Personal Guaranties: The Document of Last Resort

Lenders take guaranties but hope to never need them. Sometimes, lenders take them knowing that the guarantor is judgment-proof, but hope that the guaranty will serve as a deterrent against otherwise improper acts. Guaranty agreements have grown in verbiage over the years and typically include all types of conditions and waivers. Once the lender determines to pursue a guarantor, it is common for the guarantor to look for reasons that the guaranty should not be enforced. Thus, the waivers are important and enable lenders to prevail on motions for summary judgment and avoid an expensive trial. But that is a topic for another day.

But what if the lender does not have a written guaranty?  Is it out of luck? The Michigan Court of Appeals issued a decision on Oct. 29, 2020, that sheds some light on this. But first, let us consider some underlying requirements.

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(a) The following contracts are invalid, unless they, or some note or memorandum thereof, are in writing and subscribed by the party to be charged or by the party’s agent: …

(2) A special promise to answer for the debt, default, or miscarriage of another, except in the cases provided for in Section 2794 .

Section 2794 provides:

A promise to answer for the obligation of another, in any of the following cases, is deemed an original obligation of the promisor, and need not be in writing: …  Where the promise is upon a consideration beneficial to the promisor, whether moving from either party to the antecedent obligation, or from another person;

Similarly, by way of example, the New York statute of frauds (New York General Obligation Law §5-701) provides:

a. Every agreement, promise or undertaking is void, unless it or some note or memorandum thereof be in writing, and subscribed by the party to be charged therewith, or by his lawful agent, if such agreement, promise or undertaking: …

2. Is a special promise to answer for the debt, default or miscarriage of another person;

That statute goes on to say:

3. There is sufficient evidence that a contract has been made if:

(a) There is evidence of electronic communication (including, without limitation, the recording of a telephone call … sufficient to indicate that in such communication a contract was made between the parties….

The Michigan case involves enforcement of an oral guaranty for a business loan made under California law, although the lawsuit was brought in Michigan where the guarantor resides. There is no explanation why the lender did not obtain a written guaranty. There is no explanation why neither the original written business loan agreements, nor the amended documents entered into 10 years later, failed to even reference the guaranty.

Instead, the lender relied on the transcript of a pre-loan closing telephone conversation between the lender’s representative and the guarantor. Fortunately for the lender, the guarantor admitted the accuracy of the transcript.

Q. You personally guaranty [sic] to pay [lender] upon demand all that you owe on the business line account. As guarantor, you authorize [lender] without notice or prior consent to change any of the terms of the amount of your company’s business line account. In addition, you agree to pay attorney’s fees and other expenses incurred in enforcing this guaranty.

A. Uh-huh.

Q. This guaranty benefits the [lender] and its successors and assigns. Finally, you agree this audiotaped application may be used as evidence of your agreement to the terms of this guaranty.

A. Uh-huh.

Q. Do you understand and agree to these terms?

A. Yes.

During the conversation, the guarantor also agreed that the agreement would be subject to California law.

The Michigan Court of Appeals, applying California law, ruled in favor of the lender saying: “An oral guaranty is …enforceable if the guarantor gained a business or personal advantage from the transaction,” and, “Here it is clear that [guarantor’s] leading and main objective was not to become a surety or guarantor but to simply serve his own personal interests connected to keeping his business afloat.”

But how would other states address an oral guaranty? Likely, in a similar way. As indicated, New York has a similar statute of frauds, and other similar exceptions. However, my search for even a single case in New York where an oral guaranty was enforced came up empty. However, there are cases that discuss what would be needed to enforce an oral guaranty. One New York case went so far as to say:

An oral guaranty would be enforceable (1) if it were supported by new consideration; (2) if it were beneficial to the promisor; and (3) if the promisor had agreed to be directly liable for the debt.

That court, however, declined to find that an oral guaranty existed.

The facts in the Michigan case may be unique but not out of reach. It is common (and perhaps even standard) to have recorded conversations when interviewing potential borrowers and guarantors during the application process. Having to rely on that recorded conversation may give rise to other problems. That said, the best practice is still to obtain a well-written guaranty executed by the guarantor.

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