A guarantor is an individual who gives an assurance to settle another person’s debt if the debtor fails to return the money borrowed. Guarantors are also called sureties and are a sort of co-signor in that they put forward their own assets in case the debtor fails to fulfil their loan obligation. The party who has to fulfil the loan obligation is called the principal or the primary obligor while the one to whom the loan obligation is owed is the counterparty or obligee.
Normally, an individual or company would need to provide a guarantor if their ability to fulfil a loan obligation is in doubt, especially if they have a limited or poor credit history. A common situation where this would apply is when a person with a low credit score needs to get a line of credit; the bank may require that he or she present a guarantor before the bank will complete the request for a line of credit. A guarantor would also be required to protect a private or public interest if the repercussions of the principal’s default would affect such an interest.
Majority of common law jurisdictions demand that a surety bond or a contract of suretyship be contingent on the Statute of Frauds or other such laws applicable to the specific locality, and can only be enforced if the agreement is in written format, signed by the principal and the guarantor.
Also called “surety”, a surety bond is an agreement whereby the guarantor promises to pay for the principal’s debt in case he or she fails to fulfil a loan obligation. A surety bond is a contract involving at least three parties including the principal, the guarantor, and the creditor.
In European countries, surety companies and banks can issue surety bonds. While they are called bonds or surety when issued by a surety company, they are called “Bank Guaranties” when issued by a bank. In a situation where the principal defaults and fails to fulfil his loan obligations to the lender, the surety company or bank will make enough payment to cover the penal sum.
The principal will normally have to pay an annual premium for the opportunity to leverage the financial strength of the bonding company to extend surety credit.
The penal sum is a key term in almost every surety bond. It is the maximum amount of money which the guarantor will have to pay in case the principal fails to fulfil his debt obligation. The penal sum helps the bonding company to determine the appropriate premium to be paid by the principal. It also allows the guarantor to evaluate the risk which comes with providing the bond.
When the principal fails to meet the loan obligation and the guarantor is required to make payment, they law would normally grant the guarantor a right of subrogation. Subrogation is a doctrine in law whereby an individual is given the right to exact the subsisting rights of another party for their own benefit. With the right of subrogation, the guarantor is able to step into the principal’s shoes and use the rights given to him or her in the contract to recoup whatever amount he or she spent on the principal. The guarantor is able to do this even without making an explicit agreement with the principal.
Meanwhile, if a situation arises where there is a claim, the surety who may be a bank or surety company, will embark on investigations. If the claims happen to be valid, the guarantor will make payment and later look to the principal for a refund of the charges paid on the claim, including all legal fees. In certain scenarios, the principal will have a ‘cause of action’ against another individual for the loss incurred by the principal. In such situations, the guarantor will be able to use the right of subrogation to reclaim damages on behalf of the principal.
Sometimes, a principal will default and the guarantor will be found to be bankrupt or insolvent, rendering the basis for the bond worthless. This is why an insurance company is often a preferred surety because its solvency can be verified by governmental regulations or private audit, and in some cases, both.
Originally, a guaranty was distinguished from a surety but both were similar in that the obligee is able to recover costs from a third party if the principal happens to default on his or her obligation. The difference was in the case of a surety arrangement; the creditor was able to attempt retrieving debt from either the principal or the surety without having to consult with the other. In the case of a guarantor agreement, the creditor would first have to attempt retrieving debt from the principal before going to the guarantor for compensation. Today, this distinction has been thrown out by many jurisdictions and all guaranties now assume the place of the surety.
A tenant guarantor is an individual who takes on the responsibility of making payment on behalf of a tenant in the event that the tenant is not able to fulfil their obligations as stipulated in the tenancy agreement. These obligations may be in regard to damage to the property or rent arrears. Once a person signs a surety bond, he or she is bound by the law to bear the liabilities of the tenant. This means the landlord is allowed to go after the guarantor for the money he or she is being owed if the tenant is unable to pay.
While a guarantor is often a relative or friend of the tenant who has agreed to back up the tenant on his or her ability to pay and bear the burden in the case of a default, any person can assume the position of a guarantor. The only requirement for being a guarantor is the individual’s ability to bear the tenant’s liability has to be proven.
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