The
most important thing to realise about guarantees is that when it comes to
payment, the liability of the guarantor will include the unpaid principal and
interest which continues to accrue at a compound rate of interest.
Compounding
of interest means that interest is added to principal annually and interest
continues to accrue on the sum of both. Over time, the result of compounding of
interest means that the amount of interest owing may well exceed by several
times the original amount of the loan.
The
longer the loan remains unpaid, the greater the effect of compounding and the
greater the liability of the guarantor, which continues to grow at a compound
rate until discharged.
It
is usual for banks lending to developer borrowers to request personal
guarantees from the personal owners of the development company borrower.
This
practice is widespread and is regarded as “additional security” for the loan
and has several attractions to lending banks. Firstly, the personal guarantor
becomes a mark for repayment of the loan.
Secondly,
it ties the guarantor into personally managing the affairs of the borrower so
as to limit his credit exposure to the Bank. And, thirdly, it helps to secure
the Bank’s ability to trace realised profits from the underlying commercial
transaction in the hands of the personal guarantor.
The
value of a personal guarantee is directly related to the net worth of the
individual who has agreed to give the guarantee and so the law requires
particular formalities to be observed by the person giving a guarantee so as to
impress the personal nature of the obligation incurred by providing a
guarantee.
ENFORCEMENT
OF A JUDGMENT
To
recover under a guarantee, a bank must first obtain judgment. However, it is
one thing to have indebtedness declared by the court; it is another thing
entirely to recover money from the judgment debtor. It can often be the case
that on securing judgment, it is discovered that the judgment debtor has no
available assets under his control against which the judgment debts may be
enforced.
There
are a number of enforcement procedures open to banks and the available options
include:
Registration
of a judgment - the bank can register the judgment in the High Court. Upon
registration, it will generally be listed in any judgment search which is
carried out against the individual and recorded in such publications as
Experian Gazette.
Seizure
by the sheriff - upon lodging the appropriate documentation in the High
Court and forwarding it to the county sheriff, the bank can direct the
county sheriff to attend at the debtor's premises and seize the debtor’s
goods. The sheriff will then sell the goods and pay the proceeds to the
bank, less the expenses of the execution.
Attachment
of debts/garnishee order – this procedure enables the bank to recover
monies which are owing by third parties directly to the judgment debtor.
Such third parties could include a trade creditor or a solicitor holding
funds on behalf of the judgment debtor.
Judgment
mortgage –This enables a judgment creditor (such as a bank) to register a
mortgage against the judgment debtors land. Obviously if there are other
previous charges/mortgages on the land, these will take priority to this
judgment mortgage.
Installment
order – The court may order the debtor to pay the debt either in one
payment or by installments. If the debtor has not paid the installments as
they fall due, the creditor can issue a summons for the arrest and
imprisonment of the debtor.
Bankruptcy
– if an act of bankruptcy occurs (i.e. if the debtor fails to pay the sum
referred to in the bankruptcy summons or if a return of no goods has been
made by the county sheriff), the bank can issue a bankruptcy petition
seeking to declare the individual a bankrupt.
FINANCIAL
REGULATOR’S CODE
OF CONDUCT
In
February 2009, the Financial Regulator issued two mandatory Codes of Conduct in
respect of Business Lending to Small and Medium Enterprises and Mortgage
Arrears which limit the freedom which lenders have enforce personal guarantees
over personal private residences.
The
Code dealing with Business Lending to Small and Medium Enterprises and Mortgage
Arrears provides that any enforcement of a personal guarantee over a principal
private residence must be in accordance with the Code of Conduct on Mortgage
Arrears.
The
most significant provision of the Code of Conduct on Mortgage Arrears requires
borrowers to wait at least six months from the time arrears arise, before
taking repossession proceedings.
The
Code of Conduct on Mortgage Arrears further provides that lenders must not seek
repossession of property until every reasonable effort has been made to agree
an alternative repayment schedule with the borrower or his/her nominated representative.
Given that many loans to property developers would have employed complex
corporate structures, the requirement that every reasonable effort is taken to
agree an alternative repayment schedule may in practice lead to significant
time delays as discussing the myriad of repayment possibilities may prove to be
a protracted affair.
IMPACT
OF NAMA
We
think that there are good reasons to believe that NAMA may well adopt a
different approach to recovery under personal guarantees.
Experience
of other bad-bank regimes such as the Resolution Trust Corporation in the US
during the early 90’s indicates that the RTC attributed a zero value across the
board to personal guarantees in connection with defaulted loans; while at the
same time made release of obligations under personal guarantees conditional on
compliant conduct by individual developers.
We
are not suggesting that NAMA is bound to follow the approach used in other
cases. However, we are recommending to clients to endeavor to stay in the game
until the next round when NAMA is up and running.
Jill Callanan
Joe Gavin
LK Shields Solicitors is
one of the leading law firms in Ireland. Founded in 1988, today they number
some 24 Partners, 70+ fee earners and 130 staff. Their principal areas of practice
include corporate, litigation and dispute resolution, commercial property,
intellectual property, financial services, employment, pensions and employee
benefits.
