A guarantee is a contractual promise, whereby you (as a guarantor) agree to that you will fulfil the repayment (and other) obligations of a borrower if the borrower fails to do so.
Common examples where a company obtains a business loan and the company director personally guarantees the company’s performance of the obligations under the loan agreement. Similarly, directors may provide personal guarantees to suppliers in order to obtain credit accounts with key suppliers.
It is not uncommon for parents to guarantee home loans obtained by their children to assist their children purchase property.
How does a guarantee operate?
If a borrower defaults on their obligations under a contract, the lender or supplier can pursue the guarantor for payment.
Many credit contracts contain a term to the effect that, if a borrower defaults on their repayment obligations, the entire amount of the debt becomes repayable immediately (or within a much shorter timeframe than originally agreed). This means that a borrower’s default can expose a guarantor to significant liabilities within a potentially short time.
Before providing a guarantee you should:
- Be mindful that your will be liable to fulfil the obligations of another party if that party fails to do so.
- Obtain independent legal and financial advice.
- Consider the capacity of the borrow to meet the obligations that they are asking you to guarantee.
- Consider the commercial benefit, if any, you will obtain by reason of providing the guarantee.