Since 2021, the average risk of default for companies in the U.S. has more than doubled to 9.2%. If that applies to one of your customers, it can put a big dent in your bottom line.
Before you extend credit to a customer or client, you need to make sure they have the financial means to pay it back. You can pull a business credit report to check, but if you have concerns, one option is to require a third party to back the loan, either a guarantor or consigner.
Although many people use the terms interchangeably, there are important distinctions between a guarantor and a cosigner, and these differences can impact risk, repayment, and liability. So, let’s take a closer look at a guarantor vs cosigner.
What Is a Personal Guarantor?
A personal guarantor agrees to repay a debt only if the business defaults. They aren’t considered a party to the loan from the beginning, but they offer a written guarantee that they will step in if the primary borrower fails to fulfill its obligations.
This is a common requirement in small business loans, vendor contracts, and equipment financing, especially if the company is a startup or has an unproven financial track record. Many business owners become personal guarantors for their own companies.
Because the personal guarantor only becomes liable in the event of nonpayment, they don’t share equal responsibility at the outset. However, if a default occurs, they can be held fully accountable for the debt, including penalties, fees, and legal action.
What Is a Cosigner?
A cosigner, however, is equally responsible for the loan from day one. When someone cosigns a business loan, they effectively take on joint liability with the borrower. The lender can pursue repayment from either party at any time, regardless of who initially missed a payment.
Cosigners undergo a full credit review during the application process, and the loan appears on their personal credit report. Any missed payments or defaults will affect their credit score and financial standing just as it would the borrower’s.
Cosigning is less common in business lending but does appear in situations where the cosigner has a close relationship to the business, such as a family member, co-owner, or investor, and is willing to take on full responsibility for the debt.
Guarantor vs Cosigner: Key Differences
Here is an easy way to understand the key differences:
Understanding these differences helps you choose the best type for each lending situation.
When Should a Business Use a Personal Guarantor?
Using a personal guarantor makes sense when you are relatively confident in the borrower but still want an added layer of protection. For example:
- The business is a startup with no credit history.
- The company has steady revenue but little collateral.
- The business owner is personally invested in the company’s success.
Guarantors are often used to strengthen unsecured lending arrangements or to meet underwriting criteria when the business itself doesn’t qualify independently. Because the guarantor only becomes liable in the event of a default, it’s less intrusive than requiring a cosigner but still provides you with meaningful protection.
When to Consider a Cosigner
In riskier or higher-value transactions, a cosigner may be more appropriate. This is especially true if:
- The borrower has a history of late payments or defaults.
- The loan amount is substantial and you want shared accountability.
- The cosigner has significant financial resources or excellent credit.
Because cosigners are legally bound to the loan from the beginning, their presence significantly strengthens the application. You can also recover losses more efficiently since they don’t need to prove the borrower’s default before seeking repayment from the cosigner.
Legal and Financial Implications for Both Parties
Whether someone acts as a guarantor vs. cosigner there are significant financial obligations. These individuals are often putting their personal credit scores, assets, and financial security on the line. Make sure you document everything clearly, from loan terms to payment responsibilities to what happens in the event of a default.
For businesses, obtaining proper authorization, performing thorough credit checks, and maintaining transparency in documentation are essential to protect your company’s bottom line.
Command Credit offers in-depth credit screening services, including on-demand business credit reports and personal credit reports to help you make smarter credit decisions. You can pull credit reports instantly with no long-term subscription. Contact Command Credit today to get started.