Lenders like to get repaid, and so they ensure they have some form of legal recourse to the business and/or the business’s owners.
Traditionally lending above £25k would require security, but now there are a whole raft of alternative finance providers, some who can lend up to £250k without tangible security for the strongest applicants.
As a rule of thumb unsecured lending is quicker and cheaper up front, but then attracts higher interest rates over the course of the facility as the risk for the lender is higher than if they had tangible security.
It is normal for lenders to require personal guarantees when lending to Limited Companies. As a Limited Company is a separate legal entity to the owner or director, lenders are keen to have recourse to the individual/s behind the company.
A personal guarantee is normally signed by a director, is for a specific amount, and gives the lender the legal right to require the individual to repay the debt should the Limited Company be unable to do so.
Sole traders and partnerships will automatically be personally liable for any borrowing as they trade in their personal names, and so personal guarantees are non-applicable.
Directors can take out personal guarantee insurance to limit their personal liability should the personal guarantee be called upon.
Some alternative finance providers are able to provide finance without any need for a personal guarantee. Usually the strongest businesses are eligible.
It is common for lenders to require a debenture when lending to Limited Companies. A debenture is a legal charge over the “fixed and floating assets” of the company and gives the lender the legal right to seek repayment via the sale of the company’s assets should it fail to repay the debt.
In practise debentures are usually relied upon if a company goes into liquidation. Debenture holders are then towards the front of the queue in getting repaid.
A debenture also gives the lender some control over the company’s subsequent borrowings, as if the business were to approach a second lender while the original debt was outstanding then the second lender would need permission from the first lender to do so.
Legal charge over property
This is the legal right under which the owner of the first charge has the right to decide what to do with a property if the borrower fails to maintain the repayments. For example if a business is unable to repay a debt then the lender could decide to sell the property which it has a charge over to repay the debt.
The following types of legal charges are commonly used for business finance:
- 1st legal charge – this is where there are no other lenders which have provided a secured loan or mortgage. There will therefore only be one legal charge.
- 2nd legal charge – this is where there is already a mortgage or secured loan in place. The new lender will need permission from the existing provider to take a 2nd charge.
- Legal charge over a residential property – often business owners will take out business finance and use their home as security.
- Legal charge over business premises