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Signing a guarantee as a Company Director – What are the risks?

04 Apr 2018

Topics

  • Business Law
  • Company Director
sign document

It is common as a business expands for a company to borrow funds for technology upgrades, enter into a lease for property and apply for financing for equipment. In those instances, company directors are asked to sign a guarantee. Many directors have signed a number of guarantees before and so this step is often considered ‘routine’.

If you are considering ‘going guarantor’ as a director of a company, be aware that there are risks for you. In part 2 of this series, Caitlin Meers, Lawyer with Snedden Hall & Gallop, discusses what can happen when you sign a guarantee as a company director and the importance of seeking advice on financial documents.

In part 1, Caitlin explained what can happen when you sign a guarantee on your adult child’s home purchase.

There is increasing pressure on lenders to ensure that individual and commercial borrowers are fully informed about their rights and obligations under loan agreements. In addition, lenders are increasingly requiring that loans granted by them are guaranteed to prevent default. A guarantee provides a ‘safety net’ for lenders, and attempts to reduce their liability when lending.

Whilst the requirement for a guarantee from a director of a company is common in financial transactions, directors must ensure that they are fully aware of their rights and more importantly, obligations, under a guarantee.

In the case of companies, directors are personally undertaking that if the company (as the borrower) fails to meet its obligations, the director guarantees that he or she will personally step in to prevent or make good the breaches. This has significant additional risks as the director’s personal assets can be at risk.

The loan

Let’s look at the scenario of a company borrowing money for capital works, in this instance, for construction of new premises. In this circumstance, a lender will generally take a first registered mortgage over the premises and a guarantee from the borrower as well as its directors. Once the lender has made a loan offer to the company, the lender will then require that loan documentation be executed.

Because the company is the lender, the company will be required to have at least two of its directors execute the loan documents. The documents will also have a section where the guarantor will be required to execute the documents in their personal capacity.

Guarantee terms

Key terms of guarantees and indemnities are those relating to the default and release from liability. Terms vary from lender to lender but guarantors should be aware that any default from the borrowing company will trigger a default and in turn, could trigger the exercise of the guarantee by the lender.

In addition, a guarantor’s obligations are not extinguished if that guarantor ceases to be a director of the borrowing company. Guarantors should be careful to ensure that they understand what liabilities will remain if they resign as a director and to seek to have those liabilities removed as soon as possible.

The risks

The main risk for directors in giving a guarantee is that if at any stage the borrowing company defaults, the lender may require that the guarantor commence repaying the loan. If neither the company nor the guarantor is in a position to satisfactorily continue repayments on the loan, the lender may come after the assets of the guarantor.

These assets include the guarantor’s personal assets, for example, the family home and vehicles. This is obviously a significant and real risk and something that guarantors must carefully consider when agreeing to be a guarantor.

The difficulty for company directors is that lenders are unlikely to finalise any loan application or disperse any funds until such time as a guarantee is entered into. It is for this reason that it is important that guarantors seek financial advice before signing any documentation.

In addition, where the guarantee includes an indemnity, the Lender does not have to wait for a breach by the borrowing company as the indemnity becomes a separate contract between the lender and the director.

Getting independent legal advice

Many directors are advised by the lender that they only need to get a lawyer to witness their signature on the lender’s documentation. In the majority of cases, the documents actually require that the guarantor seek independent legal advice before the lender will accept the documents for processing.

In order to provide that advice, a lawyer is required to carefully consider the documents, then meet with you to ensure that you understand your rights and obligations under the guarantee. Your lawyer will advise you whether you are signing a secured or unsecured loan, whether there is the option to guarantee a portion of the loan, whether the transaction includes an indemnity and whether other costs can be claimed by the lender including interest, legal advice, etc.

With full understanding, the documents can then be executed.

How can Snedden Hall & Gallop help you?

The team at Snedden Hall & Gallop Lawyers can assist you if you are considering going guarantor as a director of a company by providing you with advice on loan agreements and guarantor documents, including the provision of a certificate of independent legal advice. All lenders prepare documents differently and as such, our advice will be tailored to your specific circumstances and the documents prepared by the relevant lender. We assist a wide range of clients including company directors, investors, individuals and families. Please contact us by email or by phone on (02) 6285 8000 to speak to a member of our experienced business team.


Further reading

Here is our blog post on going guarantor of your adult child’s home purchase – and what it could mean for you personally.