The pandemic has changed business attitudes towards borrowing and lending. Emergency conditions have prioritised the need for quick finance, meaning that risk management has taken something of a back seat.
This is understandable and not something to be overly critical of. The Government championed messages and measures about readily available funds, with national focus very much on business survival. However, as we head towards the end of the lockdown roadmap and companies look to rebuild, it’s important that they also readjust attitudes towards risk when taking on external finance. This could help business owners and shareholders avoid personal liabilities, and accountants can play a lead role in achieving this to protect client interests.
Not personally understanding PGs
Research conducted by Sapio Research in April 2021, on behalf of Reparo Finance, shows that 44% of SMEs have already taken out external finance because of the impacts of COVID-19, with almost two thirds (64%) more likely to borrow money in the next three years as they recover from the pandemic.
Although this is likely to come as little surprise to accountants who’ve supported companies during these uncertain times, what they may find more shocking is that nearly half (47%) of small and medium-sized business owners and leaders are unwittingly exposing themselves to personal risk when borrowing money. This is because they don’t understand what a Personal Guarantee (PG) is.
The research showed that of the SMEs who didn’t understand what a PG is, 18% believe it’s their personal guarantee that their business can honour repayments, whilst 14% think it shows they personally understand the terms and conditions of a loan.
The remaining 12% thought a PG is their guarantee that they’ve provided accurate and true information during the loan application, whilst 3% were unsure what a personal guarantee was and what it involves.
Accountants will know that it is none of these things and can help promote understanding amongst borrowers that a PG is their legal agreement that they will repay a loan. Most company owners will consult their accountants when considering taking on external finance and this presents an opportunity to help them look beyond the loan details they will often concentrate on, namely the amount being borrowed, interest rates and the monthly repayment amounts.
A PG is arguably just as important as all these elements of the loan and creating understanding about this will also enable accountants to educate their clients and dispel other common misperceptions.
Whilst some borrowers may be more familiar with the concept of a PG, there’s still a lack of knowledge about exactly how they work. A fifth (21%) of SMEs wrongly believe they will be personally protected from their company’s debts because they run a limited company, irrespective of whether they’ve agreed a personal guarantee on a loan. Some 11% believe a PG wouldn’t be enforceable should their business become insolvent.
A PG isn’t restricted to the trading status of a business, and it won’t be null and void if a company goes bust. Accountants can help company owners to understand this and not wrongly believe that corporate insolvency will provide them with a ‘get out of jail free card’ when it comes to business debts.
Recommending independent legal advice
A huge positive from the research is that SME borrowers value the clear explanation of loan terms and conditions. This is a top-ranking factor that influences their choice of loan provider.
For this decision-making factor to truly benefit clients, accountants can ensure that borrowers don’t purely rely on lenders to explain terms. They should recommend that clients take independent legal advice during the loan process, which will provide an objective view of exactly what borrowers are agreeing to and awareness of the level of personal risk they would be accepting.
Granted, an accountant can’t guarantee that their client will take independent legal advice. It does, however, create pause for thought. Many accountants are often regarded as trusted advisors, with their insight and suggestions highly respected by clients.
If the suggestion about legal advice is made, it is more likely to encourage business borrowers to look beyond their eagerness to secure finance in their quest to protect or grow their company. This could prove invaluable in a climate where risk management has been downgraded in favour of fast cash and help borrowers to take the time to better appreciate the terms of the loan they will be personally agreeing to. Essentially, it can mean accountants are helping clients to be more informed about risk.
For more information about the research, or assistance in securing alternative funding, please visit https://www.reparofinance.co.uk/responsible-lending-report/
Steve Richardson is a director at Reparo Finance