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Archive for the 'personal guarantee' Category

What Does a Personal Guarantee Mean?

May 26th, 2008

By The XBanker

Sometimes when you are close to a subject it’s easy to forget that what is obvious to you may not be so obvious to someone outside the industry.

Case in point: personal guarantees.

For most people the meaning of the term “personal guarantee” is pretty obvious – you agree to personally be responsible for the repayment of the loan. It is usually used in a business sense: a business owner who signs a personal guarantee for a business loan is agreeing to be personally responsible for the loan if the business does not repay it. The term is not usually used in the context of personal loans because when you sign the note for the loan you are implicitly providing your personal guarantee. But it’s there.

We were pretty surprised and confused, then, when Entrepreneur recently published an article that muddied the waters. In “Nothing Personal: How can you protect yourself and your assets from risk when securing a business loan?” author Rosalind Resnick replied to a reader who was asking about how to find non-recourse loans that do not require the borrower’s personal guarantee.

The first part of her answer was fine, although I may have started out by explaining the difference between non-recourse loans and personal guarantees to make sure the reader understood what those terms mean. (A non-recourse loan is typically a secured loan in which the collateral can be repossessed, but the borrower is not personally liable if he or she defaults.)

However the second part of the article was just, well, wrong. There, the author described Prosper as an example of a service that facilitates loans that “don’t require personal guarantees.” Huh? Take a look at the sample promissory note provided on the Prosper website. A borrower is most certainly agreeing to guarantee repayment personally. (You wouldn’t get too many lenders if the loans didn’t carry a personal guarantee.) And Prosper reports all loans on borrower’s personal credit reports (not just loans with late payments as the article implies). How could they report to the loans on the borrower’s personal credit if the borrower wasn’t personally guaranteeing the loan?

Here’s where it gets bizarre.

My colleague Luke Adams, who has been both a Prosper borrower and lender, pointed out the error to Entrepreneur magazine, which then contacted Prosper. In an email exchange between the editor and Prosper, the Prosper representative told Entrepreneur that the loan did not require a personal guarantee because no collateral was involved.

Again, terms that seem obvious are getting mixed up here. Whether a loan is secured (collateral) versus unsecured (no collateral) has nothing to do with a personal guarantee. While I couldn’t find a formal definition of personal guarantee on the SBA website (I guess they assume everyone knows what it means, too), I did find this reference which clearly distinguishes between personal guarantees and collateral as separate and distinct loan terms.

Don’t get me wrong. I love reading Entrepreneur magazine and I won’t cancel my subscription over this. I also think Prosper is one of the best innovations in lending I’ve seen in my 20-year career in consumer credit education. (Though my fingers are crossed that they will develop a true business loan option.)

But in the meantime, if you are looking for a business loan with no personal guarantee, make sure you’re getting the right advice.

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Boo! Ghost Guarantees

February 11th, 2008

By The XBanker

Entrepreneurs routinely leverage their personal assets and credit cards to fund and grow their businesses, only to leave their personal credit circling the bowl as their lending options dwindle away. FOOLS!

Alas, personal credit scores are heavily-weighted against revolving debt (credit cards) and inquiries—two common bi-products of being an entrepreneur. If you’re not careful, it’s easy to over-leverage your personal credit and push your revolving debt ratios (current debt divided by available credit) beyond the acceptable limit.

How far is too far? At 40%, expect bank doors to start slamming shut. What can you do?

Separate yourself from your business

Unsecured business lines of credit are the entrepreneur’s best friend. Why? Because unlike a personal credit card or a home equity loan, most offer something called a ghost guarantee.

Most banks, and certainly all of the banks I work with, permit a ghost guarantee for their unsecured business lines of credit. What this means is that while you are personally guaranteeing the line of credit, it does not show up on our personal credit report! The only time a ghost guarantee will impact your personal credit is if you go into default—in which case you deserve to be outed.

Used wisely, an unsecured line of credit can enable you to keep your personal credit personal, and put your business debt where it belongs—on your business’ credit.

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