Commercial loans & personal guarantees

[Jessie Dillon]

Hi all! An interesting question has come up in my circle & wondering if anyone WORKING IN commercial loans can answer this for us: 

Example:

A new LLC is created for a group of people to purchase a property in. Ownership of that LLC is split up amongst each partner's single-member LLCs. New LLC will be buying a property with a commercial loan. The group collectively contributes the down payment, closing costs, reserves, and reno $$ if applicable. Everyone involved personally guarantees the commercial loan. THE QUESTION: Under what circumstances would the personal guarantee be acted on by the lender, and how would that look for each individual if, say, there were 5 partners and each had 20% ownership?

Thanks in advance for any insight! This is obviously doomsday prepping, but it'll be interesting to know!

[Brian Burke]

If there were a default, yes, the lender would foreclose and take the property back.  If that doesn't cover the principal balance plus all accrued interest, exit fees, yield maintenance, prepayment penalties, default interest, advances made for unpaid property taxes and insurance (even forced placed insurance), advances on senior loans, foreclosure costs/fees, toxic waste cleanup, costs of resale, the list goes on and on...the lender can sue each and every one of you for the entire unpaid amount.

The way this would likely play out, should the lender elect to enforce the personal guarantee, is they would file suit naming each partner as a defendant.  When you lose that lawsuit, the court will issue a judgment against each and every partner for the full amount of the damages (which can also include court costs and post-judgment interest and depending on the terms of your loan agreement, maybe even the lender's attorney's fees for the suit).  Then it's up to you partners to figure that out.  Maybe the five of you all agree to cut a check for your 20% share.  

Or, if that doesn't happen, the first one of you to sell a house will have the proceeds of that sale yanked from you by the court before you even touch them, even if it's ten years later.  Or your bank account could be seized.  If that pays the entire judgment, now it's up to that partner to sue the other partners to recover the share of the judgment that they should have been responsible for under the terms of the operating agreement.  

Forget about the lender chasing you each for 20% because that's what your operating agreement says.  The lender isn't bound by your operating agreement, they are bound by the loan agreement, which will most certainly say that you each are jointly and severally liable (which means that each of you and all of you are responsible for the whole deficiency--basically whoever they can get to first, or whoever has the most assets for them to seize).

This is why a wealthy person wouldn't want to sign a PG with a broke partner(s).  The wealthy person would always lose, because the broke partner couldn't pay their share, and the lender will focus their energy on collecting from the person they can most likely collect from.

I've talked to many people over the years with stories of great partnerships at the start, that ultimately failed and one or more partners disappeared after things went south.  Be careful.  Or better yet, seek out a non-recourse loan if you can find one.