CHAPTER 1: A. SOURCE OF LAW VIRGINIA SURETYSHIP PROFESSOR DAVID FRISCH UNIVERSITY OF RICHMOND SCHOOL OF LAW GENERAL SURETYSHIP RULES AND RIGHTS OF THE GUARANTOR Source of law is one of the most important issues. If you don t get the source of law issue correct, then you won t get the right answer. But if you get the source of law issue right, it puts you in the ballpark. If the surety makes its promise by signing a instrument, then the source of law is of the UCC. B. CAST OF PLAYERS Example 1: A buyer wants to purchase a car from a car dealer on credit. The car dealer says that a surety will be required. A surety is someone who to pay if the buyer doesn t pay. The buyer volunteers his rich uncle, Harry. The car dealer presents them with a negotiable note. The buyer signs as. Uncle Harry also signs as. In the language of Article 3, Uncle Harry would be an accommodation party, and the buyer would be the party. Uncle Harry would be an Article 3 because he s making his promise by signing a negotiable instrument. Example 2: Instead of signing a note, Uncle Harry signs a document called a, in which he guarantees the buyer s to the dealer. In that case, Article 3 would be the source of law. In any suretyship relationship, there will be: 1. Creditor. o The one to whom the obligation is. Example 3: In the example above, the creditor is the. 2. Debtor. o The person who the obligation and who should. Example 4: In the car dealership example, the buyer is the debtor, the principal obligor, and owes the. 3. Surety. o The person who to be primarily for the obligation of another.
o It is not necessary for the creditor to try to from the principal debtor before seeking recovery from the. Example 5: In the car dealership example, if Uncle Harry agrees, then if the payment comes due, the dealer can look to Harry. 4. Guarantor. o Someone who agrees to be for the obligation of another. o A guarantor s obligation only arises when the principal obligor/debtor. Example 6: If Uncle Harry is a guarantor, the car dealer can t look to Uncle Harry until the debtor defaults or a payment. o The rules for a surety and a guarantor are the and the terms are used interchangeably. 5. Guarantor of Collection. o Someone who agrees to be liable for an obligation of another, but before the can seek recovery from a guarantor of collection, the creditor has to its against the principal obligor/debtor. o The creditor must first sue the principal obligor, obtain a, and try to satisfy that judgment. Example 7: If Uncle Harry guarantees collection, before the car dealer can against Harry, it must first get a judgment against the debtor and try to. C. CONTRACT FORMATION RULES 1. Generally o The law of contracts applies to. A contract exists when there is at least one promise, but in most cases, there are enforceable promises (a bilateral contract). Example 8: Homeowner promises to pay $5,000 and a painter promises to paint the homeowner s house, there are two enforceable promises. The for the homeowner s promise to pay would be the painter s promise to paint. The consideration for the painter s promise to would be the homeowner s promise to. Example 9: If David promises to pay $100 to anyone who finds his dog, and you find his dog, there would be a. David would be the, and when the dog is found, the performance of the act is the consideration for the promise to pay, making the promise. 2 2016 Themis Bar Review, LLC VA Suretyship
o A suretyship relationship is based upon a by the surety or the guarantor. Therefore, this promise is subject to most. 2. Consideration o Required in order to have an enforceable promise. It is also required in order to have an promise by a surety or a guarantor. a. Compensated guarantor: Example 10: Buyer asks Uncle Harry to guarantee his obligation to the car dealership, and offers to pay Harry $100 to be a guarantor. Uncle Harry agrees, making him a surety and the consideration for the suretyship promise would be the payment of. The does not have to the consideration. The fact that the dealership doesn t supply the consideration doesn t matter. b. Gratuitous surety: One who is. Example 11: When buyer asks Uncle Harry to be a surety, he readily agrees to guarantee the loan. The loan or extension of credit by the car dealer to the buyer would be the for Harry s promise. Consideration is a bargained-for exchange. An issue arises when the promise is made the creditor has extended credit or made the loan. Example 12: When the buyer asks the car dealer to purchase on credit, the car dealer agrees and the buyer purchases the car on credit. Sometime later, Uncle Harry decides to send a letter to the car dealership promising to pay the if the buyer doesn t. There is no for this promise. Uncle Harry isn t bargaining for anything and the promise would be. 3. Contract Interpretation o Here, you have to distinguish between a compensated surety and a gratuitous surety. a. Compensated guarantor/surety The usual, standard rules of apply. b. Gratuitous guarantor/surety The promise will be construed in favor of the. The surety receives the benefit of the doubt when it comes to construing or interpreting the suretyship obligation. 4. Statute of Frauds o A subject to the Statute of Frauds must be evidenced by a. VA Suretyship 2016 Themis Bar Review, LLC 3
A promise is covered by the Statute of Frauds and must be in writing. If it is not in writing, it is. There is one exception: the exception. No writing is necessary if the main purpose of the surety s promise is to the. D. RIGHTS OF A SURETY Example 13: You are hired to paint a homeowner s house. You need paint, but can t afford to buy the paint in advance and the homeowner doesn t want to pay you in advance. You go to the paint supplier and ask to buy the paint on credit; the paint supplier refuses to sell paint on credit without a guarantor. You ask the homeowner to guarantee the obligation and the homeowner agrees. Here, the main of the homeowner s is to benefit himself. 1. Against the Creditor a. Compel collection: If the creditor s claim has and the creditor has the right to receive the principal debtor s, the surety has the right to demand in that the creditor proceed first against the principal debtor. If the creditor does not file suit against the debtor within, then the surety is. b. Application of payments: Example 14: Suppose the debtor owes the creditor $10,000 and only $5,000 of that debt or obligation is guaranteed. The debtor then sends a check for $5,000 to the creditor. If the creditor applies the $5,000 payment to the portion, that would mean the debtor would then owe $5,000, all of which would be (the guarantor would still be on the hook). Example 15: If the creditor were to apply the $5,000 payment against the guaranteed portion of the debt, the debtor would still owe $5,000, but the guarantor would be off the hook. The guarantor would prefer to have the creditor apply the payment against the portion of the debt, but the creditor would prefer to apply the payment against the portion. As a general rule, it is the as to how to apply the payment. If the debtor and the surety that the payment is to be applied against the portion of the debt, and the creditor is of the agreement between the surety and the debtor, then the creditor the payment accordingly. 4 2016 Themis Bar Review, LLC VA Suretyship
2. Against the Debtor a. Right of reimbursement: The debtor must the surety for all incurred by the surety and all payments made to the by the surety. b. Right of exoneration: The right to bring against the debtor to the debtor to perform. Example 16: In the car dealership example above, Uncle Harry has the right to sue the debtor to compel the debtor to make to the car dealer. c. Right of subrogation When the surety the debtor s obligation to the, the surety is to the rights of the creditor against the debtor. This means that the surety steps into the shoes and can exercise whatever that the creditor could have exercised against the debtor. This right of subrogation is critically important if there is securing the debtor s obligation. Example 17: When the debtor buys the car on credit, the car dealership retains an Article 9 in that car (a purchase money security interest) to secure the obligation to pay. If debtor doesn t pay, the dealership has the option to and sell the car. The dealership would be a secured party. The debtor fails to make the required payments, so Uncle Harry pays the purchase price. If Uncle Harry seeks to recover from the debtor by exercising his right of, he would be a general creditor and would have to get a judgment against the debtor and try to obtain a lien on non-exempt assets. By paying the car dealer, Uncle Harry is and would be a secured creditor because the dealership was a creditor. Now, Uncle Harry has the right to the car. 3. Against Co-Sureties a. Exoneration: Example 18: Both Uncle Harry and Aunt Sally guarantee the debtor s obligation to the car dealership. Here, there are two guarantors, co-sureties. Uncle Harry can bring suit against Aunt Sally to her to pay her fair share. Unless they agree otherwise, each is liable for of the obligation. If Uncle Harry is sued by the creditor, he can VA Suretyship 2016 Themis Bar Review, LLC 5
compel the of Aunt Sally provided that she resides in. b. Contribution: Example 19: If Uncle Harry goes ahead and pays the full amount of the obligation, $10,000, Uncle Harry would have the right of from Aunt Sally. CHAPTER 2: SURETYSHIP DEFENSES A. SURETYSHIP DEFENSES 1. Defenses of the Surety o As a general rule, the surety can assert against the whatever defense she has. Example 20: Suppose there was no for the surety s promise; that is a defense the surety has. o As a general rule, the surety can assert whatever defenses the has or could have asserted. The surety is backing up the debtor s obligation. To determine whether an obligation exists and the of the obligation, we can t ignore the debtor s defenses. Editor's Note 1: See the Themis Suretyship Outline II.B.1 for a list of all of the defenses. 2. Exceptions: o The surety cannot raise the debtor s or. Example 21: Suppose the debtor is 17 years old and if sued by the creditor, could raise the defense of. The surety cannot assert that defense. o The surety cannot raise the defense of the debtor s. Example 22: The debtor goes into bankruptcy and as a result, the obligation to the car dealership is discharged. Uncle Harry would not be able to assert that as a defense. o The surety cannot raise the defense of a co-surety s. o The surety cannot raise the defense of fraud, duress, or misrepresentation. Example 23: The debtor obtains Uncle Harry s suretyship promise by, by misrepresentation, or by duress. Uncle Harry 6 2016 Themis Bar Review, LLC VA Suretyship
cannot raise that as a defense unless the creditor in the fraud, misrepresentation, or the duress. 3. Modification of the contract between the debtor and the creditor: o If the debtor and creditor modify their contract, a surety will be discharged only if the modification is. o If the surety is a surety, then the surety is if there is modification to the creditordebtor contract. 4. Extension of the time for payment: o If the creditor the time in which the debtor has to pay, and if that extension is, it will excuse or discharge the surety. 5. Impairment of collateral: o If the creditor has collateral to secure the debtor s obligation, and if the creditor (editor s note: not the surety) does anything that its interest in the collateral, to the extent of the of the impairment, the surety will be. Example 24: Suppose the car dealership has an Article 9 security interest in the car that the debtor purchased. If the car dealer decides to release its and terminate its, it no longer is a secured creditor. To the extent of the value of the car, Uncle Harry would be because that impairment would impair Uncle Harry s right of. Example 25: Suppose the car dealership finds out that the car is not insured and does not demand that the debtor insure the car. If the car is totaled, that would be an impairment of collateral, and to the extent of the, Uncle Harry would be. Example 26: Suppose the car dealer neglects to its Article 9 security interest - it has an unperfected security interest in the car. If the debtor goes into bankruptcy, an unperfected security interest is to the rights of the trustee in bankruptcy. As a consequence of the bankruptcy, the car dealership loses its in the car. To the extent of the impairment to the value of the car, Uncle Harry would be discharged. Exam Tip 1: Remember source of law. If Uncle Harry signs as maker or endorser for the purpose of guaranteeing the debtor s obligation, then the source of law becomes Article 3 and the language changes. Uncle Harry is no longer a guarantor or surety, he is now an accommodation party; the debtor would be the accommodated party. [END OF HANDOUT] VA Suretyship 2016 Themis Bar Review, LLC 7
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