The Pitfalls of Personal Guarantees in Insolvency Proceedings

Bimal Kotecha highlights matters to consider before enforcing a personal guarantee in insolvency proceedings.

Our Insolvency team is regularly instructed to pursue and defend bankruptcy proceedings arising from written personal guarantees given by individuals. Most commonly, a director will have personally guaranteed the liabilities of a company and said company either no longer has sufficient assets to cover its liabilities or has gone into Liquidation.  The creditor will then seek to recover the liabilities from the director in reliance of the personal guarantee, usually by serving a statutory demand and subsequently presenting a bankruptcy petition against the director.

However, our experience in this area has taught us that things aren’t always as they seem! For instance, although a creditor may have commenced insolvency proceedings, it could subsequently transpire that the debt isn’t yet owing. Alternatively, it could transpire that the creditor is unable to rely on the guarantee as the pertinent clauses contained within it are unenforceable.

Before serving a statutory demand on a debtor it is important that the guarantee is reviewed thoroughly to ensure that you are able to rely on it, otherwise it could lead to a debtor challenging a statutory demand and/or bankruptcy petition.

Below we set out some tips for creditors who wish to commence insolvency proceedings against a debtor arising from a personal guarantee. Although the tips for use by creditors, they are also a useful guideline for debtors who wish to challenge insolvency proceedings arising from a personal guarantee.

  1. Is the guarantee limited to a maximum amount? If you are owed more than any limits set by the guarantee and commence insolvency proceedings based on the entire sum owed, the debtor could successfully challenge the statutory demand and/or bankruptcy petition;
  1. Does the guarantee require you to make a written demand before commencing insolvency proceedings? In the recent case of Martin –v- McLaren Construction Ltd (2019), the High Court set aside a statutory demand because the creditor had failed to serve a written notice demanding the debt, prior to serving a statutory demand and therefore had failed to comply with the terms of the guarantee;
  1. Is the guarantee an “all monies” guarantee, that is to say do the clauses in the guarantee cover sums owed by the debtor in all circumstances? In many instances we have seen that a guarantee only gives rise to payment by the debtor in certain circumstances;
  1. Is there an indemnity provision in the guarantee? While an indemnity may create a primary obligation on the debtor, it has long been established that indemnities must be remedied by a claim in damages and, as such, cannot be considered a debt for the purposes of a statutory demand. (Norwich and Peterborough Building Society v McGuinness [2011] EWCA Civ 1286);
  1. Has the guarantee been varied or substituted in any way? If so, are you relying on the most recent guarantee to pursue your debt? Our Insolvency team recently defended a bankruptcy petition successfully on the basis that the guarantee in which the creditor relied on (which incidentally was more favourable to the creditor) was varied by correspondence and conduct between the parties;
  1. Well drafted guarantees contain comprehensive “anti-discharge” provisions designed to prevent a debtor being discharged from liability by any post-guarantee amendments to the principal transaction or other indulgence given to the principal debtor without the guarantor’s knowledge or consent. However if there has been a material change in circumstances in the principal liability for which the guarantee has been provided, such circumstances could fall “outside the purview of the guarantee” (Triodos Bank NV v. Dobbs [2005] EWCA Civ 630). Our Insolvency team has on several occasions defended insolvency proceedings owing to a material change in circumstances of the principal debt which has resulted in the debt falling outside the purview of the guarantee;
  1. Has the guarantee been sufficiently and appropriately executed? It is common for guarantees to be executed as a deed, to avoid any challenge by a debtor claiming that there is a lack of consideration of the debt sought; and
  1. Is there any scope of an individual challenging the guarantee on the basis of undue influence or duress?

As you can see from the non-exhaustive list above, there are significant opportunities for a debtor to challenge a statutory demand and/or bankruptcy petition arising from a personal guarantee. Accordingly it is wise to obtain legal advice before commencing insolvency proceedings in reliance of a personal guarantee provided by the debtor.

This is not legal advice; it is intended to provide information of general interest about current legal issues.