Using Personal Guaranty Companies to Limit Exposure

If you are a real estate developer with personal guarantees, there may be better ways to secure financing while protecting your personal assets.  It is common that banks require developers to personally guarantee loans in order to provide financing.  This demonstrates the commitment of the developer to the project, provides the bank with leverage in negotiating a workout of there is a default and limits the possibility the developer will walk away from the project.  It is not common for developers with multiple developments to often have multiple personal guarantees.   When considering estate and succession planning, it can be difficult to assess the risk of these personal guarantees.

Guarantor’s can limit their risk in several ways including 1) Capping the liability to a specific amount, 2) limiting the liability to a specific percentage of the obligations that are guaranteed, 3) limiting the time period in which the guarantee can be enforced, 4) requiring the lender to go after business assets first, and 5) restricting the ability of the lender to pursue specifically identified personal assets to satisfy the guarantee.

It is not common for developers with multiple developments to often have multiple personal guarantees.   When considering estate and succession planning, it can be difficult to assess the risk of these personal guarantees.   Even with caps and limits on the guarantees, the cumulative effect of multiple guarantees being called could still result in personal bankruptcy.  That is where a guaranty company or property basket comes into play.  The guaranty company generally contains some of the real estate holdings of the developer and it provides the guarantee on development loans rather than the individual.  This protects the developer’s personal assets from lenders while providing enough security to the lender to obtain the loan.  The same principles of attempting to limit the exposure under guarantees should continue to be exercised by the guaranty company.

Lenders can often find guaranty companies attractive because the lender can place restrictions on the assets of the guaranty company.  Generally, guaranty companies meet the lender’s needs of ensuring the developer is committed to the project, will not walk away and provides leverage in negotiating workouts in the event of default.  It can also provide additional control by the lender over the assets securing the loans they may not be able to have over personal assets.  In addition, the borrower generally can get more flexibility from the lender by showing a portfolio of assets that is less ambiguous than personal assets.

Setting up a guaranty company first starts with selecting the right assets.  Generally long term investment properties are the best candidates for inclusion in the guaranty company.   Using a single member limited liability company makes the guaranty company easy to set up and it is disregarded for tax purposes.  Any developer that provides personal guarantees on a regular basis should consider whether it is practical to set up a guaranty company to provide loan guarantees in the future.  When used properly, the guaranty company should effectively limit the risk to developer’s personal assets while providing banks with the security they need to provide financing for future developments.

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