UNPACKING THE CRUCIAL CONSIDERATIONS WHEN AGREEING TO SURETYSHIP

It is common when seeking a loan from a financial institution such as student loan or business loan to be required by the financial institution to provide it with security in the event of debtor’s default in repaying the loan. A surety which essentially means a third party who undertakes to repay the loan in the event of a debtor defaulting in settling the debt, is one of the means that financial institutions use as a security in respect of securing themselves from a loan agreement.

The third party (surety) enters into a suretyship agreement with the creditor usually a financial institution. The obligations of the debtor under the loan agreement thereafter become binding on all the parties into the agreement. However, the obligation of the surety to repay the debt only comes into effect in the event the debtor has defaulted in repaying the loan. When agreeing to a suretyship, it is essential to understand that the surety agrees to bind themselves to the terms of the agreement. Should the debtor fail to honour the contract, the surety will take responsibility for the debt and be liable for payment.

There are two forms that a suretyship may take – unlimited liability or liability limited to a specific amount. If the suretyship is limited to a specific amount, the suretyship agreement needs to specify the particular amount payable.

If one fails to be specific, the impact of the suretyship can be detrimental should the debtor fail to pay his/her debt. In addition, a debtor can potentially bind the surety in perpetuity for the principal debtor’s obligations and secure the surety for the payments of the debts. This will cause future liability or payment even when the surety no longer has any involvement or bond to the debtor.

On 3 June 2021, the South African Supreme Court of Appeal presided over the case of Van Zyl v Auto Commodities (Pty) Ltd (279/2020) [2021] ZASCA 67; [2021] 3 All SA 395 (SCA); 2021 (5) SA 171 (SCA) The Supreme Court of Appeal held that even though the Companies Act 71 of 2008 precludes creditors from bringing claims against the company after implementing a plan, the Act does not affect nor does it extinguish the liability of the surety for the debt.

When a surety pays the principal debt, he/she has the right to recover from the debtor the amount paid and any alternative interest or expense suffered in the process. A person signing as surety may approach a court for relief where a debtor refuses to pay him/her back for an expunged debt.

It is important when drafting a suretyship agreement, that the parties ensure their intentions are correctly reflected and that they are not signing anything that they do not understand fully and agree to commit themselves to. A misunderstanding of the implications of a suretyship agreement may result in unwanted contractual consequences. Kindly contact our experienced attorneys for further assistance.