1. Function and concept
Looking at its function, the independent guarantee is related to its sibling, the suretyship. Like the latter its core function is that of securing the performance of a pecuniary claim resulting from a credit. However, the substantive field of application is considerably broader than that of suretyship. For instance, another important function of the guarantee is to secure claims for damages based on the breach of contractual obligations or unilateral undertakings or promises. An example of this last category are the so-called tender guarantees. These often must be given at the customer’s request in case of tenders for major bids in order to secure the orderer’s claims for damages when the bidder, although it was awarded the contract, refuses to conclude it. Performance guarantees are to protect the creditor against non-performance of a contract.
Outside the range of guarantees covered here, however, are sellers’ guarantees for buyers of goods which supplement the seller’s implied warranties arising under sales contracts.
Independent guarantees have developed broadly in the course of the 20th century. Economically, they have often replaced the formerly used demand upon the debtor to deposit an amount of money or the holding back of a safety amount by the creditor, both of which aim to secure the creditor in case of the debtor’s breach of contract. In these cases, granting a guarantee enhances the debtor’s liquidity.
The uncertainty about the scope of this legal institution correlates to the uncertainties regarding its denomination. On the European and the international level, the terms ‘independent personal security’ (eg in the DCFR 2009), or, alternatively, ‘independent guarantee’ (eg in the UN Convention of 1995) appear to be established. The common denominator, the independence of this security, encapsulates the core of this institution. In practice the typical and most common type of independent guarantee as a personal security is the bank guarantee; the only, yet legally irrelevant, particularity of this guarantee is the fact that the security provider is a bank.
In contrast to the suretyship, comprehensive statutory regimes on the guarantee are lacking in almost all European countries. Isolated provisions have statutorily approved the guarantee in Austria in 1915 and in France in 2006; scattered provisions also exist in Belgium, Denmark and the Netherlands. In England, a court of first instance first accepted the guarantee in 1704. In the southern European countries the guarantee has only been recognized by case law in the last two decades of the 20th century.
Earlier than in the field of contract law, the guarantee was implemented in commerce, in particular in international trade. Professional providers of security include especially banks and insurance companies. These institutions drafted contract forms for guarantees at an early stage. On the international level, informal sets of rules have been developed for this purpose. Among these, the uniform rules elaborated by the International Chamber of Commerce (ICC) (Paris) in the years 1978 and 1991 deserve mention. In the United States, where banks were formerly enjoined from granting guarantees, the so-called stand-by letter of credit has evolved as a substitute, thus a letter of credit for security purposes; for this hybrid there also exists a uniform set of contractual rules.
A Convention should also be noted here—the UN Convention on Independent Guarantees and Stand-by Letters of Credit of 1995 (in force since 1 January 2000). The Convention only applies to ‘international undertakings’ (Art 4) and so far it has only been ratified by eight smaller countries.
On the European level, proposed rules on the independent guarantee can be found in Book IV.G DCFR concerning personal securities. Suretyship and independent guarantee are regulated in different chapters of Book IV.G on personal security; they are, however, linked by several general provisions. Consumers are excluded from granting an independent guarantee because of the risk potential of this type of contract. In the United States, the Restatement of Law even merges suretyship and independent guarantee into one set of rules.
Like a suretyship, an independent guarantee is mostly based on a contractual relationship between a creditor and a debtor. However, in contrast to a suretyship, a guarantee is legally independent from the underlying legal relationship. A creditor will usually demand an independent guarantee if he has doubts regarding the debtor’s solvency or his willingness to pay, particularly in case of mid- or long-term payment obligations or also (in intercontinental transactions) due to long distances between the parties’ places of business. In commerce, professional guarantee providers are typically banks and insurance companies, to a lesser extent also other merchants; exceptionally, even a private individual may assume an independent guarantee.
The terms of an independent guarantee depend on the agreement of the parties and therefore vary from case to case. However, there exist certain typical clauses (see below). In general, the content of the guarantee’s terms is prescribed by the creditor because it wishes to secure its claim in the best way. These terms are agreed upon between the debtor and the guarantee provider.
Generally speaking, the guarantee provider is only and exclusively permitted to make the promised payment, if the conditions defined between it and the debtor upon which the guarantee becomes due are fulfilled. The provider of the guarantee may, however—in contrast to a surety—not invoke the defences that may be available to the debtor against the creditor according to the underlying legal relationship between those two parties. Obviously, this exclusion of defences resulting from the underlying relationship between debtor and creditor constitutes a great simplification for the creditor as well as for the guarantee provider—but at the same time is risky for the debtor.
Two special types of an independent guarantee have to be mentioned. Indirect guarantees are primarily used in the foreign business of banks where a domestic bank issues a guarantee in favour of a foreign client of the customer. If this bank maintains no office or subsidiary in the country of the benefited creditor, it will mandate another bank, which is located there, to issue the guarantee. In this case the guarantee is performed by this second bank which itself may claim a fee and reimbursement of its expenses from the domestic bank. The parties may stipulate that the foreign secondary bank confirms the guarantee to the creditor on its own behalf; yet this is not necessary. This constellation is closely related to a letter of credit. In fact, US banks, before they were allowed to issue guarantees, had used specially drafted letters of credit, the so-called stand-by letters of credit (letter of credit) as a substitute for an independent guarantee.
Another special type which should be mentioned is the independent guarantee ‘on first demand’. It enjoys a particularly high degree of independence from the underlying legal relationship because the creditor is only required to present a mere demand for performance of the guarantee without the production of documents.
If the guarantee provider honours the guarantee as ordered, in principle it is—in contrast to a suretyship—not subrogated into the rights of the creditor which the creditor holds against the debtor arising from the underlying contractual relationship—another consequence of the guarantee’s independence. Thus, the guarantee provider must secure itself by means of adequate agreements or advance payments or request a security.
If the guarantee provider honours the guarantee, even though it is not entitled to perform according to the terms of the guarantee, it may be liable to its customer, the debtor, for any damage that the latter sustains due to the fact that it may have to reimburse the guarantee provider’s performance.
Another particularity of the guarantee, which results from its independence from any underlying contractual relationship between creditor and debtor, is the risk of abuse by the creditor. In international business it is far from rare—particularly where the creditor is outside of Europe or North America—that creditors persuade the guarantee provider to perform the guarantee by submitting forged documents when in fact the conditions for performance are not satisfied. Such abuses have occurred so frequently that courts in many countries have developed special remedies: the courts allow the debtors thereby affected to produce present evidence of an abuse to obtain interim injunctions which enjoin the guarantee provider from honouring the guarantee. In this process, the guarantee providers themselves easily become caught in a crossfire as in these cases, in the event of non-performance, they are exposed to the risk of liability claims from their creditors. On the other hand, if unjustified demands based upon the guarantee are honoured, the guarantors may be exposed to reimbursement claims from their customers, the debtors. This is another reason why rules dealing as strictly as possible with such abusive demands are desired and are very common.
The guarantee business is specialized and frequently transnational. These two aspects have facilitated—due to the lack of national provisions and the nearly unlimited freedom of contract—the achievement of a high degree of international uniformity by means of uniform contract forms and the consolidation of the relevant trade usages. The core principles outlined above have also influenced the UN Convention of 1995 as well as the DCFR. One can be confident that in the future new, internationally accepted developments will be reflected in the periodically revised Uniform Rules of the International Chamber of Commerce—a role model for the life and effect of an autonomous, flexible international trade law.
Herman Johan Pabbruwe, Bankgarantie (4th edn, 2000); Friedrich Graf von Westphalen and Brigitta Jud (eds), Die Bankgarantie im internationalen Handelsverkehr (3rd edn, 2005); Matti S Kurkela, Letters of Credit and Bank Guarantees Under International Trade Law (2nd edn, 2008); Philip Simler, Cautionnement, Garanties autonomes, Garanties indemnitaires (4th edn, 2008) 851–1011; Christian Förster, Die Fusion von Bürgschaft und Garantie (2010) 93.