Six Potential Ways out of a Personal Guarantee

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Often when a bank is prepared to loan money to the borrower, they will demand that a creditworthy guarantor (usually one or more company directors) signs a personal guarantee which then entitles the bank to recover a fixed sum of money from the guarantor should the borrower fail to repay the loan.

Unfortunately over the last few years many companies, particularly those involved in the commercial property market, have fallen victim to the credit crunch as their cash flow has been squeezed by an increase in bad debt and decrease in available credit. A large number of these companies’ debts were guaranteed by unfortunate directors and when the companies went under then the bank turned to the directors for recovery of the money they had guaranteed.

Generally speaking, when the personal guarantee is “called in” by the bank, the director does not have funds available to settle the amount the bank is seeking. The consequences of the personal guarantee being enforced by the bank are often dreadful with not only the director’s house being sold but even worse, the director being formally declared bankrupt.

However all is not lost if a personal guarantee is called up, there may be a way out of it! We have summarised our six potential escape routes for personal guarantees governed by Scots law below:

1. Misrepresentation

Before signing the bank’s personal guarantee, the bank said or wrote something false which you relied upon and that induced you to sign the guarantee. In other words, but for the bank’s false assurance about something, you would not have signed the guarantee.

2. Economic Duress

If the bank put extreme pressure on you to sign the personal guarantee then a judge may decide that by the bank’s actions, you did not consent (despite signing the guarantee) and the personal guarantee is void and cannot be enforced against you. If you were left with no practical choice but to submit to the economic pressure from the bank then this remedy may be of assistance to you.

3. Duty of Good Faith

If the bank is aware that you signed the personal guarantee thinking that, for example, a certain thing will happen or that the guarantee would not be enforced in certain circumstances but this is not in fact the case and the bank does not tell you that you are mistaken then the duty to act in good faith may render the personal guarantee unenforceable.

The duty is quite broad and may cover any acts of bad faith by a bank. For example, if your bank is the main instigator of the collapse of the company or person that borrowed the money, then by acting in an unfair manner, the personal guarantee may be held to be unenforceable by a court.

4. Promise

If the bank used clear words either in writing or verbally that it will unequivocally not enforce the personal guarantee for a certain period of time or until something is done then a legally binding promise may have been created which could be relied upon to defend enforcement proceedings brought by the bank.

A unique feature of the law of promise in Scotland in contrast to England is that a promise is legally binding even when the person making the promise receives nothing in return from the other person. So while in England a bare promise from a bank not to enforce the personal guarantee would not be binding, the promise would be binding if made north of the border.

5. Error

If the personal guarantee was signed on terms which, by mistake, do not reflect the agreement between you and the bank then it can be argued that there is no agreement due to error. However it seems that the current law in Scotland is that for the personal guarantee to be rendered void and unenforceable there must not only be error but also some other factor such as the bank acting in bad faith.

6. Prescription

The personal guarantee expires 5 years from becoming enforceable at which time it can no longer be enforced by the bank. This is not 5 years from signing the personal guarantee but from when the bank calls in the debt. The exact time when the guarantee became enforceable is open to dispute.

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If you are concerned about a personal guarantee you have given a bank or other creditor then please do not hesitate to contact us to see if we can help you. We have identified various legal remedies which may be available to you depending on your circumstances.

We understand how stressful it is when a personal guarantee is called in. We have experienced and talented lawyers with expertise in this area who can calmly and confidently guide you through the legal process to achieve the best outcome possible in the circumstances.

Our track record speaks for itself; we have not only helped clients negotiate and secure significant discounts on their personal guarantee liabilities but we have also been able to prevent the bank from enforcing the guarantee with the disastrous consequences that may follow such as the forced sale of the director’s home and bankruptcy.

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