Should I Sign a Personal Guarantee for a Lease?
December 27, 2017 - Posted by: admin - In category:
Maybe. It very much depends on the facts and circumstances, as is often the case with these types of matters. First, let’s consider what a personal guaranty is and why it is used.
A personal guaranty (or guarantee) is a contract signed by an individual (the guarantor) whereby such person is agreeing to be responsible/liable for the obligations of another party (i.e., person or business entity). These are very common in the context of commercial leases and business financing. If the contracting party fails to perform, the guarantor (i.e., the person who signed the personal guaranty) can be called upon to perform in the place of the defaulting contract party. Sometimes the guarantor can even be required to perform prior to a default, but in practice, this does not happen often.
By the way, you will see references to both “guarantee” and “guaranty”. What is the difference? According to LawProse:
Guarantee, the broader and more common term, is both a verb and a noun. The narrower term, guaranty, today appears mostly in banking and other financial contexts; it seldom appears in nonlegal writing.
I have seen many uses of both spellings throughout my legal career. Practically, I don’t believe there is an appreciable difference and you will see both “guaranty” and “guarantee” used in legal documents on a regular basis.
Why would a lessor ask for a personal guaranty? The lessor wants extra security that the lease obligations will be honored, that the rent will get paid. For example, imagine that I set up a new LLC as my business entity and then seek to rent office space under a five-year lease, with my new LLC as the tenant/lessee and signatory on the lease. The owner of the building knows that my LLC is a new business entity and that if things don’t go well with my new business venture, I might just walk away from from the LLC and the lease. In that scenario, without any other assurances for the lessor, the lease payments will not be made once my business operations cease. Therefore, the landlord will want me to sign a personal guaranty to cover the rent payments and any other obligations under the lease. It will be much more difficult for me to walk away from the lease after I have signed a personal guaranty, as I would then personally liable for any outstanding lease obligations.
From the standpoint of a lessor of commercial real estate, requiring a personal guaranty makes sense and this is common practice. Even so, there are times when it may not be appropriate to have a personal guaranty. To take the extreme example, let’s imagine that Google is now the new lease tenant, seeking to rent office space from the lessor. We know that Google has PLENTY of cash, business credit history and otherwise has the means to pay any lease payments (no matter the amount). In that case, with a tenant like Google, Apple, Dell, Microsoft or some other large public company, it would not be appropriate for the lessor to require a personal guaranty as part of the lease. But what about something between those two extreme examples of my new LLC and Google?
At some point in the life-cycle of a business, the enterprise reaches a level of cash flow, credit history, assets and overall reputation in the business world that it no longer makes sense for owners of the said business to be required to sign personal a personal guaranty on behalf of the company. What is that point? Is it $5,000,0000 in annual revenue, $10,000,000, $20,000,000? It depends in many respects on the circumstances, including the size of the corporate obligations undertaken by the relevant lease vs. the assets and corporate credit of the company. For example, if my company has $2,000,000 in annual revenue, over the course of the past 10 years running, and I am seeking to rent two offices for total monthly rent of $800, with a twenty-four month lease term, then I would refuse to sign a personal guaranty and would expect that the lessor should be comfortable renting to my business in the absence of the same. But as lease payments increase and business assets and credit history decrease on our continuum, the justification, and reasonableness for a personal guaranty increases.
The considerations relevant to personal guarantees in the context of business loans are similar, but we will look at those in more details next time.