HOW TO USE YOUR BUSINESS TO GUARANTEE FOR A LOAN

WHAT A BUSINESS OWNER SHOULD CONSIDER BEFORE USING THEIR BUSINESS TO GUARANTEE A LOAN

A guarantee, as defined by the Corporate Finance Institute, is a legal promise made by a third party (the guarantor) to cover a borrower’s debt or liability in case the borrower defaults.

While guaranteeing a loan is not inherently bad, business owners must carefully evaluate certain factors before using their business assets or stock as collateral. Below are key considerations:

1. How Well You Know the Borrower

In Ghana, many entrepreneurs do not fully understand the implications of guaranteeing a loan, and this can lead to problems. Guaranteeing a loan means you are legally agreeing to repay the debt if the borrower fails to do so.

Simply knowing the borrower from the same workplace, neighborhood, or church is not enough reason to guarantee their loan. It is crucial to:

• Understand the borrower’s moral character and financial stability.
• Assess their reliability and, if possible, learn about their family situation.

Knowing these factors reduces the risk of being held accountable for someone else’s debt.

2. Your Willingness and Financial Capability to Pay

If the borrower cannot repay the loan, the guarantor becomes financially responsible. Many guarantors overlook this critical aspect.

• Assess your financial stability: If you are already facing financial challenges, do not guarantee a loan.
• Consider the risk: Failure to repay may result in the seizure of your assets or stock, which could harm your business.

The bank requires guarantors who are financially capable of fulfilling the loan obligation in case of default.

3. The Borrower’s Business

It is essential to evaluate the business of the borrower you plan to guarantee.

• Avoid guaranteeing loans for someone operating in the same sector as you. Industry-specific challenges, such as changes in government policy or supply issues, can affect both businesses simultaneously, making it difficult for you to support them in case of default.

4. The Borrower’s Financial Health

Understanding the borrower’s financial situation is critical:

• Assess their sales, existing debts, and overall repayment capacity.
• Evaluate whether the loan amount requested is appropriate for their financial situation. If the amount seems too high, advise them to reduce it.

Remember, as a guarantor, you are equally liable for the loan payments. Many financial institutions will provide you with a repayment schedule to monitor the borrower’s progress.

Key Recommendations

Guaranteeing a loan is not a bad idea—after all, as an entrepreneur, you may also need a guarantor for a loan in the future. However, ensure the following measures are in place before committing:

• Do your due diligence: Confirm the borrower’s credibility, business health, and financial capacity.
• Be confident enough to opt out: If you are uncomfortable with the terms or the borrower’s circumstances during the loan process, do not hesitate to decline.
• Monitor the loan repayment process: If you notice any issues with the borrower or their business, report them to the bank’s loan officer immediately to prevent unforeseen consequences.
• Do not share the loan proceeds: Never split the loan amount with the borrower. This will dilute its intended purpose and increase the risk of default.

Conclusion

Guaranteeing a loan can be helpful for a business owner since good repayment of the borrower makes it easier for you to access a facility from the same institution.