Personally Guaranteed An Insolvent Business?

• The first step is to obtain a copy of all of the company’s loan or lease agreements and review the terms to see if they include a personal guarantee. Even if there is no personal guarantee, sometimes the business owner has signed as a co-borrower, so it’s important to look for that, too.

If there is a personal guarantee, the terms will need to be reviewed closely. It’s possible that the guarantee has been limited to a certain portion of the debt or split between multiple individual backers, but most commonly each guarantor has provided a joint and several guarantee, meaning each guarantor is fully responsible for the entire debt.

It is often worth having a lawyer review the documentation to confirm whether the guarantee is legally binding, as sometimes there are errors in the documentation that invalidate the guarantee. For example, in Alberta, personal guarantors must obtain legal advice prior to making this commitment and sign an acknowledgement certificate with the lawyer, which should be attached to the loan document.

• Next, it’s important to determine what exposure the business owner has as a result of the guarantee. This involves confirming the balance owing and reviewing the financial situation of the primary borrower (the company) to determine whether it has defaulted on the loan agreement and the extent to which it could satisfy the debt on its own.

This may include a full review of the company’s financial position and discussion of options like re-financing, restructuring, or liquidation. However, in many cases, the business owner will have already undertaken this analysis and decided to close the business. Or, the lender may have already forced the company into receivership. In that case, the analysis will likely focus on determining how much of the debt can be satisfied by a liquidation of company assets in order to estimate the potential shortfall that the guarantor may be responsible for.

It's important to keep in mind that even if the company can pay some portion (or even all) of the debt over time as a going concern or in a liquidation event, the lender does not necessarily have to wait for this to occur. Once the company defaults on the loan agreement, the lender may be legally able to pursue the guarantor for payment instead or at the same time. It is often worth retaining a lawyer in this case, as it may be possible to negotiate a standstill agreement while the company’s ability to pay is determined. However, for the purpose of the remaining analysis, it is often prudent to assume that the guarantor may be responsible to satisfy the entire debt.

• Next, we analyze the individual guarantor’s personal financial situation to determine what options they have for satisfying the personal guarantee. This involves a full review of the individual’s assets, debts (including other personal debt), income and expenses, and family situation. This review may find that the individual is insolvent, in which case a discussion of various options will occur. Those options may include settlement negotiations with the company’s lender, a proposal to all creditors, or a bankruptcy.

The above discussion will also include a conversation about what may happen if the individual doesn’t pay off the debt or pursue any of the options reviewed. While a lawyer’s advice should be sought in this case, typically we would be able to give some general information about what the individual might expect the lender to do to try to collect on the debt. Depending on the individual’s financial situation, this may include garnishing the individual’s wages, seizing assets, or registering a writ against their home.

It's important that an individual guarantor understands the legal ramifications of providing a guarantee before they do so. However, that doesn’t always happen. Regardless, if the business becomes insolvent (possibly many years later), it needs revisiting. Getting proper advice from a qualified professional is critical.

Charla Smith & Company is a Calgary-based Licensed Insolvency Trustee, serving the southern Alberta region. We regularly help business owners review their options for dealing with personal liability stemming from business debt. If you'd like some advice, please reach out to us.

Disclaimer: This publication provides general information and should be seen as broad guidance only. The information contained herein cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon this information without obtaining specific professional advice relating to your particular circumstances. Charla Smith & Company Ltd. does not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information in this publication or for any decision based on it.