Business Law 101 -SURETY AND GUARANTEES

By Albert L. Kelley

Most 18 year olds haven’t had a chance to develop sufficient credit histories to allow them to make major purchases, such as cars or houses. Often times, even leasing property can be difficult because the landlord may not be sure if they can pay the rent for the property. Rather than telling these young people that they cannot buy a car or house until they have developed a credit history, the Seller (or Landlord) may request that the Buyer have someone sign a document assuring that all payments will be made. This document is known as a guarantee or a surety.

A guarantee is a secondary contract that binds the third party (in the above example, perhaps the Buyer’s parents) to pay any debt or obligation of the Buyer, if the Buyer doesn’t pay. The third party is known as a guarantor or surety, the Buyer is known as the debtor and the Seller becomes known as the obligee or creditor.

Sureties and guarantees serve similar purposes, but there is a slight difference between the two. A surety is liable for the debt immediately upon default by the debtor, without the Creditor having to first proceed against the debtor. However, under a guarantee, the creditor generally must seek payment from the debtor first and only after failing to collect can he turn to the guarantor. An exception to this is the absolute guarantee which acts the same as a surety.

Guarantees and Sureties are not used only for 18 year olds buying cars. They also are used often for any person with credit problems and are often required when a corporation desires to enter into a lease for commercial property. Many landlords realize that if a company falls on hard times they can declare bankruptcy and discharge the lease debt; however, if the principle shareholder or director signs a personal guarantee they remain personally liable for the lease debt, even if the company fails.

Guarantees and sureties are contracts and therefore the same requirements to the formation of a contract are required. Because of the nature of the contract, a guarantee or surety must be in writing. Under Florida’s Statute of Frauds, any agreement to pay the debt of another person must be in writing or it is not enforceable. Further, if the guarantee is entered into at the same time as the original sale or lease contract, separate consideration is usually not required for the guarantee, however if it is created after the original transaction, there must be an additional consideration paid.

Not every default will require a surety or guarantor to pay the debt. If the surety fears the debtor will fail on his payments putting the surety into an endangered position, the surety can notify the creditor to take action against the debtor. If the creditor can proceed against the debtor and fails to do so, the surety is then released from liability. If the surety pays the debt, he then takes the pace of the creditor and can proceed against the debtor for collection. This is referred to as subrogation, where the surety steps into the place of the creditor. In addition, the surety is entitled to indemnification from the debtor and can proceed against him for reimbursement. If there are two or more sureties and one takes on payment of the debt, he may require the other sureties to contribute their portion of the debt to him.

Of danger to the surety is bankruptcy. If the debtor files for bankruptcy, the surety is not released from liability. This is the risk that guarantors and sureties undertake. The failure of the debtor to pay can affect the credit of the guarantor.

Al Kelley is a Florida business law attorney located in Key West and previously taught business law, personnel law and labor law at St. Leo University. He is also the author of “Basics of Business Law” and “Basics of Florida’s Small Claims Court” (Absolutely Amazing e-Books). This article is being offered as a public service and is not intended to provide specific legal advice. If you have any questions about legal issues, you should confer with a licensed Florida attorney.

[livemarket market_name="KONK Life LiveMarket" limit=3 category=“” show_signup=0 show_more=0]