New research* by specialist SME loans company Reparo Finance shows that almost 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. With this in mind, Reparo Finance’s Steve Richardson looks at the key things to consider when taking out a business loan to reduce risk and ensure borrowing money is right for your business.
1. Pinpoint the PG – read it once, and then read it again and again
Our 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.
It is none of these things. It’s essentially an individual’s legal agreement that they will repay the money they are borrowing. Arguably, taking this into account, this part of the loan process is just as important as how much is being borrowed, the interest rates and the monthly repayment amounts.
SME owners and leaders must find the PG and properly understand what they are agreeing to and how much risk they are taking on. Equally important is the fact that the PG isn’t restricted to the trading status of a business, and it won’t be null and void if a company goes bust – something around one in ten (11%) SMEs wrongly believe.
2. Take independent legal advice
A clear explanation of terms and conditions is a top-ranking factor that influences SMEs when taking on external finance. However, borrowers shouldn’t rely solely on what a lender or broker tells them about loan terms and conditions. Instead, company owners and leaders should consult an independent lawyer and ask their advice about what the small print involves, which includes a review of the PG. Taking this approach can ensure the borrower is completely aware of, and comfortable with, the level of risk they are accepting as part of the loan agreement.
3. Ask what’s in it for the broker
Intermediaries such as finance brokers can do a fantastic job of recommending the right loan deal. However, whilst this may sound obvious, they don’t do this for free. Borrowers must remind themselves of this and should ask what level of commission a broker will receive as part of the loan agreement.
The best brokers will be completely transparent about their deal structures. If they aren’t, a borrower may want to rethink whether they are getting the best value or if it’s a case of the intermediary favouring their own financial position over the interests of the company taking out the loan.
Borrowers should also ask lenders about what they are paying intermediaries and expect clear and willing answers to this. A recent judgment by the UK Court of Appeal recognised that there is an issue with ‘secret commissions’, where brokers are sometimes remunerated without the knowledge of borrowers.
4. Think about what constitutes customer service
In a bid to secure finance, it can be quite easy to be forgiving of poor customer service. Likewise, it can seem to make sense to compromise on ‘niceties’ in favour of low-interest rates and repayment terms. This doesn’t have to be the case and borrowers shouldn’t have to sacrifice customer service for a good deal.
It pays to look for responsible lenders who treat their customers with due care and respect. In our research, finding a responsible provider was cited as a critical aspect when choosing a lender. More than a fifth (22%) of survey respondents said that it was most important to them.
The Financial Conduct Authority (FCA) has a set of guidelines on Treating Customers Fairly, which focus on delivering fair outcomes to borrowers. Where possible, borrowers should opt for lenders with these policies, as this gives them recourse should things go wrong.
5. Question how interested the lender is in your business
Borrowers shouldn’t be frustrated by lenders asking lots of questions about their business and should actually treat this as a good sign. The more interest that a finance provider takes in a borrower’s company, the more likely that business is to get a loan arrangement that properly fits their plans. This will also help to better manage and reduce risk.
Many businesses are now in the process of building back from the impacts of the pandemic and borrowing money will be a key part of this quest. 64% of SMEs are more likely to take on external finance because of COVID-19. These businesses must ensure they take the time to fully understand loan terms and conditions and avoid being blindsided by the need for fast cash. This will help them to minimise unseen and misunderstood risks.
*The research was conducted by Sapio Research in April 2021 on behalf of Reparo Finance.
204 SMEs, which have taken out external funding for their business in the last 12 months, were surveyed about their attitudes and understanding of business borrowing.
For more information about the research, or assistance in securing alternative funding, please visit https://www.reparofinance.co.uk/responsible-lending-report/