Why Do Lenders Need Personal Guarantees for SBA Loans?

Ezra Cabrera

September 19, 2019
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There’s a clear distinction between your personal and business assets. Business owners know that it’s wise to keep personal and business finances separate. That’s why they are often surprised when lenders ask for a personal guarantee when applying for SBA loans.

Business loans help provide working capital for business operations. However, not many people know their personal finances could be at stake. Most lenders require a personal guarantee, especially if the company doesn’t have enough assets or history to qualify for a loan. A personal guarantee lowers the lender’s risk; so in case of default, they have the right to pursue your assets.

SBA Business Loans – How It Works

If you own a small business, you’ve most likely come across SBA loans. The Small Business Administration is a government agency that supports small businesses in the United States. They know how hard it is for small business owners to qualify for traditional loans. It was for this reason that they specifically created SBA loans to help small business owners secure bank-rate loans.

SBA loans are the most popular financing option for small business owners. This is because SBA loans have lower interest rates and longer repayment terms compared to traditional loans. The downside of SBA loans is that the application process can be tedious and complicated, but the affordability of the loan makes it worth it.

Contrary to what others think, the Small Business Administration is not the one lending you the money. The role of the SBA is to guarantee a percentage of the loan on behalf of the business owner. Therefore, you still have to apply for an SBA loan through SBA-approved lenders.

Related: 6 Tips You Need to Know Before Applying for SBA Loans

The SBA can guarantee the loan for up to 85%. If the borrower is unable to repay, the SBA will repay the 85% of the loan. This setup lowers the risk for lenders because they have the assurance that the government will pay them back in case of a default.

It’s not easy to qualify for an SBA loan even if it’s backed by the government. Applicants should demonstrate a strong financial history, good credit standing, and you need to pledge a personal guarantee.

Why Lenders Need a Personal Guarantee for SBA Loans

You may wonder why SBA loans still need a personal guarantee if the government is already backing up the loan. While it’s true that the government’s guarantee lessens the risk, however, the SBA only covers a part of the loan.

For SBA 7(a) loans – the most popular type of loan, the government only guarantees about 50% to 85%. The percentage varies depending on the type of loan, the lender you’re working with, and your qualifications.

For the remaining percentage of the loan, lenders would also want a guarantee. Lenders would most likely ask the company to pledge its business assets, but if their value is not enough to cover the risk, personal assets may be included as well.

A financial stake from business owners is a requirement for lenders. They want business owners to understand that defaulting on the loan is not an option if the business fails. On the other hand, the government wants to know that the lender has already collected a huge chunk of the loan before lenders apply for the SBA guarantee.

Types of Personal Guarantees

There are two common types of personal guarantees for SBA business loans:

1.    Unlimited Personal Guarantee

Unlimited personal guarantees are for business owners who own at least 20% of the business. In an unlimited guarantee, you agree that the lender has the right to recover the entire outstanding loan balance. You will need to present your loan application along with a signed SBA Form 148. Remember that if you choose an unlimited personal guarantee, you won’t have financial protection in case your business goes bankrupt.

2.    Limited Personal Guarantee

Limited personal guarantees are for entrepreneurs who own no more than 20% of the company. With a limited personal guarantee, lenders will set a collateral value that will be taken from your personal assets if you default on the loan. This offers more protection compared to unlimited guarantees. Make sure to fill up the SBA Form 148L and submit it along with your application.

Related: SBA Loan Application Requirements: The Complete List of Documents

SBA Business Loan for Small Businesses

Prior to signing personal guarantees, make sure to evaluate your business and your finances. It’s important to understand that there is a risk of losing both your company and personal assets if your business fails. Make sure to honestly evaluate if the risk is worth taking.

SBA loans are a great investment if you want your business to grow and expand. It also offers flexible terms and low-interest rates since it’s backed up by the federal government which is a big plus for small business owners. If you have an asset to guarantee the loan, then you might even enjoy better loan terms.

Ezra Cabrera
Ezra Neiel Cabrera has a bachelor’s degree in Business Administration with a major in Entrepreneurial Marketing. Over the last 3 years, she has been writing business-centric articles to help small business owners grow and expand. Ezra mainly writes for SMB Compass, but you can find some of her work in All Business, Small Biz Daily, LaunchHouse, Marketing2Business, and Clutch, among others. When she’s not writing, you’ll find her in bed eating cookies and binge-watching Netflix.

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