor never signed the guarantee as guarantor.
The guarantee was intended to be signed as one document as part of a larger transaction, and those other contracts were never signed.
In each case, the contract would not come into existence in the first instance because the condition had not been satisfied.
The guarantee was to be secured over specific property, and That asset does not exist, and no other forms of security can be identified as a substitute.
Each of the parties has operated under a common mistake, the guarantor has acted under economic duress.
The practical effect of the pressure is that there is a compulsion on or a lack of practical choice for the guarantor.
The pressure must be illegitimate, as opposed to “the rough and tumble of the pressures of normal commercial bargaining. It is a high standard to satisfy.
The Unfair Contract Terms Act 1977 applies to relieve the guarantor of onerous terms of the guarantee.
As you can imagine, creditors take guarantees seriously. They will prepare the guarantee document to make sure their interests are protected. Usually.
Reduction of amounts owed
The liability of guarantors can be reduced to the extent that:
The debtor discharges the financial liability to the creditor
A damages claim for misrepresentation caused the guarantor to enter into the agreement, was albeit not fraudulent, but negligent
Breach of an “implied term” of the contract to take reasonable care to ensure that the price at which property is sold is the best price that can be reasonably obtained for the security given under the guarantee
Proper Interpretation of Guarantees
Liability under the guarantee is determined by what is known as a “proper interpretation” of the contract of guarantee.
Legal obligations of guarantors are interpreted from the standpoint of a commercial perspective of a reasonable person, knowing what the parties to the guarantee knew as at the date of the contract. Here’s a guide to – reading contracts.
It has to be said that it is tough to avoid liability under a properly drafted guarantee. It narrows your options.
Whether you can get out of a personal guarantee often depends on what happened before the guarantee was agreed and what has happened since it was signed.
In hard cases, this means that you can’t tell whether you can get out of a guarantee without:
Reading the contract of guarantee and the terms of the guarantee; and
Knowing what happened before and after the contract of guarantee was agreed: i.e. all of the relevant facts of the case.
Whether or not a guarantee is enforceable is highly fact – a slight change of the facts can mean the difference between success and failure.
Limited Opportunities to get out
If you do get an opening to get out of a guarantee, that window of opportunity can be short before it closes on you.
Interpreting Guarantees: Loopholes
Frequently, contracts contain obvious ambiguity.
When the facts of the case have happened (by the time courts come to consider them), they often contain latent ambiguities.
That is, the contract can be interpreted in more than one way.
Differences in interpretation – of “the construction of the contract” may mean the difference between success and failure of the guarantor avoiding liability.
It is important stuff if you are a guarantor who believes that it would be wrong for you to be liable.
Owing in part to the special nature of the contracts of guarantee, courts take a “strict” approach to interpretation. The means that “clear words” in the legal sense – must be used in the guarantee.
If there is ambiguity, it is likely to work against the creditor.
The reasons for doing so include:
Side-stepping attempts to exclude the application of general law requires clear and unambiguous language
The creditor drafts the contract. It presents it to the proposed guarantor to sign.
Therefore, the “contra proferentem rule” of interpretation applies so that ambiguities will be interpreted against the creditor.
The Court considers all the surrounding circumstances of the case, particularly as at the date the contract was signed.
The state of affairs and knowledge of the parties as of the date of the contact plays an important part in the outcome. This is because the Court uses the information to clarify the scope and extent of the guarantee. and therefore the obligations of the guarantee.
In “Liberty Mutual Insurance Co (UK) Ltd v HSBC Bank plc” , it was said in respect of the interpretation of contracts:
~ against the background of an admissible matrix of facts known to or at least reasonably available to the parties, the meaning sought is that of the language in question would convey to the reasonable man.
In that context, the language used is to be given its natural and ordinary meaning, unless a reasonable man would conclude that something has gone wrong in expressing the parties’ intentions.
What this means is that courts have the power to:
Consider evidence outside the contract to ascertain who was to receive the benefit of a guarantee
Interpret a contract to correct a mistake in its preparation
See past allegations, which are not supported by documentary evidence, but merely oral evidence
Ignore words, which attempt to exclude or limit the application of the general law, which would be to the advantage of the guarantor
In an appropriate case, a guarantee might be worded as follows:
The Guarantors hereby guarantee to [creditor] the due and punctual performance of all present and future obligations of [the debtor] to pay the monies payable to [creditor].
Guarantees in contracts are rarely this straightforward or simple.
Personal guarantee wording
The wording of a personal guarantee could be the same as the simple example above. The guarantors would be individuals, not companies.
What is a personal guarantee on a business loan?
Suppose a friend wants to take out a business loan with a bank to start a business.
The bank insists it receives a guarantee for the repayments of the loan before it gives the loan to your friend. You offer to be the guarantor.
If your friend then defaults on the repayments of the loan, the bank can call upon you to pay the outstanding sums on the loan.
This is one of the simplest forms of guarantee. Because you have guaranteed the loan in your own name (and say, not through a company), it is a personal guarantee. That means all of your personal assets are available to the bank to recover against if your friend defaults on the loan.
Directors’ Personal Guarantees
Directors of companies are often requested by banks to provide personal guarantees for sums lent to companies, which they control.
This situation is quite similar to the example above. When the director gives the guarantee, if the company cannot service the loan, the director is called upon for the sums owed on the loan. They are personally liable under the guarantee.
A director of a company might personally guarantee to the bankers of the company that the company will pay all the loans of the company.
If the company defaults on payments or becomes insolvent, the bank can look to the director to repay the loans given to the company, on the strength of the personal guarantee.
A company director might give a performance guarantee to a service provider to the company that some state of affairs will exist throughout a contract between the service provider and the company. This is a “see to it” guarantee.
Recovery by Creditor from Guarantor
When a creditor recovers money from the guarantor because the debtor has defaulted on (say) a loan, the debtor remains liable to the guarantor for sums that the guarantor has paid the creditor.
The liability of the guarantor is said to be “secondary”. This is because liability arises in the guarantor at the request of the creditor. The guarantor assumes liability when the debtor fails to perform and the guarantor is called upon to honour the guarantee.
What is an “Unlimited Personal Guarantee”?
It is a guarantee that has no upper limit or cap on the amount that the creditor can recover under the guarantee.
Upper limits on recovery under a guarantee can be imposed by stating them in the contract. These sorts of clauses are known as limitation clauses, or exclusion clauses.
“Is it a Guarantee” Guarantees vs Indemnities
There are key differences between a guarantee and an indemnity.
A person who indemnifies another party to a contract promises to compensate them if a particular state of affairs does not happen, and the contracting party suffers loss as a result. They are directly contractually required to compensate the other party for their loss, they are “primarily liable”.
So an indemnity is an express contractual obligation to compensate for any loss suffered, independent of what the liability of the party in breach might otherwise be to a third party to the contract.
Guarantees and Secondary Liability
In contracts of guarantee, the guarantor assumes secondary liability. The guarantor answers for obligations for which the debtor, who remains primarily liable.
This means a guarantor is liable for (say) the debt regardless of the position of the debtor, and whether demand has been made upon the original debtor or not.
A guarantor only becomes liable when the debtor has failed to perform its primary obligations; the liability arises when the rights against the original debtor have been exhausted.
Just because a party is named as a debtor, does not mean that they cannot be found to be a guarantor as well. It depends upon the intention of the debtors, and whether they intended one to be a guarantor for the other.
Differences between Guarantees and Indemnities
|Amount of liability||Same as the debtor, usually||Independent of any guarantee|
|Liability arises||When the debtor is in breach of contract||When indemnifier is in breach of contract|
|Given in writing?||Yes||Not necessarily|
|Signed by the guarantor||Yes||Not necessarily|
|Compensate the loss of another person||Yes||Yes|
|Parties to Contract||Creditor, principal debtor and guarantor||Indemnified and indemnifier|
|Past consideration – good consideration||No||No|
|Variation to guarantee agreed between creditor and debtor||Guarantee void under general law||Indemnity continues|
Challenging Personal Guarantees
Standards of behaviour by creditors can vary from guarantee to guarantee. Unbelievably, there is a solid legal authority that says that no one guarantee will be interpreted in the same way for different contracting parties.
They are drafted in the main party with a view to being challenged by a debtor in the fullness of time.
However, there is only so much a draftsperson of a guarantee can do when drafting the guarantee document.
Important factors, which affect the enforceability of guarantees, happen in the real world, not in the contract of the guarantee itself.
Enforceability of a guarantee can depend as much on the behaviour of the creditor as the terms of the contract.
Still, there is no question that the contract should be reviewed before it is signed. When the advice does not say what it should say, there may be a claim against the advisor.
Mounting business debt and Personal guarantee support
There are lots of businesses that go into liquidation due to the failure of business modal or liquidity crunch to expand its services, if the business struggle to pay company directors its dues then company directors may struggle to pay their own debt repayments. In other words, if a company is struggling financially the Directors can be left with debts they are personally liable for. It might be possible to resolve these problems with a Debt Management Plan (DMP).
Company Directors and DMP
Debt management for company directors
Directors of companies with financial problems often find themselves struggling with personal debt. Debts may have built up because they have borrowed money in their own name to support the business. They may also have personally guaranteed company debt.
One of the main issues facing the director is that they have little or no income. Given funds are not readily available to pay personal debts the answer may be to start a Debt Management Plan. This is an informal agreement with creditors to reduce personal debt repayments to an affordable level.
There are the following advantages and disadvantages for company directors to be under debt management plans. (Debt management for company directors)
A Debt Management Plan is designed to allow you to pay what you can realistically afford to your creditors each month. Generally, creditors will agree to accept reduced payments and freeze or reduce interest charges.
DMP can liaise and deal with all creditors and their correspondence. This includes dealing with phone calls, letters and takes away the stress of creditor interaction with company directors and shareholders.
If creditors freeze interest and charges (Highly likely on credit cards and store cards), a DMP can help you clear your debts in a reasonable period.
If you are struggling to meet your normal payments to creditors, a DMP allows you to pay an affordable monthly contribution, so you pay what you could afford each month after paying your priority household bills (Rent/Mortgage, Utility bills, Gas, Electric, Water, Phone and TV package, Car Insurance and travel, Food and groceries, council tax etc.
A DMP is flexible. You can terminate your plan at any time.
A DMP is an “informal solution” and should ideally provide for you to clear your debt in less than 10 years. If the plan looks like it could take more than 10 years, a DMP may not be appropriate unless you feel your circumstances are likely to change which will enable you to clear your debt in a 10-year period.
We at Acme Credit Consultants expect creditors to either stop further action to collect your debt or not to take such action. Our team members are attentive and will work hard to ensure creditors do accept your plan.
A DMP is an “informal debt solution” and creditors are very likely to freeze interest and charges. However, some creditors may agree to reduce interest charges rather than freeze them.
As a DMP is an informal arrangement, there are certain debts such as arrears of council tax, which cannot be included due to the risk of action against your assets. There are other solutions such as an IVA which can include arrears of priority bills but it depends on IVA terms acceptance by a majority of your creditors
A DMP could have a “negative impact” on your credit file. Creditors can issue default notices, which will remain on your credit file for 6 years. Your ability to obtain credit may be affected.
You may from time to time receive an” unwanted call” from a creditor especially if they are using a new debt recovery company. Politely tell them you are on a DMP and state your debt solution company name and your personal advisor. Your debt solution company will take care of the rest.
It cannot be a guarantee that creditors will not take legal action or that they will stop collection activity. Such action could result in a judgment and could potentially lead to further enforcement to recover the debt.
If you cancel your DMP, creditors could end payment arrangements previously agreed and charges could be re-applied to your debts.
There are other formal debt solutions (Bankruptcy, IVA, CVA or DRO) available to sort out your personal and company debt. Which can affect your personal/business finances and assets severely and must be consulted with a suitable debt advisor before deciding to take up one.
You can contact us on 0203 318 0990/ 0208 568 9687 for a free and no-obligation personal appointment to discuss your full case of director loans with Personal guarantees and if your business is unable to pay off business debt liability.