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                               GUARANTEE AGREEMENT

                                 by and between

                            PENN-AMERICA GROUP, INC.

                                       and

                       STATE STREET BANK AND TRUST COMPANY
                      OF CONNECTICUT, NATIONAL ASSOCIATION

                          Dated as of December 4, 2002


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                               GUARANTEE AGREEMENT
                               -------------------

                 This  GUARANTEE  AGREEMENT  (this  "Guarantee"),  dated  as  of
December 4, 2002,  is executed and  delivered  by  Penn-America  Group,  Inc., a
Pennsylvania  corporation  (the  "Guarantor"),  and State  Street Bank and Trust
Company of Connecticut,  National  Association,  a national banking association,
organized  under the laws of the  United  States of  America,  as  trustee  (the
"Guarantee  Trustee"),  for the benefit of the Holders (as defined  herein) from
time to time of the  Capital  Securities  (as  defined  herein) of  Penn-America
Statutory Trust I, a Connecticut statutory trust (the "Issuer").

         WHEREAS,  pursuant to an Amended and Restated Declaration of Trust (the
"Declaration"),  dated as of the date hereof  among State  Street Bank and Trust
Company of Connecticut, National Association, not in its individual capacity but
solely as institutional trustee, the administrators of the Issuer named therein,
the  Guarantor,  as  sponsor,  and the  holders  from time to time of  undivided
beneficial  interests in the assets of the Issuer,  the Issuer is issuing on the
date  hereof  those  undivided   beneficial   interests,   having  an  aggregate
liquidation amount of $15,000,000.00 (the "Capital Securities"); and

         WHEREAS,   as  incentive  for  the  Holders  to  purchase  the  Capital
Securities,  the Guarantor desires  irrevocably and unconditionally to agree, to
the  extent  set  forth in this  Guarantee,  to pay to the  Holders  of  Capital
Securities the Guarantee  Payments (as defined herein) and to make certain other
payments on the terms and conditions set forth herein;

         NOW, THEREFORE,  in consideration of the purchase by each Holder of the
Capital Securities, which purchase the Guarantor hereby agrees shall benefit the
Guarantor, the Guarantor executes and delivers this Guarantee for the benefit of
the Holders.

                                   ARTICLE I

                         DEFINITIONS AND INTERPRETATION

Section 1.1       Definitions and Interpretation.
                  -------------------------------

         In this Guarantee, unless the context otherwise requires:

     (a) capitalized terms used in this Guarantee but not defined in the
preamble above have the respective meanings assigned to them in this Section
1.1;

     (b) a term defined anywhere in this Guarantee has the same meaning
throughout;

     (c) all references to "the Guarantee" or "this Guarantee" are to this
Guarantee as modified, supplemented or amended from time to time;

     (d) all references in this Guarantee to "Articles" or "Sections" are to
Articles or Sections of this Guarantee, unless otherwise specified;

     (e) terms defined in the Declaration as at the date of execution of this
Guarantee have the same meanings when used in this Guarantee, unless otherwise
defined in this Guarantee or unless the context otherwise requires; and

     (f) a reference to the singular includes the plural and vice versa.


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         "Affiliate"  has the same  meaning as given to that term in Rule 405 of
the Securities Act of 1933, as amended, or any successor rule thereunder.

         "Beneficiaries"  means any  Person to whom the  Issuer is or  hereafter
becomes indebted or liable.

         "Capital  Securities" has the meaning set forth in the recitals to this
Guarantee.

         "Common Securities" means the common securities issued by the Issuer to
the Guarantor pursuant to the Declaration.

         "Corporate  Trust Office" means the office of the Guarantee  Trustee at
which the  corporate  trust  business of the  Guarantee  Trustee  shall,  at any
particular  time,  be  principally  administered,  which  office  at the date of
execution of this  Guarantee is located at 225 Asylum  Street,  Goodwin  Square,
Hartford, Connecticut 06103.

         "Covered Person" means any Holder of Capital Securities.

         "Debentures" means the debt securities of the Guarantor  designated the
Floating Rate Junior  Subordinated  Deferrable Interest Debentures due 2032 held
by the Institutional Trustee (as defined in the Declaration) of the Issuer.

         "Declaration  Event of Default"  means an "Event of Default" as defined
in the Declaration.

         "Event of Default" has the meaning set forth in Section 2.4(a).

         "Guarantee  Payments"  means the following  payments or  distributions,
without duplication,  with respect to the Capital Securities,  to the extent not
paid or made by the Issuer: (i) any accrued and unpaid Distributions (as defined
in the Declaration)  which are required to be paid on such Capital Securities to
the extent the Issuer  shall have funds  available  therefor,  (ii) the Optional
Redemption  Price to the extent the Issuer has funds  available  therefor,  with
respect to any Capital Securities called for redemption by the Issuer, (iii) the
Special Redemption Price to the extent the Issuer has funds available  therefor,
with respect to Capital  Securities  redeemed  upon the  occurrence of a Special
Event,  and (iv)  upon a  voluntary  or  involuntary  liquidation,  dissolution,
winding-up  or  termination  of the Issuer  (other than in  connection  with the
distribution of Debentures to the Holders of the Capital  Securities in exchange
therefor as provided in the Declaration), the lesser of (a) the aggregate of the
liquidation  amount and all  accrued  and unpaid  Distributions  on the  Capital
Securities  to the date of  payment,  to the extent the Issuer  shall have funds
available  therefor,  and (b) the  amount  of  assets  of the  Issuer  remaining
available for  distribution  to Holders in  liquidation of the Issuer (in either
case, the "Liquidation Distribution").

         "Guarantee  Trustee"  means  State  Street  Bank and Trust  Company  of
Connecticut,  National Association, until a Successor Guarantee Trustee has been
appointed  and has  accepted  such  appointment  pursuant  to the  terms of this
Guarantee and thereafter means each such Successor Guarantee Trustee.

         "Guarantor" means Penn-America Group, Inc. and each of its successors
and assigns.

         "Holder"  means any holder,  as  registered on the books and records of
the Issuer, of any Capital Securities;  provided,  however, that, in determining
whether the Holders of the requisite percentage of Capital Securities have given
any request, notice, consent or waiver hereunder, "Holder" shall not include the
Guarantor or any Affiliate of the Guarantor.

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         "Indemnified  Person" means the Guarantee Trustee, any Affiliate of the
Guarantee Trustee, or any officers, directors, shareholders,  members, partners,
employees,  representatives,  nominees,  custodians  or agents of the  Guarantee
Trustee.

         "Indenture" means the Indenture dated as of the date hereof between the
Guarantor  and State  Street  Bank and Trust  Company of  Connecticut,  National
Association,  not in its  individual  capacity  but solely as  trustee,  and any
indenture supplemental thereto pursuant to which the Debentures are to be issued
to the institutional trustee of the Issuer.

         "Issuer"  has the meaning set forth in the  opening  paragraph  to this
Guarantee.

         "Liquidation  Distribution" has the meaning set forth in the definition
of "Guarantee Payments" herein.

         "Majority  in  liquidation  amount  of the  Capital  Securities"  means
Holder(s) of outstanding  Capital  Securities,  voting together as a class,  but
separately  from the  holders  of  Common  Securities,  of more  than 50% of the
aggregate  liquidation amount (including the stated amount that would be paid on
redemption,  liquidation or otherwise,  plus accrued and unpaid Distributions to
the date upon  which the  voting  percentages  are  determined)  of all  Capital
Securities then outstanding.

         "Obligations"  means  any  costs,  expenses  or  liabilities  (but  not
including  liabilities related to taxes) of the Issuer other than obligations of
the  Issuer to pay to  holders  of any Trust  Securities  the  amounts  due such
holders pursuant to the terms of the Trust Securities.

         "Officer's   Certificate"   means,   with  respect  to  any  Person,  a
certificate  signed by one  Authorized  officer of such  Person.  Any  Officer's
Certificate  delivered  with respect to compliance  with a condition or covenant
provided for in this Guarantee shall include:

     (a) a statement that the officer signing the Officer's Certificate has read
the covenant or condition and the definitions relating thereto;

     (b) a brief statement of the nature and scope of the examination or
investigation undertaken by the officer in rendering the Officer's Certificate;

     (c) a statement that the officer has made such examination or investigation
as, in such officer's opinion, is necessary to enable such officer to express an
informed opinion as to whether or not such covenant or condition has been
complied with; and

     (d) a statement as to whether, in the opinion of the officer, such
condition or covenant has been complied with.

         "Optional Redemption Price" has the meaning set forth in the Indenture.

         "Person" means a legal person,  including any individual,  corporation,
estate, partnership,  joint venture,  association,  joint stock company, limited
liability  company,  trust,  unincorporated  association,  or  government or any
agency or political subdivision thereof, or any other entity of whatever nature.

         "Responsible Officer" means, with respect to the Guarantee Trustee, any
officer within the Corporate Trust Office of the Guarantee Trustee including any
Vice President, Assistant Vice President,  Secretary, Assistant Secretary or any
other officer of the Guarantee Trustee customarily  performing functions similar
to those  performed  by any of the above  designated  officers  and  also,  with
respect to a

                                       3

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particular corporate trust matter, any other officer to whom such matter is
referred because of that officer's knowledge of and familiarity with the
particular subject.

         "Special Event" has the meaning set forth in the Indenture.

         "Special Redemption Price" has the meaning set forth in the Indenture.

         "Successor  Guarantee  Trustee"  means a  successor  Guarantee  Trustee
possessing the qualifications to act as Guarantee Trustee under Section 3.1.

         "Trust Securities" means the Common Securities and the Capital
Securities.

                                   ARTICLE II

                          POWERS, DUTIES AND RIGHTS OF
                                GUARANTEE TRUSTEE

Section 2.1       Powers and Duties of the Guarantee Trustee.
                  -------------------------------------------

     (a) This Guarantee shall be held by the Guarantee Trustee for the benefit
of the Holders of the Capital Securities, and the Guarantee Trustee shall not
transfer this Guarantee to any Person except a Holder of Capital Securities
exercising his or her rights pursuant to Section 4.4(b) or to a Successor
Guarantee Trustee on acceptance by such Successor Guarantee Trustee of its
appointment to act as Successor Guarantee Trustee. The right, title and interest
of the Guarantee Trustee shall automatically vest in any Successor Guarantee
Trustee, and such vesting and cessation of title shall be effective whether or
not conveyancing documents have been executed and delivered pursuant to the
appointment of such Successor Guarantee Trustee.

     (b) If an Event of Default actually known to a Responsible Officer of the
Guarantee Trustee has occurred and is continuing, the Guarantee Trustee shall
enforce this Guarantee for the benefit of the Holders of the Capital Securities.

     (c) The Guarantee Trustee, before the occurrence of any Event of Default
and after curing all Events of Default that may have occurred, shall undertake
to perform only such duties as are specifically set forth in this Guarantee, and
no implied covenants shall be read into this Guarantee against the Guarantee
Trustee. In case an Event of Default has occurred (that has not been waived
pursuant to Section 2.4) and is actually known to a Responsible Officer of the
Guarantee Trustee, the Guarantee Trustee shall exercise such of the rights and
powers vested in it by this Guarantee, and use the same degree of care and skill
in its exercise thereof, as a prudent person would exercise or use under the
circumstances in the conduct of his or her own affairs.

     (d) No provision of this Guarantee shall be construed to relieve the
Guarantee Trustee from liability for its own negligent action, its own negligent
failure to act, or its own willful misconduct, except that:

         (i) prior to the occurrence of any Event of Default and after the
curing or waiving of all such Events of Default that may have occurred:

              (A) the duties and obligations of the Guarantee Trustee shall be
         determined solely by the express provisions of this Guarantee, and the
         Guarantee Trustee shall not be liable except for the performance of
         such duties and obligations as are specifically set

                                       4


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         forth in this Guarantee, and no implied covenants or obligations shall
         be read into this Guarantee against the Guarantee Trustee; and

              (B) in the absence of bad faith on the part of the Guarantee
         Trustee, the Guarantee Trustee may conclusively rely, as to the truth
         of the statements and the correctness of the opinions expressed
         therein, upon any certificates or opinions furnished to the Guarantee
         Trustee and conforming to the requirements of this Guarantee; but in
         the case of any such certificates or opinions that by any provision
         hereof are specifically required to be furnished to the Guarantee
         Trustee, the Guarantee Trustee shall be under a duty to examine the
         same to determine whether or not they conform to the requirements of
         this Guarantee;

         (ii) the Guarantee Trustee shall not be liable for any error of
judgment made in good faith by a Responsible Officer of the Guarantee Trustee,
unless it shall be proved that such Responsible Officer of the Guarantee Trustee
or the Guarantee Trustee was negligent in ascertaining the pertinent facts upon
which such judgment was made;

         (iii) the Guarantee Trustee shall not be liable with respect to any
action taken or omitted to be taken by it in good faith in accordance with the
written direction of the Holders of not less than a Majority in liquidation
amount of the Capital Securities relating to the time, method and place of
conducting any proceeding for any remedy available to the Guarantee Trustee, or
relating to the exercise of any trust or power conferred upon the Guarantee
Trustee under this Guarantee; and

         (iv) no provision of this Guarantee shall require the Guarantee Trustee
to expend or risk its own funds or otherwise incur personal financial liability
in the performance of any of its duties or in the exercise of any of its rights
or powers, if the Guarantee Trustee shall have reasonable grounds for believing
that the repayment of such funds is not reasonably assured to it under the terms
of this Guarantee or security and indemnity, reasonably satisfactory to the
Guarantee Trustee, against such risk or liability is not reasonably assured to
it.

Section 2.2       Certain Rights of Guarantee Trustee.
                  ------------------------------------

     (a)      Subject to the provisions of Section 2.1:

         (i) The Guarantee Trustee may conclusively rely, and shall be fully
protected in acting or refraining from acting upon, any resolution, certificate,
statement, instrument, opinion, report, notice, request, direction, consent,
order, bond, debenture, note, other evidence of indebtedness or other paper or
document believed by it to be genuine and to have been signed, sent or presented
by the proper party or parties.

         (ii) Any direction or act of the Guarantor contemplated by this
Guarantee shall be sufficiently evidenced by an Officer's Certificate.

         (iii) Whenever, in the administration of this Guarantee, the Guarantee
Trustee shall deem it desirable that a matter be proved or established before
taking, suffering or omitting any action hereunder, the Guarantee Trustee
(unless other evidence is herein specifically prescribed) may, in the absence of
bad faith on its part, request and conclusively rely upon an Officer's
Certificate of the Guarantor which, upon receipt of such request, shall be
promptly delivered by the Guarantor.

                                       5

<PAGE>

         (iv) The Guarantee Trustee shall have no duty to see to any recording,
filing or registration of any instrument (or any re-recording, refiling or
re-registration thereof).

         (v) The Guarantee Trustee may consult with counsel of its selection,
and the advice or opinion of such counsel with respect to legal matters shall be
full and complete authorization and protection in respect of any action taken,
suffered or omitted by it hereunder in good faith and in accordance with such
advice or opinion. Such counsel may be counsel to the Guarantor or any of its
Affiliates and may include any of its employees. The Guarantee Trustee shall
have the right at any time to seek instructions concerning the administration of
this Guarantee from any court of competent jurisdiction.

         (vi) The Guarantee Trustee shall be under no obligation to exercise any
of the rights or powers vested in it by this Guarantee at the request or
direction of any Holder, unless such Holder shall have provided to the Guarantee
Trustee such security and indemnity, reasonably satisfactory to the Guarantee
Trustee, against the costs, expenses (including attorneys' fees and expenses and
the expenses of the Guarantee Trustee's agents, nominees or custodians) and
liabilities that might be incurred by it in complying with such request or
direction, including such reasonable advances as may be requested by the
Guarantee Trustee; provided, however, that nothing contained in this Section
2.2(a)(vi) shall relieve the Guarantee Trustee, upon the occurrence of an Event
of Default, of its obligation to exercise the rights and powers vested in it by
this Guarantee.

         (vii) The Guarantee Trustee shall not be bound to make any
investigation into the facts or matters stated in any resolution, certificate,
statement, instrument, opinion, report, notice, request, direction, consent,
order, bond, debenture, note, other evidence of indebtedness or other paper or
document, but the Guarantee Trustee, in its discretion, may make such further
inquiry or investigation into such facts or matters as it may see fit.

         (viii) The Guarantee Trustee may execute any of the trusts or powers
hereunder or perform any duties hereunder either directly or by or through
agents, nominees, custodians or attorneys, and the Guarantee Trustee shall not
be responsible for any misconduct or negligence on the part of any agent or
attorney appointed with due care by it hereunder.

         (ix) Any action taken by the Guarantee Trustee or its agents hereunder
shall bind the Holders of the Capital Securities, and the signature of the
Guarantee Trustee or its agents alone shall be sufficient and effective to
perform any such action. No third party shall be required to inquire as to the
authority of the Guarantee Trustee to so act or as to its compliance with any of
the terms and provisions of this Guarantee, both of which shall be conclusively
evidenced by the Guarantee Trustee's or its agent's taking such action.

         (x) Whenever in the administration of this Guarantee the Guarantee
Trustee shall deem it desirable to receive instructions with respect to
enforcing any remedy or right or taking any other action hereunder, the
Guarantee Trustee (i) may request instructions from the Holders of a Majority in
liquidation amount of the Capital Securities, (ii) may refrain from enforcing
such remedy or right or taking such other action until such instructions are
received, and (iii) shall be protected in conclusively relying on or acting in
accordance with such instructions.

         (xi) The Guarantee Trustee shall not be liable for any action taken,
suffered, or omitted to be taken by it in good faith, without negligence, and
reasonably believed by it to be authorized or within the discretion or rights or
powers conferred upon it by this Guarantee.

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     (b) No provision of this Guarantee shall be deemed to impose any duty or
obligation on the Guarantee Trustee to perform any act or acts or exercise any
right, power, duty or obligation conferred or imposed on it, in any jurisdiction
in which it shall be illegal or in which the Guarantee Trustee shall be
unqualified or incompetent in accordance with applicable law to perform any such
act or acts or to exercise any such right, power, duty or obligation. No
permissive power or authority available to the Guarantee Trustee shall be
construed to be a duty.

Section 2.3       Not Responsible for Recitals or Issuance of Guarantee.
                  -----------------------------------------------------

         The  recitals  contained  in  this  Guarantee  shall  be  taken  as the
statements  of the  Guarantor,  and the  Guarantee  Trustee  does not assume any
responsibility   for  their   correctness.   The  Guarantee   Trustee  makes  no
representation as to the validity or sufficiency of this Guarantee.

Section 2.4       Events of Default; Waiver.
                  -------------------------

     (a) An Event of Default under this Guarantee will occur upon the failure of
the Guarantor to perform any of its payment or other obligations hereunder.

     (b) The Holders of a Majority in liquidation amount of the Capital
Securities may, voting or consenting as a class, on behalf of the Holders of all
of the Capital Securities, waive any past Event of Default and its consequences.
Upon such waiver, any such Event of Default shall cease to exist, and shall be
deemed to have been cured, for every purpose of this Guarantee, but no such
waiver shall extend to any subsequent or other default or Event of Default or
impair any right consequent thereon.

Section 2.5       Events of Default; Notice.
                  --------------------------

     (a) The Guarantee Trustee shall, within 90 days after the occurrence of an
Event of Default, transmit by mail, first class postage prepaid, to the Holders
of the Capital Securities and the Guarantor, notices of all Events of Default
actually known to a Responsible Officer of the Guarantee Trustee, unless such
defaults have been cured before the giving of such notice, provided, however,
that the Guarantee Trustee shall be protected in withholding such notice if and
so long as a Responsible Officer of the Guarantee Trustee in good faith
determines that the withholding of such notice is in the interests of the
Holders of the Capital Securities.

     (b) The Guarantee Trustee shall not be deemed to have knowledge of any
Event of Default unless the Guarantee Trustee shall have received written notice
from the Guarantor or a Holder of the Capital Securities (except in the case of
a payment default), or a Responsible Officer of the Guarantee Trustee charged
with the administration of this Guarantee shall have obtained actual knowledge
thereof.

                                   ARTICLE III

                                GUARANTEE TRUSTEE

Section 3.1       Guarantee Trustee; Eligibility.
                  ------------------------------

     (a) There shall at all times be a Guarantee Trustee which shall:

         (i) not be an Affiliate of the Guarantor, and

         (ii) be a corporation organized and doing business under the laws of
the United States of America or any State or Territory thereof or of the
District of Columbia, or Person

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<PAGE>


authorized under such laws to exercise corporate trust powers, having a combined
capital and surplus of at least 50 million U.S. dollars ($50,000,000), and
subject to supervision or examination by Federal, State, Territorial or District
of Columbia authority. If such corporation publishes reports of condition at
least annually, pursuant to law or to the requirements of the supervising or
examining authority referred to above, then, for the purposes of this Section
3.1(a)(ii), the combined capital and surplus of such corporation shall be deemed
to be its combined capital and surplus as set forth in its most recent report of
condition so published.

     (b) If at any time the Guarantee Trustee shall cease to be eligible to so
act under Section 3.1(a), the Guarantee Trustee shall immediately resign in the
manner and with the effect set out in Section 3.2(c).

     (c) If the Guarantee Trustee has or shall acquire any "conflicting
interest" within the meaning of Section 310(b) of the Trust Indenture Act, the
Guarantee Trustee shall either eliminate such interest or resign to the extent
and in the manner provided by, and subject to this Guarantee.

Section 3.2       Appointment, Removal and Resignation of Guarantee Trustee.
                  ---------------------------------------------------------

     (a) Subject to Section 3.2(b), the Guarantee Trustee may be appointed or
removed without cause at any time by the Guarantor except during an Event of
Default.

     (b) The Guarantee Trustee shall not be removed in accordance with Section
3.2(a) until a Successor Guarantee Trustee has been appointed and has accepted
such appointment by written instrument executed by such Successor Guarantee
Trustee and delivered to the Guarantor.

     (c) The Guarantee Trustee appointed to office shall hold office until a
Successor Guarantee Trustee shall have been appointed or until its removal or
resignation. The Guarantee Trustee may resign from office (without need for
prior or subsequent accounting) by an instrument in writing executed by the
Guarantee Trustee and delivered to the Guarantor, which resignation shall not
take effect until a Successor Guarantee Trustee has been appointed and has
accepted such appointment by an instrument in writing executed by such Successor
Guarantee Trustee and delivered to the Guarantor and the resigning Guarantee
Trustee.

     (d) If no Successor Guarantee Trustee shall have been appointed and
accepted appointment as provided in this Section 3.2 within 60 days after
delivery of an instrument of removal or resignation, the Guarantee Trustee
resigning or being removed may petition any court of competent jurisdiction for
appointment of a Successor Guarantee Trustee. Such court may thereupon, after
prescribing such notice, if any, as it may deem proper, appoint a Successor
Guarantee Trustee.

     (e) No Guarantee Trustee shall be liable for the acts or omissions to act
of any Successor Guarantee Trustee.

     (f) Upon termination of this Guarantee or removal or resignation of the
Guarantee Trustee pursuant to this Section 3.2, the Guarantor shall pay to the
Guarantee Trustee all amounts owing to the Guarantee Trustee under Sections 7.2
and 7.3 accrued to the date of such termination, removal or resignation.

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<PAGE>

                                   ARTICLE IV

                                    GUARANTEE

Section 4.1       Guarantee.
                  ----------

     (a) The Guarantor irrevocably and unconditionally agrees to pay in full to
the Holders the Guarantee Payments (without duplication of amounts theretofore
paid by the Issuer), as and when due, regardless of any defense (except the
defense of payment by the Issuer), right of set-off or counterclaim that the
Issuer may have or assert. The Guarantor's obligation to make a Guarantee
Payment may be satisfied by direct payment of the required amounts by the
Guarantor to the Holders or by causing the Issuer to pay such amounts to the
Holders. (b) The Guarantor hereby also agrees to assume any and all Obligations
of the Issuer and in the event any such Obligation is not so assumed, subject to
the terms and conditions hereof, the Guarantor hereby irrevocably and
unconditionally guarantees to each Beneficiary the full payment, when and as
due, of any and all Obligations to such Beneficiaries. This Guarantee is
intended to be for the benefit of, and to be enforceable by, all such
Beneficiaries, whether or not such Beneficiaries have received notice hereof.

Section 4.2       Waiver of Notice and Demand.
                  ---------------------------

         The Guarantor  hereby waives notice of acceptance of this Guarantee and
of any  liability  to which it  applies or may  apply,  presentment,  demand for
payment, any right to require a proceeding first against the Issuer or any other
Person before proceeding against the Guarantor,  protest,  notice of nonpayment,
notice of dishonor, notice of redemption and all other notices and demands.

Section 4.3       Obligations Not Affected.
                  ------------------------

         The  obligations,  covenants,  agreements  and duties of the  Guarantor
under this  Guarantee  shall in no way be  affected or impaired by reason of the
happening from time to time of any of the following:

     (a) the release or waiver, by operation of law or otherwise, of the
performance or observance by the Issuer of any express or implied agreement,
covenant, term or condition relating to the Capital Securities to be performed
or observed by the Issuer;

     (b) the extension of time for the payment by the Issuer of all or any
portion of the Distributions, Optional Redemption Price, Special Redemption
Price, Liquidation Distribution or any other sums payable under the terms of the
Capital Securities or the extension of time for the performance of any other
obligation under, arising out of or in connection with, the Capital Securities
(other than an extension of time for payment of Distributions, Optional
Redemption Price, Special Redemption Price, Liquidation Distribution or other
sum payable that results from the extension of any interest payment period on
the Debentures or any extension of the maturity date of the Debentures permitted
by the Indenture);

     (c) any failure, omission, delay or lack of diligence on the part of the
Holders to enforce, assert or exercise any right, privilege, power or remedy
conferred on the Holders pursuant to the terms of the Capital Securities, or any
action on the part of the Issuer granting indulgence or extension of any kind;

     (d) the voluntary or involuntary liquidation, dissolution, sale of any
collateral, receivership, insolvency, bankruptcy, assignment for the benefit of
creditors, reorganization, arrangement, composition

                                       9

<PAGE>


or readjustment of debt of, or other similar proceedings affecting, the Issuer
or any of the assets of the Issuer;

     (e) any invalidity of, or defect or deficiency in, the Capital Securities;

     (f) the settlement or compromise of any obligation guaranteed hereby or
hereby incurred; or

     (g) any other circumstance whatsoever that might otherwise constitute a
legal or equitable discharge or defense of a guarantor, it being the intent of
this Section 4.3 that the obligations of the Guarantor hereunder shall be
absolute and unconditional under any and all circumstances.

         There  shall be no  obligation  of the  Holders  to give  notice to, or
obtain  consent of, the  Guarantor  with respect to the  happening of any of the
foregoing.

Section 4.4       Rights of Holders.
                  -----------------

     (a) The Holders of a Majority in liquidation amount of the Capital
Securities have the right to direct the time, method and place of conducting any
proceeding for any remedy available to the Guarantee Trustee in respect of this
Guarantee or to direct the exercise of any trust or power conferred upon the
Guarantee Trustee under this Guarantee; provided, however, that (subject to
Section 2.1) the Guarantee Trustee shall have the right to decline to follow any
such direction if the Guarantee Trustee being advised by counsel determines that
the action or proceeding so directed may not lawfully be taken or if the
Guarantee Trustee in good faith by its board of directors or trustees, executive
committees or a trust committee of directors or trustees and/or Responsible
Officers shall determine that the action or proceedings so directed would
involve the Guarantee Trustee in personal liability.

     (b) Any Holder of Capital Securities may institute a legal proceeding
directly against the Guarantor to enforce the Guarantee Trustee's rights under
this Guarantee, without first instituting a legal proceeding against the Issuer,
the Guarantee Trustee or any other Person. The Guarantor waives any right or
remedy to require that any such action be brought first against the Issuer, the
Guarantee Trustee or any other Person before so proceeding directly against the
Guarantor.

Section 4.5       Guarantee of Payment.
                  ---------------------

         This Guarantee creates a guarantee of payment and not of collection.

Section 4.6       Subrogation.
                  -----------
         The Guarantor shall be subrogated to all (if any) rights of the Holders
of Capital  Securities against the Issuer in respect of any amounts paid to such
Holders by the  Guarantor  under this  Guarantee;  provided,  however,  that the
Guarantor  shall not (except to the extent  required by mandatory  provisions of
law) be entitled to enforce or exercise  any right that it may acquire by way of
subrogation or any indemnity,  reimbursement or other agreement, in all cases as
a result of payment  under this  Guarantee,  if, after giving effect to any such
payment,  any amounts  are due and unpaid  under this  Guarantee.  If any amount
shall be paid to the  Guarantor  in  violation of the  preceding  sentence,  the
Guarantor  agrees to hold such  amount in trust for the  Holders and to pay over
such amount to the Holders.

Section 4.7       Independent Obligations.
                  ------------------------

         The  Guarantor   acknowledges   that  its  obligations   hereunder  are
independent  of the  obligations  of the  Issuer  with  respect  to the  Capital
Securities  and that the  Guarantor  shall be liable as principal  and as

                                       10

<PAGE>

debtor hereunder to make Guarantee Payments pursuant to the terms of this
Guarantee notwithstanding the occurrence of any event referred to in subsections
(a) through (g), inclusive, of Section 4.3 hereof.

Section 4.8       Enforcement by a Beneficiary.
                  ----------------------------

         A Beneficiary may enforce the obligations of the Guarantor contained in
Section 4.1(b) directly against the Guarantor and the Guarantor waives any right
or remedy to require that any action be brought  against the Issuer or any other
person or entity before proceeding against the Guarantor. The Guarantor shall be
subrogated  to all  rights  (if any) of any  Beneficiary  against  the Issuer in
respect of any amounts paid to the  Beneficiaries  by the  Guarantor  under this
Guarantee; provided, however, that the Guarantor shall not (except to the extent
required by mandatory  provisions of law) be entitled to enforce or exercise any
rights that it may acquire by way of subrogation or any indemnity, reimbursement
or other agreement, in all cases as a result of payment under this Guarantee, if
at the time of any such payment,  and after giving  effect to such payment,  any
amounts are due and unpaid under this Guarantee.

                                   ARTICLE V

                    LIMITATION OF TRANSACTIONS; SUBORDINATION

Section 5.1       Limitation of Transactions.
                  --------------------------

         So long as any  Capital  Securities  remain  outstanding,  if (a) there
shall have occurred and be continuing an Event of Default or a Declaration Event
of Default or (b) the  Guarantor  shall have  selected  an  Extension  Period as
provided in the Declaration  and such period,  or any extension  thereof,  shall
have  commenced and be  continuing,  then the Guarantor  shall not and shall not
permit any Affiliate to (x) declare or pay any dividends or distributions on, or
redeem, purchase, acquire, or make a liquidation payment with respect to, any of
the  Guarantor's  or such  Affiliate's  capital  stock  (other than  payments of
dividends or distributions to the Guarantor) or make any guarantee payments with
respect to the  foregoing or (y) make any payment of principal of or interest or
premium,  if any, on or repay,  repurchase or redeem any debt  securities of the
Guarantor or any  Affiliate  that rank pari passu in all respects with or junior
in interest to the Debentures  (other than,  with respect to clauses (x) and (y)
above, (i) repurchases,  redemptions or other  acquisitions of shares of capital
stock of the Guarantor in connection with any employment contract,  benefit plan
or other similar  arrangement  with or for the benefit of one or more employees,
officers,  directors or consultants,  in connection with a dividend reinvestment
or stockholder stock purchase plan or in connection with the issuance of capital
stock of the Guarantor (or securities  convertible  into or exercisable for such
capital stock) as consideration in an acquisition transaction entered into prior
to the  occurrence  of the Event of  Default,  Declaration  Event of  Default or
Extension Period, as applicable,  (ii) as a result of any exchange or conversion
of any class or series of the Guarantor's capital stock (or any capital stock of
a  subsidiary  of the  Guarantor)  for any class or  series  of the  Guarantor's
capital stock or of any class or series of the Guarantor's  indebtedness for any
class or  series  of the  Guarantor's  capital  stock,  (iii)  the  purchase  of
fractional  interests in shares of the Guarantor's capital stock pursuant to the
conversion or exchange  provisions  of such capital stock or the security  being
converted or exchanged,  (iv) any  declaration of a dividend in connection  with
any  stockholders'  rights  plan,  or the  issuance  of  rights,  stock or other
property under any stockholders' rights plan, or the redemption or repurchase of
rights  pursuant  thereto,  (v) any  dividend  in the form of  stock,  warrants,
options or other  rights  where the dividend  stock or the stock  issuable  upon
exercise of such warrants,  options or other rights is the same stock as that on
which the  dividend  is being  paid or ranks  pari  passu with or junior to such
stock and any cash  payments in lieu of  fractional  shares issued in connection
therewith, or (vi) payments under this Guarantee).

                                       11
<PAGE>


Section 5.2       Ranking.
                  -------

         This Guarantee will constitute an unsecured obligation of the Guarantor
and will rank  subordinate  and junior in right of payment  to all  present  and
future Senior  Indebtedness  (as defined in the Indenture) of the Guarantor.  By
their  acceptance  thereof,  each  Holder of  Capital  Securities  agrees to the
foregoing provisions of this Guarantee and the other terms set forth herein.

         The right of the Guarantor to participate in any distribution of assets
of  any  of  its  subsidiaries  upon  any  such   subsidiary's   liquidation  or
reorganization  or otherwise is subject to the prior claims of creditors of that
subsidiary,  except to the extent the  Guarantor  may itself be  recognized as a
creditor of that subsidiary. Accordingly, the Guarantor's obligations under this
Guarantee  will  be  effectively   subordinated   to  all  existing  and  future
liabilities of the Guarantor's  subsidiaries,  and claimants should look only to
the assets of the  Guarantor for payments  hereunder.  This  Guarantee  does not
limit the  incurrence  or issuance  of other  secured or  unsecured  debt of the
Guarantor,  including Senior Indebtedness of the Guarantor,  under any indenture
that the Guarantor may enter into in the future or otherwise.

                                   ARTICLE VI

                                   TERMINATION

Section 6.1       Termination.
                  -----------
         This Guarantee  shall  terminate as to the Capital  Securities (i) upon
full payment of the Optional Redemption Price or Special Redemption Price of all
Capital  Securities then  outstanding,  (ii) upon the distribution of all of the
Debentures  to the Holders of all of the Capital  Securities  or (iii) upon full
payment  of  the  amounts  payable  in  accordance  with  the  Declaration  upon
dissolution of the Issuer.  This Guarantee will continue to be effective or will
be  reinstated,  as the  case  may be,  if at any time  any  Holder  of  Capital
Securities must restore payment of any sums paid under the Capital Securities or
under this Guarantee.

                                  ARTICLE VII

                                 INDEMNIFICATION

Section 7.1       Exculpation.
                  ------------

     (a) No Indemnified Person shall be liable, responsible or accountable in
damages or otherwise to the Guarantor or any Covered Person for any loss, damage
or claim incurred by reason of any act or omission performed or omitted by such
Indemnified Person in good faith in accordance with this Guarantee and in a
manner that such Indemnified Person reasonably believed to be within the scope
of the authority conferred on such Indemnified Person by this Guarantee or by
law, except that an Indemnified Person shall be liable for any such loss, damage
or claim incurred by reason of such Indemnified Person's negligence or willful
misconduct with respect to such acts or omissions.

     (b) An Indemnified Person shall be fully protected in relying in good faith
upon the records of the Issuer or the Guarantor and upon such information,
opinions, reports or statements presented to the Issuer or the Guarantor by any
Person as to matters the Indemnified Person reasonably believes are within such
other Person's professional or expert competence and who, if selected by such
Indemnified Person, has been selected with reasonable care by such Indemnified
Person, including information, opinions, reports or statements as to the value
and amount of the assets, liabilities, profits, losses, or any other facts

                                       12
<PAGE>


pertinent to the existence and amount of assets from which Distributions to
Holders of Capital Securities might properly be paid.

Section 7.2       Indemnification.
                  ---------------
     (a) The Guarantor agrees to indemnify each Indemnified Person for, and to
hold each Indemnified Person harmless against, any and all loss, liability,
damage, claim or expense incurred without negligence or willful misconduct on
the part of the Indemnified Person, arising out of or in connection with the
acceptance or administration of the trust or trusts hereunder, including, but
not limited to, the costs and expenses (including reasonable legal fees and
expenses) of the Indemnified Person defending itself against, or investigating,
any claim or liability in connection with the exercise or performance of any of
the Indemnified Person's powers or duties hereunder. The obligation to indemnify
as set forth in this Section 7.2 shall survive the resignation or removal of the
Guarantee Trustee and the termination of this Guarantee.

     (b) Promptly after receipt by an Indemnified Person under this Section 7.2
of notice of the commencement of any action, such Indemnified Person will, if a
claim in respect thereof is to be made against the Guarantor under this Section
7.2, notify the Guarantor in writing of the commencement thereof; but the
failure so to notify the Guarantor (i) will not relieve the Guarantor from
liability under paragraph (a) above unless and to the extent that the Guarantor
did not otherwise learn of such action and such failure results in the
forfeiture by the Guarantor of substantial rights and defenses and (ii) will
not, in any event, relieve the Guarantor from any obligations to any Indemnified
Person other than the indemnification obligation provided in paragraph (a)
above. The Guarantor shall be entitled to appoint counsel of the Guarantor's
choice at the Guarantor's expense to represent the Indemnified Person in any
action for which indemnification is sought (in which case the Guarantor shall
not thereafter be responsible for the fees and expenses of any separate counsel
retained by the Indemnified Person or Persons except as set forth below);
provided, however, that such counsel shall be reasonably satisfactory to the
Indemnified Person. Notwithstanding the Guarantor's election to appoint counsel
to represent the Guarantor in an action, the Indemnified Person shall have the
right to employ separate counsel (including local counsel), and the Guarantor
shall bear the reasonable fees, costs and expenses of such separate counsel if
(i) the use of counsel chosen by the Guarantor to represent the Indemnified
Person would present such counsel with a conflict of interest, (ii) the actual
or potential defendants in, or targets of, any such action include both the
Indemnified Person and the Guarantor and the Indemnified Person shall have
reasonably concluded that there may be legal defenses available to it and/or
other Indemnified Person(s) which are different from or additional to those
available to the Guarantor, (iii) the Guarantor shall not have employed counsel
satisfactory to the Indemnified Person to represent the Indemnified Person
within a reasonable time after notice of the institution of such action or (iv)
the Guarantor shall authorize the Indemnified Person to employ separate counsel
at the expense of the Guarantor. The Guarantor will not, without the prior
written consent of the Indemnified Persons, settle or compromise or consent to
the entry of any judgment with respect to any pending or threatened claim,
action, suit or proceeding in respect of which indemnification or contribution
may be sought hereunder (whether or not the Indemnified Persons are actual or
potential parties to such claim or action) unless such settlement, compromise or
consent includes an unconditional release of each Indemnified Person from all
liability arising out of such claim, action, suit or proceeding.

Section 7.3       Compensation; Reimbursement of Expenses.
                  ----------------------------------------
         The Guarantor agrees:

                                       13

<PAGE>

     (a) to pay to the Guarantee Trustee from time to time such compensation for
all services rendered by it hereunder as the parties shall agree to from time to
time (which compensation shall not be limited by any provision of law in regard
to the compensation of a trustee of an express trust); and

     (b) except as otherwise expressly provided herein, to reimburse the
Guarantee Trustee upon request for all reasonable expenses, disbursements and
advances incurred or made by it in accordance with any provision of this
Guarantee (including the reasonable compensation and the expenses and
disbursements of its agents and counsel), except any such expense, disbursement
or advance as may be attributable to its negligence or willful misconduct.

         The  provisions  of this Section 7.3 shall survive the  resignation  or
removal of the Guarantee Trustee and the termination of this Guarantee.

                                  ARTICLE VIII

                                  MISCELLANEOUS

Section 8.1       Successors and Assigns.
                  -----------------------

         All guarantees and  agreements  contained in this Guarantee  shall bind
the  successors,   assigns,  receivers,  trustees  and  representatives  of  the
Guarantor  and  shall  inure  to the  benefit  of  the  Holders  of the  Capital
Securities   then   outstanding.   Except  in  connection  with  any  merger  or
consolidation of the Guarantor with or into another entity or any sale, transfer
or lease of the  Guarantor's  assets to another  entity,  in each  case,  to the
extent permitted under the Indenture, the Guarantor may not assign its rights or
delegate its obligations  under this Guarantee without the prior approval of the
Holders of at least a Majority in liquidation amount of the Capital Securities.

Section 8.2       Amendments.
                  ----------

         Except with  respect to any changes  that do not  adversely  affect the
rights of Holders of the Capital  Securities  in any material  respect (in which
case no consent of Holders will be required), this Guarantee may be amended only
with  the  prior  approval  of the  Holders  of not  less  than  a  Majority  in
liquidation amount of the Capital  Securities and the Guarantor.  The provisions
of the  Declaration  with respect to  amendments  thereof apply to the giving of
such approval.

Section 8.3       Notices.
                  -------

         All notices  provided for in this Guarantee  shall be in writing,  duly
signed by the party giving such notice,  and shall be  delivered,  telecopied or
mailed by first class mail, as follows:

(a) If  given to the  Guarantee  Trustee,  at the  Guarantee  Trustee's  mailing
address set forth below (or such other address as the Guarantee Trustee may give
notice of to the Holders of the Capital Securities and the Guarantor):

        State Street Bank and Trust Company of Connecticut, National Association
        225 Asylum Street, Goodwin Square
        Hartford, Connecticut  06103
        Attention:  Corporate Trust Department
        Telecopy:  860-244-1889

                                       14

<PAGE>


        With a copy to:


        State Street Bank and Trust Company
        P.O. Box 778
        Boston, Massachusetts  02102-0778
        Attention:  Paul D. Allen, Corporate Trust Department
        Telecopy:  617-662-1462


     (b) If given to the Guarantor, at the Guarantor's mailing address set forth
below (or such other address as the Guarantor may give notice of to the Holders
of the Capital Securities and to the Guarantee Trustee):

                  Penn-America Group, Inc.
                  420 South York Road
                  Hatboro, Pennsylvania 19040
                  Attention:  Garland P. Pezzuolo
                  Telecopy:  215-443-3603


     (c) If given to any Holder of the Capital Securities, at the address set
forth on the books and records of the Issuer.

         All such  notices  shall be deemed to have been given when  received in
person,  telecopied  with  receipt  confirmed,  or mailed by first  class  mail,
postage  prepaid,  except that if a notice or other document is refused delivery
or cannot be  delivered  because  of a changed  address  of which no notice  was
given,  such notice or other  document shall be deemed to have been delivered on
the date of such refusal or inability to deliver.

Section 8.4       Benefit.
                  -------

         This  Guarantee  is solely for the  benefit of the  Beneficiaries  and,
subject to Section  2.1(a),  is not  separately  transferable  from the  Capital
Securities.

Section 8.5       Governing Law.
                  -------------

         THIS GUARANTEE  SHALL BE GOVERNED BY, AND CONSTRUED AND  INTERPRETED IN
ACCORDANCE WITH, THE LAW OF THE STATE OF NEW YORK, WITHOUT REGARD TO CONFLICT OF
LAWS  PRINCIPLES  THEREOF  (OTHER THAN  SECTION  5-1401 OF THE NEW YORK  GENERAL
OBLIGATIONS LAW).

Section 8.6       Counterparts.
                  -------------

         This  Guarantee  may be executed in one or more  counterparts,  each of
which shall be an original, but all of which taken together shall constitute one
and the same instrument.

Section 8.7       Separability.
                  ------------

         In case one or more of the provisions contained in this Guarantee shall
for any reason be held to be invalid,  illegal or  unenforceable in any respect,
such  invalidity,  illegality  or  unenforceability  shall not  affect any other
provisions of this  Guarantee,  but this Guarantee shall be construed as if such
invalid or illegal or unenforceable provision had never been contained herein.


                                       15

<PAGE>


                     Signatures appear on the following page



                                       16

<PAGE>

         THIS GUARANTEE is executed as of the day and year first above written.



                    PENN-AMERICA GROUP, INC., as Guarantor

                    By:
                      ------------------------------------
                             Name:
                             Title:



                    STATE STREET BANK AND TRUST COMPANY OF CONNECTICUT, NATIONAL
                    ASSOCIATION, as Guarantee Trustee

                    By:
                      ------------------------------------
                             Name:
                             Title:




                                       17