Business credit applications are a critical part of commerce. Not everyone has the capital to pay upfront for every purchase, so extending credit can help companies sell more to buyers who need a little time to make payments. But what happens when a buyer doesn’t have much credit history? Should sellers take the risk of extending credit to an unknown entity? Or should they move on, meaning they miss out on some sales?
In many cases, companies can solve this business finance dilemma via personal guarantees. By including personal guarantees within credit applications, or by adding personal guarantees as separate agreements, more companies may be able to obtain credit, while sellers can reduce their risk.
A personal guarantee makes a business owner personally responsible for credit obligations that the business doesn’t fulfill. These can be used when applying for a business credit card, a business loan, and also when companies extend vendor or trade credit.
In the context of trade credit, a personal guarantee essentially acts as a second line of defense for sellers. If a buyer does not pay according to the terms of the credit agreement, due to a business bankruptcy, for example, the personal guarantee can lead to an individual compensating the seller from the buyer’s personal assets.
Keep in mind, however, that personal guarantees distinctly differ from “Credit Terms and Conditions of Sale” clauses. A Credit Terms and Conditions of Sale clause allows sellers to look into a company’s credit history and makes the purchasing company financially responsible for meeting the terms of the credit agreement. That requires its own signature, and if a business owner also wants to include a personal guarantee, that would require another signature.
While the Credit Terms and Conditions of Sale and a personal guarantee are two different and distinct agreements, they often live in the same document — a completed and signed credit application.
Signing a personal guarantee can help facilitate business financing, though both parties should also understand the risks. A business owner who signs a personal guarantee takes on a personal obligation for business debt. That can remove some of the protections that might otherwise come with business structures like an LLC, where limited liability means business partners’ personal finances could be shielded even if the business can’t meet its obligations. Signing the personal guarantee, however, puts a small business owner personally on the hook.
Sellers also have to weigh the risk of a business owner not being able to personally meet business credit obligations.
While personal guarantees do carry some risks, these clauses can also provide several benefits for both buyers and sellers that might outweigh any concerns, depending on your situation and risk tolerance.
Some of the top benefits include:
While buyers and sellers should both be aware of the risks that personal guarantees can carry, many companies decide to go forward with them due to the many benefits they provide. As Dennis notes, however, some customers don’t realize the implications of personal guarantees, so it’s important for both parties to go into the agreement with a full understanding.
So, that can mean having an attorney review any personal guarantee language to make sure sellers can enforce the agreement if needed and that buyers have clarity on what they’re getting into.
In some cases, borrowers and lenders will prefer to make a personal guarantee a separate agreement. But you can also make personal guarantees part of a business credit application by adding a separate clause to your existing application.
An easier option might be to use business credit application software like Nectarine Credit that automatically includes the ability to add personal guarantees to business credit applications. The software includes templated language that clients can use when asking buyers to sign personal guarantees, or they can easily upload their own text into the platform.
That way, buyers can digitally review and sign credit applications, and you can create a secure, digital audit trail of any agreements.
Ready to see how Nectarine Credit can help you seamlessly add personal guarantees into your credit application process?