Are personal guarantees the key to business as usual?
The severe disruption caused by the Coronavirus is leading otherwise healthy companies quickly into insolvency.
Accordingly, greater care will need to be taken and due diligence performed on all companies you do and intend to do business with, to ensure you will ultimately get paid for the products or services you provide.
Personal guarantees may therefore become more mainstream and, indeed, insisted upon in even the most mundane transaction during these uncertain times.
What is a Personal Guarantee?
In law, a company is a separate legal entity. Accordingly, if your contract is with the company and the company becomes insolvent, you may only (in the absence of fraud) be able to sue the company to recover the debt. If the company has no assets or, if those assets are already spoken for by other creditors (owing to a charge or a debenture – see below), you are unlikely to get paid or you risk waiting a long time (sometimes years) whilst the insolvency process runs its course.
A personal guarantee is provided by a third party, usually a director, that they will pay the debt in the event the company is unable to.
Accordingly, if Court proceedings are necessary to recover the debt, the claim can also be brought against the third party / director and enforced against their personal assets.
How can you best ensure a personal guarantee is enforceable?
Personal guarantees are contracts and therefore require the basic elements of a contract to be enforceable:
- Intention to create legal relations; and
Questions about whether these elements are in place when an exchange of emails or a simple letter is relied upon to support the existence of a personal guarantee, can get complicated and require expert (and costly) legal advice. Best practice is to ensure that the guarantee is professionally drafted by a lawyer and properly signed by both sides.
Other options are also available to potentially speed up contractual payments and / or to ensure that you are not left high and dry during these uncertain times:
- Factoring – selling invoices to specialist companies at a discount who may then seek to enforce the invoice themselves;
- Letters of Credit – a letter from a bank guaranteeing that a buyer’s payment to a seller will be received on time and for the correct amount. In the event the buyer fails to pay, the bank will be required to pay the full or remaining amount;
- Debentures – a common form of long-term loan to a company which is usually secured against the company’s assets and registered at companies house (and so publicly searchable).
- Charges – a form of security provided in favour of a lender over all or some of the Company’s assets.
This article is provided for general information only and is not intended to be nor should it be relied upon as legal advice in relation to any particular matter. If you would like more information on any points raised above please contact Dominic Holden at email@example.com.