Banking Law - An Introduction to Personal Guarantee

The economic boom in UAE has resulted in huge developments and a considerable increase in trade. This, in turn, has led to a rise in transactions which require a fast debt recovery mechanism. According to common practice in the UAE, the most secure and quickest method is the post-dated - and in some cases undated – cheque. This is often requested by creditors (financial institutions) and sellers, mostly in real estate transactions and trade. The rationale is mostly economic to individuals who are issuing the cheque, and how does personal guarantee play a role? In this Article, we attempt to analyze and overview UAE laws on a Personal guarantee.

UAE laws on Personal guarantee are slightly peculiar and Sharia Principles are inherent in its application at the courts. Article 1068 of the Law states,

1. Guarantee by self (face guarantee) obligates the guarantor to bringing the guaranteed in the specified time when the demand of the guaranteed person, if he didn’t, the judge may issue its verdict with a threatening fine and the judge may exempt him therefrom if he proved that he was unable to bring him.
2. If the guarantor undertook to pay a specified amount as the penal condition in the case of non-bringing of the guaranteed, he shall be obliged to pay that amount and the judge may exempt him from all or some of that amount if he realized what justifies that."

Paragraph 2 of Article 1068 talks about penalizing the Guarantor if he fails to bring the Debtor in front of the judge in the event of a dispute between the parties. The ‘penal condition’ stated in para 2 could also be termed as compensation, thereby obliging Guarantor to pay the amount should he fails to justify debtor’s absence.

Personal Guarantee and Personal Financial Guarantee

UAE laws and principles create a distinction between "Personal Guarantee" and "Personal Financial Guarantee". The first and foremost striking part of the distinction is that the former the court will ask the guarantor to bring the principal debtor at the court proceeding in the event of a dispute; whereas in the latter, the primary obligation of the guarantor is to pay the debt, not necessarily to bring the principal debtor at the court proceedings. The primary obligation of the guarantor under ‘personal guarantee’ is to present the debtor in the courts as opposed to paying the debts. Furthermore, if the debt is commercial in nature then the rules of Commercial Transaction Code are applicable.

A personal guarantee agreement should state that guarantee given by the guarantor is ‘personal guarantee’. If it is not stated in clear terms than the courts will regard this as ‘fi8nancial personal guarantee’, hence making guarantor’s primary obligation to fulfill his obligation (to pay to the Creditor) but not to bring debtor to the courts in the event of a dispute.

Article 1070 of the Law stated that,

"1- The guarantor of soul shall be discharged if he delivered the guaranteed to the guaranteed person or performed the object of the guarantee.

2- He shall be discharged also by the death of the guaranteed and shall not be discharged by the death of the guaranteed person. His successor shall have the right to demand the guarantor to deliver the guaranteed at the specific time".

This means that a Guarantor can be exempted from higher liability if Guarantor brings the principal debtor to the creditor. Courts consider this as the fulfillment of Guarantor’s obligation and exempt guarantor to pay the indebted amount. This point is very crucial for Bank because this potentially exempts Guarantor from paying to the creditor. The court will consider personal guarantor has fulfilled his obligations and exempt him to pay the debt in the event of a default by Debtor. According to the Guarantee Agreement provided to us, it appears to us that the Guarantee Agreement indicates ‘personal financial guarantee’ whereby personal guarantor’s primary obligation is to pay to the creditor in the event of a default by principal debtor.

Ranking of Creditors or Priority

The UAE regime recognizes and gives effect to the priority of secured creditors. Personal Guarantee does not make Bank a secured creditor and obligations of Mr. Yogesh Mehta will NOT rank pari passu in priority of payment as opposed to secured indebtedness of him. There is no clear structure that explains ranking of unsecured creditors. After determining the unsecured indebtedness of an individual, the courts may order to distribute the proceedings to unsecured creditors based upon pro-rata basis.

Consequences of Guarantee Agreement

There is an obligation on the Guarantor to fulfill his obligations as the debt becomes due on the maturity date. If the debtor’s obligation is conditional in nature, then the payment becomes due upon expiry of that condition or its fulfillment. Article 1078 of the Law states that the creditor has the right to file a case against both principal debtor and guarantor covering the total debt, then it is a creditor’s choice to sue either one of them or both of them, depending upon the total claim amount.

In the case of bankruptcy of the debtor, the creditor has to submit his claim in the bankruptcy procedure; if he does not do that then the creditor will not be able to claim from the guarantor at the later stage. Please note that personal guarantee debt is not a special debt and shall be considered as any other unsecured debt.

Termination of Guarantee Agreement

Expiration of the Guarantee is elaborated in the Article 1099b of the Law:

A guarantee shall expire in the following cases:

"Upon a payment of the debt.Upon deterioration of the real property in the hands of the guaranteed by a force majeure before a claim is made.Upon discharging a liability creditor of the guaranty or a debtor of the debt.Upon the death of the guaranteed".Termination may also kick in due to Article 1101, it states:"If the guarantor of the debtor compounded the creditor of the amount of the debt, they shall be acquitted from the rest".

This means that if there is an agreement between guarantor, debtor, and creditor on the part of the debt and if that debt is settled, then remaining debt will be waived automatically. The agreement should specify in clear terms if parties wish to waive guarantor’s liability. If it is stated that Guarantor will not be liable, then this agreement will close the deal and termination will kick in. This means that Guarantor’s liability can be excluded with the help of this Agreement. Therefore the creditor may choose to claim the debt (either partially or in full) from the original debtor.

Criminal Proceeding and Personal Guarantee

UAE legislation contemplates guarantee by way of suretyship only. There is a time period for enforcement. The common practice by banks in UAE is to take undated Guarantee Cheques from Guarantor and ensure that their risk is fully covered. The lack of sufficient funds in a bank account could ensure criminal proceedings against the drawer of cheques and criminal proceedings are relatively straightforward to pursue. Please be advised that the Cheques should not mention the word ‘Guarantee’ written on them (or elsewhere) and they should be undated, unconditional and should be signed by the authorized signatory. DBS Bank should not mention that these cheques shall be used only in the event of a default. Although they shall use it in that event, but putting forth this condition in written form in Guarantee Agreement or elsewhere may not ensure Criminal proceedings.

Conclusion

To put it simply, UAE laws provide for enforcement of personal guarantees in the courts. The laws are strictly defined and courts practice suggests that there might be a few discrepancies in its enforcement, however, but the broader idea remains clear and focused. If the Guarantee Agreement clearly defines the rights and obligations of Guarantor, principal debtor and beneficiary then such Agreement remains valid and enforceable at law.