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SURETYSHIP CONTRACTS
suretyship contracts

Suretyship contracts – requirements and consequences

We are receiving numerous calls for assistance with suretyship contracts. This trend may be in light of the Covid-19 times and the recent up-trend for businesses and individuals seeking to operate their businesses and finance opportunities by utilising credit instruments.

However, it is imperative that one seeks sound legal advice when considering to enter into a contract of suretyship simply because the legal phenomenon of suretyship is one which many still struggle to fully understand. Invariably, sureties end up in court when being sued for performance as a surety and/or co-principal debtor.

In layman’s terms, suretyship occurs when one person agrees to stand good for the debt(s) of another person. This practice has occurred for centuries in business and personal relationships and caused serious hardships to many who insensibly agreed to be sureties.

In law – what is a contract of suretyship?

A contract of suretyship is one in terms of which one person (the surety) undertakes to the creditor of another person to perform the latter’s obligation owed to the former when the debtor fails to perform. Typically, the performance by the surety is of a financial nature (eg. payment of a debt). However, the contract of suretyship is accessory in nature which means it cannot and does not ever exist on its own.

Suretyship is one of the most complicated credit instruments. The law pertaining to suretyship agreements was codified in South African law in 1956 (in terms of the General Law Amendment Act 50 of 1956) owing to numerous disputes and court cases in regard to suretyship agreements and the enforcement thereof.

Requirements for the valid contract of suretyship

Section 6 of the General Law Amendment Act 50 of 1956[1] prescribes the legal requirements for a valid contract of suretyship, namely, that the terms of a suretyship agreement must be contained in a written document signed by or on behalf of the surety.

The existence of a principal obligation is a common law pre-requisite for a valid surety agreement due to the fact that suretyship is accessory in nature. This underlying obligation is typically one in terms of a loan or credit facility granted by a bank to a client (the debtor).

The Appellate Division held in 1978[2] that the “terms” of the contract of suretyship referred to in Section 6 supra are:

  • The identities of the creditor, the debtor and the surety(ies);
  • The nature and amount of the principal debt.

A number of subsequent cases have amplified the above requirements which have resulted in the clarification in many respects of the ‘terms’ which must be embodied in the contract of suretyship for it to be valid and binding in law.

Furthermore, oral variations of a contract of suretyship are void as these do not comply with Section 6 supra.

Some of the salient rights available to sureties include the following[3]:

The Benefit of excussion means the creditor is obliged to first claim and recover from the principal debtor  before turning to the surety for payment of the debt or the part of the debt that remains unpaid.

The Benefit of Division amongst co-sureties which provides for the instance where there is more than one surety and where the creditor claims payment of the whole amount or more than a surety’s agreed share. Then the surety can demand that the debt be divided between all the co-sureties so that each of them ends up paying only their allotted portion.

The Surety’s Right of Recourse where a surety has paid the debt of the principal debtor to the creditor, the surety is entitled to claim payment from the principal debtor of the amount that he/she has paid to the creditor.

The Right to Contribution by Co-sureties where a co-surety, who has paid the debt, is by law entitled to recover from each of the other co-sureties contributions of their agreed portions of the debt.

Effect of the National Credit Act 34 of 2005, as amended (“the NCA”) on Contracts of Suretyship?

A contract of suretyship is one of the important instruments which credit providers make use of in mitigating their risks of granting credit.

Therefore, it is crucial to establish whether a suretyship contract is a credit agreement in terms of the National Credit Act.  The determining question is: whether or not suretyship contracts will fall within the scope of the NCA depends on whether or not the underlying/principal agreement is regulated by the NCA.

In the High Court case of First Rand Bank Ltd v Carl Beck Estates (Pty) Ltd ZAGPHC 423 the high court, in granting summary judgment in favour of the bank, made an obiter remark that the NCA applies to suretyship contracts and that it clearly falls within the definition of a “credit guarantee” as set out in section 8(5) of the NCA.

Warning – do not contract with the devil or you may have to pay your pound of flesh

It is imperative that one considers the terms of any contract of suretyship very carefully when contemplating taking responsibility for the payment of the debts of another person.

Truly and invariably, the scales are tipped immensely in favour of the credit grantor in the negotiation of the underlying obligation particularly when seeking finance through credit instruments. The credit worthiness of the debtor is of critical importance and ‘family- relationed’ contracts of suretyship should be avoided at all costs.

Once you have signed as surety it is virtually impossible to escape liability on the basis that you were not aware of the suretyship clause in the agreement or that the suretyship contract is ‘unfair’.

Case law confirms that a person who is a signatory to any agreement is obliged to familiarise himself with the content of a document which he signs. Ignorance of the law is no excuse.

This confirms the Roman law principle of caveat subscriptor which means that a signatory must be aware of what he is signing. This however applies to anyone who enters into a contract, and not only to contracts of suretyship.

Make sure that to protect yourself and your assets, you should consult with an attorney before you take on the responsibility for someone else’s debts.

www.slamatlaw.co.za

12 April 2021

[1] Amended by s34 of the General Law Amendment Act 80 of 1964.

[2] Sapirstein & others v Anglo African Shipping Co(SA) Ltd 1987 (4) SA 1 at 12B-D.

[3] The ejection of the exception doli generalis from SA law in the matter of Bank of Lisbon & South Africa Ltd v De Ornelas and another 1988 (3) SA 580 (A) has resulted in sureties raising the defence of public policy when the creditor seeks to rely upon a clause in the contract of suretyship which is perceived to be harsh and unconscionable by the surety. However, the courts have made it clear since 1990 that public policy does not offer a ‘free pardon to recalcitrant debtors’ – per Kriegler J in Donelly v Barclays 1990 (1) SA 375 (W). Most public policy challenges have consequently failed dismally.