The Mistake of a Business Owner Regarding Personal Guarantees
Hypothetical: Jill owns Jill’s Donuts, Inc. She has been in business for 5 successful years, and she wants to expand. She believes that the expansion of the business is necessary and wise because she figures doing so will increase significantly increase her revenues. Jill’s Donuts, Inc. is approved for an SBA loan, which requires Jill to sign a personal guarantee. In addition, when Jill goes to the landlord to request additional space, the landlord agrees to a new lease for the expanded space (with increased rent). The new lease with the expanded space is in Jill’s name as that is how she has always done it. Six months into the new space, it is clear to Jill that her decision financially is not going to work out. She is heartbroken that all of her hard work might be unraveled. She decides to seek the advice of a business attorney.
The business attorney explains to Jill the consequences of signing a personal guarantee. That is, Jill is personally liable for the SBA loan if Jill’s Donuts, Inc. does not pay back the loan because a personal guarantee makes the owner personally liable for debt that is also a business debt. So, instead of the SBA loan being solely a business debt, by signing the personal guarantee, Jill is dumbfounded to find out that the debt is both a business debt and her personal debt. When she signed the personal guarantee she just thought it was a formality. Not only did she not realize the significance of signing the personal guarantee, it never occurred to her that her business would not continue to grow. To Jill, it was simple. An expanded business simply means more revenue. However, with an expanded business there is also more costs. Bigger does not always mean better she now realizes.
Jill is stunned when the business attorney tells her that she is solely personally liable for the lease for her business. Jill does not understand how she can be personally liable for her business lease when she did not sign a personal guarantee for it. However, the “business lease” is actually in Jill’s individual name. As a result, the business has no liability for the lease, and all of the liability is solely with Jill individually. The business attorney explains that in order for the business to be liable, the lease must have been in the business name. Jill would only be individually liable if she had signed a personal guarantee for the lease that was in the name of her business. Jill regrets not seeking the advice of an attorney and having the attorney review the documents before she signed them. With hundreds of thousands of dollars in personal debt now on the line, Jill contemplates her limited options.
The material contained herein is for informational purposes only, and is not intended to create or constitute an attorney-client relationship between Spangler and de Stefano, PLLP and the reader. The information contained herein is not offered as legal advice and should not be construed as legal advice.