24 March 2021

Guarantees – the devil is in the detail.

Cavell Leitch


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Recent SC decision demonstrates the importance of guarantees being recorded and executed correctly.
New Zealand Finance and Banking
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Guarantees are intended to provide surety in respect of lending agreements, but what happens when they are not documented correctly?

A recent decision of the Supreme Court, Brougham v Regan & Jefferey as trustees of Winchester Trust [2020] NZSC 118, demonstrates the importance of guarantees being recorded and executed correctly.

The background

The trustees of the Winchester Trust agreed to lend money to a company set up by Mr Brougham and Ms Dey.

The loan to the company was recorded in a term loan agreement which contained a condition precedent that any persons named as guarantor must have signed a separate deed of guarantee and indemnity in an approved form.

In contrast, the terms of the loan provided that a person signing the agreement as covenantor agreed to comply with the obligations in the loan agreement, in other words no separate document recording the obligations of the covenantor was required.

Ms Dey and Mr Brougham were both listed on the agreement as "Guarantors", with the description "Covenantors" crossed out. They both signed the document as directors however only Mr Brougham signed as guarantor. No separate guarantee document was ever prepared or signed.

The trustees subsequently took steps to enforce the guarantee against Mr Brougham. The main issue was whether the loan agreement met the requirement under s27(2) of the Property Law Act 2007 that the guarantee is recorded "in writing". Whilst there was a written loan agreement, the key question was whether s27 required the express terms of the guarantee to be in the signed document.

Requirement for guarantee to be in writing

Mr Brougham said that the loan agreement was predicated on the assumption a separate guarantee would be executed, which never happened. The trustees argued that the loan agreement met the requirements of s27 even though there were no express provisions in the loan agreement as to what the guarantor covenanted to do.

The Supreme Court found that whilst Mr Brougham did sign a document, it was not a contract of guarantee, and he was therefore not liable as guarantor. The Court noted the consumer protection purpose of s27(2) would not be met if a person who signed a document describing them as guarantor, but otherwise containing no provision of such a guarantee, was found to be liable as guarantor. That was said to be especially so where the document represented first, that there were to be two guarantors, and second that execution of a separate guarantee was a condition precedent to the loan being made.

Effect of signing by only one guarantor

Mr Brougham also argued that the guarantee was unenforceable in any event as it provided for two guarantors to sign but only one did so.

The Court dealt only briefly with this argument, noting that the issue was one of construction of the guarantee document. If the form of the document showed it was intended to be a joint composite guarantee which assumes all sureties will sign, that guarantee would require the signature of all guarantors to be valid.

In this case the Court observed that they did not see anything in the terms of the loan agreement displacing the default position that, where a guarantee document provides that more than one guarantor is required to sign and only one does, the one who signs is not liable.

Equitable estoppel and specific performance

The trustees also sought to argue that if the loan agreement was not an effective guarantee, then Mr Brougham was estopped from relying on its invalidity to avoid his guarantee obligations. They said that they had loaned money in reliance on Mr Brougham's guarantee and that it would be unconscionable for him to subsequently resile from that promise.

The difficulty however with such an argument is that it would seemingly deprive s27(2) of having any practical effect. The Court considered that something more, such as a representation that the alleged guarantor would honour the guarantee despite the fact it was not in writing, would be needed to establish an estoppel. In this case Mr Brougham did not give any such assurance and so the estoppel argument failed.

An alternative argument of specific performance was also rejected by the Court on the basis there was no covenant of guarantee in the loan agreement to seek performance of.

How can you ensure your guarantees are enforceable?

This case shows that real care needs to be taken both in terms of the wording of loan and guarantee documents, and also in the manner in which they are executed.

It is essential that the terms of any guarantee are recorded in writing, and that any preconditions, such as the requirement for a separate guarantee document, are met. In practice, it would be best for the terms of guarantee to be included in the lending documents, rather than being left to be documented separately.

When it comes time to execution, it is important to have procedures in place to ensure that all borrowers and guarantors have correctly signed the documents before funds are advanced.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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