Should you ever give a personal guarantee when you're trying to secure a loan?
That's a question a lot of entrepreneurs ponder and dread. After all, who wants to pledge personal assets, such as your home, as collateral? It's safe to say that not many people do, but sometimes you have to bite the bullet.
All lenders are wary of companies that don't have assets or a track record of borrowing. Can you blame them? Lenders want you to have some skin in the game.
That means if your business has $20 million in revenue or less, you're not going to get a loan -- or at least a loan at any kind of palatable interest rate -- without a personal guarantee.
What is a personal guarantee? A personal guarantee is an unsecured, documented promise from a business owner and or business executive to a lender guaranteeing payment on an equipment lease or loan in the event the business does not fulfill their obligation. Since it is unsecured, a personal guarantee is not tied to a specific asset. However, in the event of non-payment a lender can go after the guarantor's personal assets.
What to Do When Talking to a Lender
If you believe in your company and know you have a good product or service, it should go a long way in soothing any concerns you might have about a personal guarantee. Plus, you had to have confidence in the first place if you thought a loan was the way to make your company grow further or faster.
Even if you're the main partner in your company, you may consider having other stakeholders to contribute. Obviously, the larger the share, the larger the amount of skin in the game.
Make sure to bring as much information with you when you meet with a lender. That includes financial statements, future revenue projections and, ideally, a good personal credit rating.
Remember, too, that you can negotiate with your lender -- you don't necessarily have to accept their initial terms. Perhaps you can keep family assets off the table or only have to guarantee part of the loan. Having a financial adviser or legal counsel at the negotiating table can help make sure you're not steamrolled.
If possible, negotiate in provisions that reduce the guarantees over time as you make repayments or show revenue growth.
One thing you should not do: Include your spouse as a guarantor. This adds some protection as personal assets under the spouse's name won't be included in the personal guarantee.
While the thought of a personal guarantee probably isn't as bad as it seems, let's say you're dead-set against making one. What options do you have? Remember, you almost always have options.
One possibility is to simply forgo the infusion of cash. Sure, you'll probably grow at a slower rate and might miss out on some opportunities, but if it's more important for you to be able to sleep at night, so be it.
The other main possibility is to entertain the idea of taking on an equity partner. While the idea of receiving capital without taking out a loan seems appealing, there can be pitfalls.
For one thing, you're giving up a level of control in your company. If your partner sees eye to eye with you, there's no problem. But what happens if you disagree? That might paralyze your decision making and, in extreme cases, you might find yourself booted from your own company, depending upon how much equity you relinquish. Equity should be a last resort.