A number of issues need to be considered by a lender who is advancing funding supported by a personal guarantee, such as issues with capacity, undue influence, and consumer credit legislation, together with the Standards of Lending Practice for business customers (‘the Business Standards’).
The Business Standards are issued by the Lending Standards Board (the LSB), the primary self-regulating body for the banking and lending industry. The standards are voluntary benchmarks rather than legal obligations.
Following a review of the Standards for Business Customers, which took place via a public consultation in June 2023 (the Public Consultation), the LSB has strengthened provisions on personal guarantees within the Business Standards.
The changes have been made to help ensure lenders are clear with guarantors about what they are signing up to, and to help avoid situations where a guarantor is surprised to find out about the extent of their personal liability.
What is a personal guarantee, and when are they used?
A personal guarantee is an agreement to pay money owed to a lender from personal assets and is an established feature of the commercial lending market. It could be used to secure a business loan, for a mortgage or a lease of property, or for the hire purchase of an asset.
Not all businesses have their own assets they can provide as security, or they simply might not wish to offer a business asset as security. If there were no option to use personal guarantees as an alternative form of collateral for business lending, the availability of finance for SMEs might decrease, or the cost of borrowing might increase.
What was the standard approach to using personal guarantees in the existing Business Standards?
The LSB’s Business Standards set out protections for SMEs across the lending process.
In respect of personal guarantees, the LSB’s registered firms have long been required to ensure that:
- Customers are informed if any security, such as guarantees, is required to support liabilities and why;
- The amount of security is appropriate for the amount borrowed;
- Individuals are made aware, if providing a guarantee, of their obligations under the agreement and that they have the option to seek legal advice should they wish;
- Unlimited guarantees are not accepted unless to support a customer’s liabilities under a merchant agreement;
- Where an individual provides a guarantee, they are able to request information regarding their current level of liability at any point, as long as they provide their permission and there is no breach of confidentiality obligations.
Firms that are not registered with the Business Standards have not been required to adhere to these provisions and may take their own approach to personal guarantees.
Why are changes being made?
Following their review of the Business Standards, LSB confirmed that, overall, they were providing the appropriate level of protections. However, personal guarantees were identified as an area where there was scope to strengthen the standards and accompanying guidance.
LSB found isolated instances where registered firms’ processes for reviewing personal guarantees could be working more effectively to ensure that the information that they hold remains current and, where lending is repaid or where there are changes at director level, that these changes are taken into account.
The need to develop the Business Standards was reinforced by the Federation of Small Businesses (the ‘FSB’) filing of a “super-complaint” to the FCA in December 2023, claiming that lenders demanding personal guarantees as security for small and medium-sized enterprises may be causing harm to those businesses and individuals. The demanding of personal guarantees was suggested as a cause for various issues, such as deterring applicants from seeking loans due to the potential for personal liability, forcing them to take out costly insurance and pushing them towards an overly risk-averse approach to running their businesses.
The aim of the super-complaint was for the FCA to consider extending its regulatory scope and to create specific rules to protect the interests of small business owners and guarantors, as most lending activity involving personal guarantees currently falls outside of the FCA’s regulatory powers.
What are the changes being made to the Business Standards, and how will this affect lending practices?
LSB have explained that the changes that have been made to the Business Standards and guidance will help ensure lenders are clear with guarantors about what they are signing up to and help avoid situations where a guarantor is surprised to find out they are personally liable for lending to a business. The existing protections and guidance are being updated, and a new requirement is being introduced for lenders.
The key changes include:
- A new requirement for lenders to provide guarantors with annual reminders that a personal guarantee remains in place. This will ensure lenders maintain up-to-date records on who is liable under a guarantee and will help guarantors keep track of any liabilities. These reminders will serve as prompts for guarantors to speak to a lender if they are no longer associated with a business, or if they believe the lending is no longer outstanding.
- Updates to the requirements for registered firms on advising potential guarantors of the need to seek independent legal advice about whether becoming a guarantor is the right choice for them.
- Enhanced guidance for lenders on providing information to a guarantor about how the personal guarantee will function and the obligations under it. The amendments to the guidance are designed to enhance the transparency of information provided at the pre-sale stage; reflect the importance of providing clear information to guarantors so they understand the commitment they are making; ensure that potential guarantors are fully aware that they can seek legal advice and that they are encouraged to do so; and reflect that firms should have clear and consistent internal policies on the use of personal guarantees that take into consideration any available internal data and management information.
LSB confirmed that, in making the changes to the Business Standards, they have sought to add protections for SMEs and guarantors, while avoiding adding friction to the lending process that could leave SMEs facing worse outcomes where they are unable access crucial funding.
Overall
The protection of personal guarantors is a vital consideration in commercial lending. It was noted in the FSB’s complaint to LSB that excessive demands for personal guarantees from banks can leave business owners more likely to abandon business and growth plans. With greater emphasis on this area in LSB’s updated Business Standards, it may assist borrowing by increasing the protections offered to individuals and their confidence in providing this security.
Key Dates
- The updates to existing provisions in the Business Standards and accompanying guidance were applied from 12 September 2024.
- The new requirements for annual reminders regarding guarantees are to be applied from 8 September 2025.
This update is for general purpose and guidance only and does not constitute legal advice. Specific legal advice should be taken before acting on any of the topics covered. No part of this update may be used, reproduced, stored or transmitted in any form, or by any means without the prior permission of Brecher LLP.
