Personal Guarantees: The Risk That Could Cost You Your Home

Being asked to guarantee a loan for a family member, friend or your own business can seem like a simple formality. In reality, it is one of the most significant financial commitments you can make. If the borrower cannot meet their obligations, you may become personally responsible for repaying the debt. This could place your savings, investments and even your family home at risk. Before signing, it is essential to understand exactly what you are agreeing to.

What Does It Mean to Be a Guarantor?

A guarantor promises a lender that if the borrower fails to repay a loan or breaches the loan agreement, the guarantor will meet those obligations.

Guarantees are commonly required where the borrower lacks sufficient assets, income or credit strength to obtain finance independently. A common example is company directors personally guaranteeing a business loan. Although the company receives the funds, the directors may become personally liable if the company defaults.

Many loan documents are drafted as a Guarantee and Indemnity. The guarantee is your promise to answer for the borrower’s debt, while the indemnity is a separate obligation to compensate the lender for loss. Depending on its wording, an indemnity may give the lender broader rights than the guarantee itself.

How Much Could You Be Liable For?

Not all guarantees are the same.

Some are limited, meaning liability is capped at a specified amount, although interest, legal costs and enforcement expenses may still be payable on top of the specified amount.

Others are unlimited, making the guarantor responsible for the borrower’s entire indebtedness, including future advances, default interest and recovery costs.

You should also check whether the document is an “all monies” guarantee. Rather than securing only one loan, it may cover every amount the borrower owes the lender, both now and in the future. Many guarantors are surprised to discover their liability extends well beyond the original loan they intended to support.

Why a Security Agreement Matters

The risks increase significantly where the guarantee is supported by a security agreement.

A guarantee creates a personal obligation to pay. A security agreement gives the lender rights over property if the borrower defaults. This may include a mortgage over land, a general security agreement over business assets or a security interest registered on the Personal Property Securities Register.

If you offer your home as security, or grant security over all of your present and future acquired property, the lender may enforce that security if the loan is not repaid. In the worst-case scenario, guaranteeing someone else’s loan could result in you losing your family home.

Some security agreements are drafted very broadly and extend to present and future assets, including business equipment, trading stock, receivables, shares, vehicles and intellectual property.

Can Your Bank Accounts Be Affected?

Security agreements are not limited to physical assets. They may also cover bank accounts, receivables and other monetary rights.

Following a default, the lender or an appointed receiver may be entitled to collect debts, redirect income or otherwise deal with those funds, depending on the terms of the documents and applicable law. This can severely affect a business’s cash flow or an individual’s personal finances.

What Happens if the Borrower Defaults?

If the borrower defaults, the lender may demand payment directly from the guarantor while also enforcing any security that has been granted.

Where a general security agreement exists, the lender may appoint a receiver to take control of secured assets, collect debts, sell assets and apply the proceeds towards the outstanding debt. If the sale proceeds are insufficient, the guarantor may remain personally liable for the shortfall.

Before You Sign

A guarantee should never be treated as a routine administrative document. Before signing, ensure you understand:

• who is liable under the loan;
• what debts are covered by the guarantee;
• whether your liability is limited or unlimited;
• whether the guarantee covers one loan or all present and future obligations;
• what assets are subject to the security agreement; and
• what rights the lender has if the borrower defaults.

Obtaining independent legal advice before signing can help you understand the risks, identify unusually broad provisions and decide whether the guarantee is appropriate in your circumstances, or whether the risks outweigh the benefits.

A guarantee is far more than a formality. It can expose you to substantial personal liability and put valuable assets, including your family home, at risk. Understanding the documents before you sign may help you avoid serious financial consequences and decide whether the risks are worth accepting.

Have you been asked to guarantee a loan for a friend of family member and want to understand your commitment? The team at Solari & Stock can assist you with your questions and help you understand exactly what you are agreeing to.

To speak with one of our experienced Solicitors call us on 8525 2700, click on the Book Now button below or click here to request an appointment.

Article by Valentina Abouzeid
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