Whether you’re a solopreneur launching a start-up or a small-business owner seeking to grow your company, you might need extra funding. And if you’re looking for business loan, you might need a personal guarantee. Does a personal guarantee impact your credit and your own financial situation? Find out below.
What Does a Personal Guarantee Mean?
A personal guarantee means you personally promise that a debt will be paid back. If you sign a personal guarantee on a business loan, you are responsible for paying back the money if the business is unable to do so. The lender can try to collect the money from you, including by suing you.
Why Would a Lender Require a Personal Guarantee?
Personal guarantees are all about reducing risk for the lender. If you sign one, it has two potential entities to chase to collect the loan. First, the lender will attempt to collect from the business itself. If the business doesn’t make payments as agreed or defaults on the loan, the lender will try to collect from you personally.
The benefits to the lender are pretty big. They’re much more likely to eventually recoup their investment, even if your business fails. That means many, though not all, small-business loan options do come with a personal guarantee requirement.
Some factors that can increase the chance that a lender might ask for a personal guarantee include:
- You’re a solopreneur or very small business. In this case, the business’s reputation and credit is likely very tied to your own.
- Your business is new and doesn’t yet have a solid credit history of its own. The lender can’t decide if the business is a good risk, but it can decide if you’re a good risk.
- Your business doesn’t have enough income or collateral. If you’re trying to borrow money to grow your business, it might not make enough money for the lender to seriously consider shelling out funds. But if you’re confident in the growth plan and know money will come in once you implement it, you might put up your own collateral to secure the loan.
How Does a Personal Guarantee Affect Your Credit Score?
Whether or not a personal guarantee affects your credit score depends on the situation. First, business loans may or may not be reported on your credit history.
If you sign as a personal guarantor for a traditional business loan, the loan itself will be reported on your business’s credit report. Timely payments on that loan will help build your business’s credit history. Missing a payment could cause the business credit score to take a hit.
In these cases, your personal credit isn’t likely to be impacted. However, if the business defaults on the loan and the lender comes to you for payment, your credit history could start to take a hit. If you immediately make a payment to catch up the loan, you may not see any impact to your personal credit. If, however, you don’t pay and the account goes to collections, that’s likely to show up on both your personal and business credit histories.
Other types of business funding, including some small-business lines of credit and credit cards, do get reported on your personal credit. This can be a good thing if payments are made timely and as agreed, as you could get a bump on that for your own credit score. In the meantime, however, it does potentially impact your credit utilization ratio and your debt-to-income ratio.
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Should You Sign a Personal Guarantee for a Business Loan?
This is a personal decision that depends on a variety of factors, including your confidence in the business. But here are a few questions to ask yourself before you take this action, which can have long-lasting consequences on your own personal finances.
- Do you really need to guarantee the loan? Your business doesn’t need perfect credit to get a loan, and there are many financing options available. Make sure you explore all your resources and understand what they’ll cost you and your business before you decide on one.
- Are you confident the business will be able to handle the debt? If the business is stable and you know it will be able to cover the debt, you have less risk in signing a personal guarantee.
- Are you in control of how the business handles finances? If it’s your business and you’re the one who signs the checks, you can make sure the bills are paid on time. If someone else is handling the accounting, you may want to be wary about signing a personal guarantee.
- Can you afford to take the hit if the business fails? There’s no such thing as a sure deal, and you can’t assume the business will 100% make it. That means you need to be able to make good on the debt yourself in a worst-case scenario without giving up your personal financial stability.
The Bottom Line
Ready to get that business loan? If you’ve thought it out—and analyzed your personal financial situation—start shopping for options today. If you’re wondering where to start, check out the business loans at Credit.com. You can compare rates and requirements, so you can find the right business loan for your needs.
DISCLAIMER. The information provided in this article does not, and is not intended to be, legal, financial or credit advice; instead, it is for general informational purposes only.