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The FSB's 'super-complaint' on personal guarantees: The solution isn't more regulation

As reported last week by Asset Finance International, the Federation of Small Business (FSB) has submitted a ‘super-complaint’ to the Financial Conduct Authority (FCA) dealing with lenders’ requirements for personal guarantees on business loans.

The FSB claims that harsh lending practices of banks that excessively demand personal guarantees for business loans can be a straitjacket on business growth, leaving many business owners more likely to abandon their business or growth plans, and causing significant distress for directors of businesses which is disproportionate to the loss or potential loss the lender faces.

The FSB’s 8-page submission includes very limited evidence of any actual harm, although providing such evidence is not a pre-requisite for making a complaint. It recognises that complaints to the Financial Ombudsman Services (FOS) - which 99% of small businesses can use - are very low, although the FSB reports that the FOS has increasingly been “hearing about” problems.

The super-complaint also doesn’t address the question of whether tighter rules on personal guarantees would make it more difficult for small businesses to borrow. The FSB is a key voice in campaigning on issues faced by small businesses in raising finance. Its report "Credit Where Credit's Due" in December 2022 reported that loan rejection rates had increased from around a third of applications to over half. Restricting the use of personal guarantees seems bound to make that problem worse, as well as increasing the cost of finance when it is offered.

Should we therefore dismiss the FSB’s arguments? I’d suggest not.

Minimal use is made of the guarantee by most lenders, with it being in place principally as a deterrent to unreasonable conduct. Yet the potential harms identified by the FSB seem feasible, not least the distress for a director facing, in extremis, losing their home. It seems useful, therefore, to consider whether there could be a better alternative.

An alternative is very likely to require additional Government support for small business lending, which in the UK is more restricted at the point of lending than in the USA and other countries outside of Europe, where state aid rules tend to be a barrier.

Apart from the pandemic Bounceback and CBILs loans, Government risk support has had two catches attached to it. The Enterprise Finance Guarantee (EFG) has a 2% fee that indirectly increases the cost of the loan. Meanwhile the loss guarantee is limited to 75% for the EFG and it’s unclear whether a a smaller potential loss is likely to change a lending decision for a responsible lender. The current Recovery Loan Scheme has a 1.5% fee and a 70% loan guarantee.

The pandemic loans were fee-free and offered 100% loss support. CBILs loans offered through asset finance providers have shown low overall loss rates, with 1.1% of total lending having been paid out by Government as at March 2023 with a further 3.4% in arrears or default. There were also minimal fraudulent loans, representing 0.03% of total lending. (More on these statistics here)

So is more generous risk support for SME lending - no fees and full guarantees - a real alternative to personal guarantees? Yes, but this is certainly not the only reason for considering new Government support of this kind.

Risk support might be restricted to businesses investing in new business equipment or vehicles that:

  • Cannot provide additional security using business assets to the lender

  • Have a feasible business plan, showing how the asset payments will be funded

  • Have relevant management skills

This approach to supporting SME loans would have many similarities to the U.S. Small Business Administration (SBA) solutions, including SBA 504 loans that support small business growth and job generation.

A variant might even be created for investments helping firms to transition to become more sustainable. The Government’s guarantee would naturally be limited to the loss after recovery of an asset, but there could also be a cap on the overall portfolio loss percentage. There may be a requirement for the lessee to file full accounts at Companies House, increasing the transparency of how the business is run.

The small business would need to do more work to apply, possibly using their own accountant or professional asset finance broker. Participation would be voluntary, but one benefit could be that no personal guarantee would be required. For the pandemic schemes, lenders can still require personal guarantees, so this would be change.

The FSB might be right to raise awareness of the possible issues around personal guarantees, but no-one should be under any illusion that the solution can come from more regulation. I expect the FSB’s thinking here may well already be a step ahead of that.

Instead, as the political parties prepare their manifestos for the first time since the removal of restrictions from European state aid rules - subject to ongoing complications for Northern Ireland – the time seems right to propose additional risk support for SME lending from Government.

One benefit, but only one of many, should be a reduction in the need for personal guarantees, and with the right terms, the experience of Government pandemic lending support offered through asset finance suggests that the costs should be low and provide an excellent return on taxpayers’ money.


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