Financiers, including banks, regularly require a surety bond from the DGA or his holding company when providing financing to SMEs. In this way, they ensure that the private person behind the company is actually involved in repaying the loan. Another way to ensure that an affiliate co-commits to a bank's credit or loan is joint and several liability.
Are you a business owner that provides financing? If so, a surety bond offers you the personal involvement of the company's DGA. Are you business owner being asked by your lender for a surety bond or joint and several liability? If so, it is important that you know what a surety bond is, how it differs from joint and several liability, and what defenses are available against the enforcement of a surety bond.
In this article, Heleen Wessel-Krijger discusses what a (private) surety bond is, how it differs from a joint and several liability bond, how a surety or related party can best defend itself and what defenses a creditor should be aware of.
In our series of articles on security interests, Heleen Wessel-Krijger previously wrote about how the mortgage lien is the most secure way to get your money back. This article discusses the personal security interests of surety and joint and several co-debt.
What is a (private) surety bond and what are its characteristics?
A surety bond is an agreement whereby the surety undertakes to a creditor for the performance of the obligations of a principal debtor (a third party) to the creditor.
Depending
A bail bond depends on the obligation of the principal debtor. If the principal debtor fulfills his obligations and pays the creditor in full, the bail lapses. In principle, the surety can also rely on the defenses of the principal debtor.
An illustrative example. If the principal debtor has obtained a moratorium on payments or invokes a right of suspension because the principal debtor is not fulfilling its agreements, the guarantor can also invoke this.
Subsidiary character
A surety is of a subsidiary nature. This means that, in principle, a surety is only obliged to pay the debt if the principal debtor fails to fulfill his obligations (and is in default).
If a guarantor pays for the principal debtor, then by law he has a recourse claim against the principal debtor. This allows him to recover for the debt he has paid, but which does not concern him.
Private bail
If a DGA has guaranteed in private and not through his holding company, then there may be a private surety bond. This is so when the surety is entered into:
- the DGA is not acting in the "normal course" of his profession or business (of the NV or BV) of which he is a director; and
- the DGA alone or with co-directors holds the majority of the shares.
A private guarantor is subject to a number of protective provisions. By law, a contract may not deviate from these provisions. Consider a maximum amount if the amount of the principal commitment is not fixed and a requirement for writing.
What is joint and several co-debtor liability?
A party who co-commits to fulfill the obligations of a debtor becomes a co-debtor. The creditor can decide whom to sue: the principal debtor or the co-debtor. He does not first have to wait until the principal debtor is in default to sue the co-debtor - as in the case of a bail bond - but can independently determine whom he summons to pay the outstanding debt.
No dependency
The dependent nature of a surety does not play a role in joint and several liability. The creditor can dispose of any of his claims/claims against his debtors and transfer them to another, for example.
No subsidiary character
Unlike a bail bond, in joint and several liability the subsidiary nature of the claim is not present. The creditor has an independent right of action against each of the jointly and severally liable persons.
Recourse
With regard to the right of recourse, the co-debtor has a claim against his other co-debtors only to the extent that he has paid more to the creditor, than his debt assumes.
Defend
Despite an obligation being described as a surety or as a joint and several liability, what matters in the end is the actual characteristics of the obligation. If the obligation does not involve the guarantor/principal liable party and that party actually holds himself liable for another (the principal debtor), then it is legally a bailment.
Inform
As a rule, a guarantor must be informed simultaneously by the creditor about the default of the principal debtor. This is different if, for example, this is excluded in the general terms and conditions of the creditor/financier. The background to this is that the guarantor can still urge the principal debtor to fulfill its obligations.
Written consent
For private guarantors, more stringent requirements apply, such as the requirement of writing and a maximum amount if the amount of the debt is not certain. If the financing for the benefit of which the surety is provided did not take place in the normal course of one's profession or business (or public limited company or private limited company; see above), the express written consent of the spouse or registered partner is required. If there is no such consent, then the bail may be voided by spouse or registered partner.
Financiers and especially banks nowadays actually always ask for this written consent, even if there is no private bailment. In this way, they want to avoid any future discussions on this point.
Conclusion
As a lender, a bond or joint and several liability of the person behind the financed business is a personal security. It makes that person do his utmost to repay the loan or credit. After all, as much as possible, a private person wants to avoid becoming privately liable for his company's debt.
As a guarantor or joint and several obligor, it is advisable to carefully consider whether a surety bond or joint and several liability is really required and whether there are not other collateral securities, such as a mortgage or pledge, that provide the lender with sufficient security for the repayment of the amount lent.
Do you have questions about financing your business on a surety or joint and several liability basis? Heleen Wessel-Krijger is available to assist you using the information below.
