Time to Rein in Banks: Should Financial Regulators Clamp Down on Lender Conduct?

In the realm of corporate finance, banks wield significant power when extending trade facilities and loans to companies. These loans are often secured through multiple channels—charges on the company’s assets, and most controversially, personal guarantees from the directors. However, a troubling pattern has emerged: when a company defaults, banks frequently bypass the company as the primary borrower and aggressively pursue personal guarantors, often leading to devastating consequences for individuals who merely intended to support their business.

It is commonly observed that there is no specific legal framework that governs the extent to which a bank can rely on personal guarantees. This lack of regulation allows banks to take a heavy-handed approach when a company defaults on its loan. Instead of first exhausting all possible avenues to recover the debt from the primary borrower—the company as a legal entity—banks often bypass this step and instead target the personal guarantors, who are typically the directors of the company.

This practice raises serious questions about fairness and the broader implications for those who provide personal guarantees. When banks pursue personal guarantors, they do so with full legal force, often destroying the individual’s life, image, credibility, and even their family’s well-being. The personal guarantor, who might have provided the guarantee in good faith to support the company, ends up bearing the brunt of the company’s failure, often losing everything in the process.

To put this into perspective, consider a scenario where an individual purchases a car through a hire purchase agreement. If the buyer defaults on the payments, it would be considered unreasonable for the lender to immediately sue the buyer for the entire loan amount without first allowing the buyer to sell the car, realize its value, and cover the outstanding balance. Yet, in the case of structured commercial loans, such a logical and fair approach is often disregarded. Banks have the legal right to seize and liquidate the company’s assets, but rather than doing so, they opt to go after the personal guarantors, leaving them financially and emotionally devastated.

The reality is that borrowers, especially those offering personal guarantees, are left with no real options. They trust the banks to act responsibly, only to find themselves unfairly targeted when things go wrong. The question then arises: should financial regulators step in to protect innocent guarantors from such undue exploitation?

Should banks review their conduct? Absolutely. But beyond self-regulation, there is a pressing need for financial regulators to introduce policies that restrict banks from taking undue advantage of personal guarantors. These policies should mandate that banks exhaust all avenues of recovery from the company before turning to guarantors.

Moreover, guarantors should be given the opportunity to manage or liquidate the company’s assets to address outstanding debts before they are held personally liable.

In conclusion, the current practices surrounding personal guarantees in corporate loans are deeply flawed. It is high time for banks to reassess their conduct and for regulators to step in with protective measures. The burden of corporate failure should not unjustly fall on the shoulders of those who provided guarantees in good faith. The financial system must evolve to ensure fairness, responsibility, and the protection of all parties involved.

– Provided by Rajesh Bothra