Personal Guarantees: 5 things you should know

Personal Guarantees: 5 things you should know

A personal guarantee is a promise made by the person giving the guarantee that they will meet the obligations of a person or company pursuant to an agreement between that person/company and another party. There are three parties to a guarantee: –

• Party A and Party B – the two parties to the agreement; and,
• The Guarantor(s) (the person giving the guarantee), who promises to Party B that it will fulfil Party A’s obligations under the agreement if Party B does not fulfil them.

While personal guarantees are quite common in commercial supply/credit agreements, they are often misunderstood. Here are five things you should know about guarantees.

Do you know how to recognise a personal guarantee?

Litigation concerning guarantees often reveals that the guarantor did not realise they were giving a personal guarantee at the time the agreement was signed. This often occurs where Party A is a company, of which the guarantor is also a director. Commercial contracts will often provide that the signing party is signing in his/her capacity as a director of Party A and in his /her personal capacity.

The fact that only one signature is required does not mean that you are not giving a personal guarantee.

If you are not aware at the time of signing that you are giving a personal guarantee, the guarantee may be invalid. However, signing documents when you are unsure of their effect is obviously unwise and it pays to read the fine print of all agreements you enter into. It is often very difficult to establish that a party was unaware of what was being signed.

Use of the words “personal capacity”, “promise” or (more obviously) “guarantee” may indicate that you are signing a personal guarantee.

Do you know what you are promising to do?

Even if you are aware that you are signing a guarantee, you should ensure you understand exactly what it is you are promising to do. You may be guaranteeing all of the obligations of Party A pursuant to the agreement, so you should be clear on what those obligations are (and Party A’s capacity to fulfil those obligations). Alternatively, the guarantee may be a limited guarantee only. If you are not provided with one, you should request a copy of the agreement between Party A and Party B.

If Party A defaults on their obligations under the agreement, Party B can pursue you personally for any amounts owed to it by Party A to the extent of your obligations under the guarantee. Party B may seek judgment in Court against you pursuant to the guarantee. If they obtain judgment against you, they will be entitled to enforce that judgment in the usual ways. This may include garnishing your wages from your employer, or seizing and selling any unencumbered assets you own.

Many guarantees effectively place the guarantor in the place of Party A under the head agreement.

Are you giving a charge over your property?

Many guarantees also contain “charging” clauses, which allow Party B to take a charge over any real estate you may own. By giving a charge over your real estate you are giving an interest in the land owned by you to Party B as security for the monies owed by Party A under the agreement.

A valid charging clause will entitle Party B to lodge a caveat on any charged real estate owned by you.

You should ensure you can recognise a charging clause. An example of a charging clause used by Bunnings Warehouse in its credit applications is below: –

To secure repayment of all Monies the Applicant charges as beneficial owner and as trustee of any trust in favour of Bunnings all the Applicant’s right, title and interest in land held now or in the future wherever located. The Applicant acknowledges that Bunnings may register a caveat over the Applicant’s land in respect of the charge. The Applicant agrees that immediately upon request by Bunnings, the Applicant will execute and give to Bunnings a mortgage in registrable form in favour of Bunnings over the Applicant’s land and due to this agreement to give a mortgage in favour of Bunnings the Applicant acknowledges that Bunnings is an equitable mortgagee in respect of the Applicant’s land.

However, as with the guarantee itself, a charging clause may be invalid if you are not aware you are giving the charge at the time of signing. In Iconic v. Lazzara [2007] NWSC 1103, Young CJ observed that:

“If the facts show that there is a pro forma document and a person of limited commercial experience has signed it without evidence being proffered by the lender that the clause has been properly explained to the person who is said to have given the charge by or on behalf of the person providing financial benefit, the Court may very well be concluded that the former person never intended to give a charge notwithstanding the words used in the document.”

Again, your interests are much better protected by being aware of what you are signing than by later seeking to avoid the guarantee or charge – and potentially having to endure the considerable stress and expense of litigation. Consequently, prior to signing a guarantee it is important that you obtain legal advice as to your obligations under the guarantee, if you are unclear as to what those obligations are.

Do you know how long the guarantee will last and how to cancel the guarantee?

While each guarantee is different, personal guarantees are generally continuing guarantees and have no time limit. You are simply guaranteeing the obligations of Party A and you can be held liable for any present, future and sometimes past (unfulfilled) obligations of Party A pursuant to the agreement.

Ceasing to act as a director of a company does not, of itself, terminate a guarantee. You will need to negotiate with Party B to have the guarantee terminated. Party B will often request a replacement guarantee (from, say, an incoming director).

If a company is placed into external administration (such as liquidation), this will not terminate a guarantee. In fact, the failure of a company is often the catalyst for a guarantee to be called upon.

Does the National Credit Code apply?

The National Credit Code provides protection for consumers by imposing additional requirements that a guarantee must meet where the agreement between Party A and Party B is a credit contract regulated by the Code.

The Code applies where: –

1. Party A is a natural person (i.e. an individual, a ‘flesh and blood’ human, not a corporate entity) or a strata corporation; and
2. the credit is provided, or intended to be provided, wholly or predominantly: –
   1. for personal, domestic or household purposes; or
   2. to purchase, renovate or improve residential property for investment purposes; or
   3. to refinance credit that has been provided wholly or predominantly to purchase, renovate or improve residential property for investment purposes; and
3. a charge is or may be made for providing the credit; and
4. the credit provider provides the credit while a business of providing credit, or as part of or incidental to any other business carried on by the credit provider.

A more detailed explanation of the National Credit Code, and the protections it offers, will follow in the next article.

How we can help with personal guarantees

The five points above are just some of the points you should consider before signing a guarantee.  Should you be unsure as to what you are signing, we recommend that you seek legal advice.

We are very familiar with personal guarantees and can provide you with advice and assistance in relation to any commercial contracts you may be considering on a fixed-fee basis.