I get it. You’re not alone. No one wants to sign a personal guaranty. No one wants the anxiety of knowing that their personal assets are on the line. The unfortunate reality is that landlords will sometimes require a personal guaranty as a precondition to leasing space to the tenant.
But why me? Personal guaranty requirements were not always as common as they are today; having increased markedly since the recession in 2008. Most new businesses are required to personally secure the lease because they lack a leasing history and/or multiple years of financials. Landlords may also require some type of personal guaranty from a tenant that is requesting tenant improvements that are costly and/or potentially unusable by subsequent tenants. Basically, landlords are accounting for their perceived risk in leasing to a particular tenant and the losses they may incur as a result thereof.
If landlords are really just interested in mitigating their risk, what other options are available to a tenant that doesn’t want to sign a personal guaranty?
I’ve had clients/tenants propose paying a certain number of months’ rent up front, even offering up to a year’s rent in advance, but terms such as these are not as appealing to landlords as one may think nor are they necessarily advantageous to the tenant. A tenant’s ignorance of the present value of money shows a lack of financial sophistication and planning which is vital in running a viable business. They are presenting themselves as a greater risk by proposing such terms. The tenant is also tying up capital that might be more effectively deployed to grow the business.
Another potential option in lieu of a personal guaranty is an increased security deposit. Nearly all commercial leases require the tenant to deposit some amount with the landlord at lease signing to secure its obligations under the lease (including but not limited to rent, repairs to damage made by tenant, etc.). Security deposits are typically measured in “months of rent” with the minimum amount generally being one month’s rent; however, landlords may require more based on the riskiness of the tenant. For a security deposit to be accepted in place of a personal guaranty the amount would need to be significant. This option presents the same issue as the previous example. Capital could and should be used to grow the business. Additionally, security deposits are typically held by the landlord for the entire lease term and are not applied towards rent.
Perhaps the best option is to try to limit the amount of the guaranty and/or negotiate a time limit after which the guaranty expires. The default amount of a personal guaranty is the entire lease value, but tenants can attempt to limit the amount to a certain number of months’ rent, the tenant improvement allowance, etc. They can also request that certain costs be excluded from the amount such as CAM. Another way to mitigate the exposure of a personal guaranty is to limit how long it applies. For example, a tenant signs a 5-year lease with a personal guaranty that will expire on the 3rd anniversary of the lease or rent commencement date (after 3 years); barring any tenant defaults.
Personal guarantees can be scary but may also be required. Tenants can and should push back, but at the end of the day what’s most important is that the individual(s) signing the lease fully understand(s) their financial commitments and exposure.