In previous blog posts we have written about the possible defences which can be mounted against a claim under a personal guarantee. In this blog post we round up some of these defences, and also look at the possibility of defending a personal guarantee on the basis that the guarantor was induced to consenting to the personal guarantee by force and fear instilled in the guarantor by the principal debtor.
We will now consider 5 potential defences below:
1. BAD FAITH
In some circumstances a bank will be under an implied duty to act fairly and in good faith towards a customer. When does such a duty arise? You may be surprised to learn that there is no such automatic duty on a bank – the obligation of good faith will only arise in certain prescribed circumstances.
2. FIDUCIARY RELATIONSHIP
The first is where the relationship between bank and customer can be described as a fiduciary one. This is not a given - in straightforward banking relationships a lender is generally in an arm’s length relationship with its customer, and so will not be under any enhanced duty or obligation to its customer.
However, the changing nature of banking and financial services, and the ever-increasing sophistication of finance has resulted in lenders seeking actively to provide a greater array of financial services and products to customers. As a result there is a greater dependence on banks and greater expectations of them, with the result that the traditional “arms length” relationship is altered, and a “fiduciary” relationship between bank and customer is created.
This is most likely to arise where the bank assumes some responsibility for the customer, assisting it to make decisions about banking and lending, and perhaps providing advice or recommendations as to the appropriate financial product for the customer. This is obviously heavily fact dependent and will depend in each case on the particular relationship between bank and customer.
But where a fiduciary relationship can be said to exist between bank and customer, the bank will then come under a duty to act in good faith towards its customer. If it can then be argued that the bank breached that duty of good faith, perhaps by misleading the customer, placing them under undue pressure or duress, breaching promises, transferring funds without authorisation, or otherwise acting in a way that is clearly contrary to the customer’s interests, then the bank may lose the right to enforce any guarantee given to it in connection with that customer’s borrowing, and a court may in certain circumstances decline to enforce a guarantee where there has been bad faith on the part of the bank.
3. GOOD FAITH - “LONG TERM RELATIONAL CONTRACT”
There can be an obligation of good faith owed even if there isn’t a fiduciary relationship between the parties. A duty to act in good faith can arise where the parties have been in a contractual relationship for some years with continuing and mutual contractual obligations back and forth between them – as opposed to a one-off transactional contract, and so are said to be in a long term “relational” contract.
This is a label which can often be ascribed to many banking relationships where the connection between bank and company is long standing. In these sorts of long standing banking relationships a duty of good faith will very often arise and again, where the bank can be said to have acted in bad faith, the bank may lose the right to enforce any guarantee given to it in connection with that customer’s borrowing.
Logically, the behaviour on the part of the bank being characterised as bad faith is behaviour evidenced towards the debtor company, as opposed to behaviour towards the guarantor, because the bank’s customer is the debtor company. So why should a bank acting in bad faith towards its customer mean that a guarantee provided by a separate third party, the guarantor, should be treated as void?
The answer lies in the principle that a guarantor can “step into the shoes” of the principal debtor (ie the company) and can rely on any arguments that would have been available to the principal debtor. If a guarantor were not able to do so, the logical consequence of being prevented from doing so would be that a bank could behave appallingly to a company safe in the knowledge that so long as the company was liquidated and unable to sue in its own right for the bank’s wrongdoing, any guarantor of the company would be unable to use the arguments the company could have used. Effectively a guarantor would have both hands tied behind his back and would be powerless to challenge the bank’s wrongdoing.
4. FORCE AND FEAR
Occasionally, particularly where there is a close personal relationship between a debtor (or a company which that person owns) and a guarantor, the debtor will place significant pressure on the third party to provide the guarantee for the debts.
Under Scots law in this kind of situation the bank taking the guarantee has an obligation to warn the guarantor of the risks of providing such a guarantee, such as the possibility that they could lose their home and/or become liable for all of the principal debtor’s debt, and an obligation to recommend that the guarantor take independent legal advice. Where such advice has not been provided to the guarantor, it is possible to argue that the personal guarantee should not be enforced.
However, what happens if the bank has recommended to the guarantor that independent legal advice should be taken, but the guarantor is in such fear of the principal debtor that the advice makes little difference to the outcome? This kind of situation may arise where there has been a long history of abusive relationship between husband and wife, such that the wife is in practical terms living in fear of her husband.
Over time the wife has become so cowed by verbal or physical abuse that when she is told by her husband that she must sign a guarantee either for his debts or the debts of the company, she feels that she has no option but to do so - her will has become so subjugated by her husband’s intimidating and aggressive behaviour that her normal will and resistance have been overcome by force and fear.
In this situation there is an argument that the wife has not freely and voluntarily given her consent to the personal guarantee. It matters not that in this scenario the bank are not implicated in the conduct of the husband nor that they were unaware of the circumstances in which the wife had to sign documents that her husband told her to sign.
If it can be said that the husband’s abusive conduct was such to overpower the will of a person of ordinary firmness, taking into account the fact that the wife had been worn down by his behaviour over a number of years, then in this type of situation there is a clear argument that the personal guarantee should be held to be void and cannot be enforced by the bank.
5. NEGLIGENT MISREPRESENTATION
As the recent case of RBS v O Donnell & McDonald shows, personal guarantees can also be held to be void where the giving of the PG was induced by a negligent misrepresentation. The misrepresentation must be the thing that actually causes the guarantor to sign up to the guarantee, but where it can clearly be shown that a misrepresentation was made by the bank in discussions with the guarantor, this can be sufficient to void the guarantee.
In the O'Donnell case the guarantors were advised that the bank had obtained a valuation of a site and asked for additional security in the form of a personal guarantee to make up the shortfall between the debt and the valuation. On the strength of the valuation the directors of the debtor company signed a personal guarantee for £300,000.
However, unbeknownst to them, the valuation which the bank had obtained, and which was not shown to the directors, contained a caveat that the valuation was for indicative purposes only and was not to be relied upon for lending or security purposes. It was held both at first instance, and upheld on appeal, that this constituted a misrepresentation, and that, on the evidence, the directors would not have given the guarantee had they known that the valuation was indicative only.
It is important to distiguish between promises as the future on the one hand, and misrepresentation on the other. A promise to do something at some point in the future cannot be a misrepresentation as it is a "statement of future intent".
However, a factual assertion can be a misrepresentation if it is false at the time of making. For example, all if a bank had advised a prospective guarantor that all the conditions precedent which were required by the bank for the purpose of company borrowing had been met, but this was not in fact true, this could constitute a misrepresentation and if the assertion about the conditions precedent induced the guarantor to guarantee the debts of the borrower company, this could be sufficient to void the guarantee.
If any of these issues sound familiar, and you are being pursued by your bank in relation to a guarantee you have given, please do not hesitate to contact us on 0131 226 8200.