The Salomon v Salomon in 1897has made it clear that a company has its separate legal personality hence is responsible for its own debts. So if the company is in default directors or shareholders cannot be called on.
However there are many instance when smaller and medium companies that are managed by their owner, face hindrance form banks, landlords and suppliers in provision of services unless their obligations are supported by personal guarantee from owners.
Giving of personal grantee means the director is promising that company will fulfill its entire obligation thereto. A guarantee is usually serves as a secondary liability and this liability may be discharged if the company's obligation is set aside or varied. But these circumstances will also include an indemnity which would continue to apply.
A director is liable to pay company’s debt in case of a claim made hereunder, and if he does not pay the related bank or beneficiary of the guarantee may take him to the court. This may lead to enforcement of judgment of debts against his assets thereto.
A director may be made bankrupt as well if he doesn’t have sufficient assets to pay the debts. And this may lead a director to status where he may not act as director of company without permission of court. Most noticeable point is that even if there are several directors who give personal guarantee to same bank or beneficiary still the bank can claim the whole debt from one guarantor.
There are instances when security over assets is termed as third party charge, this the situation when a security is combined in one document. In such situation the director is with unlimited liability.
There is a situation termed as ‘non recourse’ third party charge under which the liability is limited to the charged property and there is no recourse to director or his assets thereto. So if a bank requires a personal guarantee then a director should negotiate with bank for a cap on the amount on which he can be asked to pay under guarantee.
The director would also want a provision for circumstances when he ceases to be director of company, enabling him to terminate the guarantee as to future liabilities of the company for such arrangement an alternative security may need to be provided as the bank may be reluctant to agree above arrangements. A director may also set out expressly for conditional guarantee i.e. an arrangement where the bank will be enforcing its security over company’s assets first. When a director gives a guarantee he will need to declare his interest to the other directors, and may be prohibited from voting under the company's articles of association, there can be an exception if the articles do restrict directors' voting rights.
A director should not cause a company to pay off a creditor when it is facing financial difficulties. If a director does so he may end up before court, by considering this as breach of duty.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.