At the outset, let us offer a premise – when someone agrees to give a guaranty, it is expected that other than specific, agreed-upon business or financial limits, the guaranty will be “come heck or high water.” Absent some specific agreement to the contrary at the time the deal is made, this means that a lease guaranty is to be one of payment, not of collection, and is to be unconditional (whatever those things mean). The words of art are: ‘absolutely, irrevocably, and unconditionally.” Basically, what has been bargained for is that if the tenant doesn’t pay or perform, the guarantor will be just as liable as if had been the tenant itself.
This doesn’t mean there aren’t a lot of items that are reasonably up for discussion, only that when one agrees to execute a lease guaranty, there isn’t supposed to be a trap door to sneak out through. On the other hand, a guarantor shouldn’t be liable for anything that the tenant wouldn’t have been liable for at the time the liability arose. Why do we say, “at the time the liability arose”? That’s because the guarantor is expected to remain liable even if the tenant is later relieved of its obligation through bankruptcy or by reason of some “personal” deficiency, such as not existing in the first place. Even if the Lease was defective in its execution and even if the named tenant was incompetent to execute the lease, the guarantor has to belly up to the bar. What is more, if the tenant is later relieved of the obligation to pay, for example by having its debts discharged in bankruptcy, the guarantor is expected to remain liable.
So that we don’t forget to say so later, in addition to standing behind the tenant’s obligations, the guarantor will be expected to pay the landlord for the costs to enforce the guaranty itself.
So, what is there left to talk about? Plenty. A landlord’s form of guaranty will demand that the guarantor waive lots of things. Some of those things, like waiving defenses based on the tenant’s insolvency or lack of capacity or waiving some “surety” defenses, such as presentment and protest (whatever those are), are intrinsic to the guaranty itself, and fall in the category of “that’s what it means to sign a guaranty.” Others are not.
Here are some of those “others.” One can expect the first draft of a landlord form guaranty to ask the guarantor to waive notice of the tenant’s default and to stand behind the lease even if it is modified. Those waivers are premised on the guarantor and the tenant being and remaining closely enough related so that the guarantor will be aware of notices sent to the tenant, defaults by the tenant, and lease amendments made by the tenant. But, what happens if the lease is assigned to a party unrelated to the guarantor? What happens is that the guarantor is out in the cold when it comes to knowing what is going on. Requiring the assignee to notify the original tenant or the guarantor is really a fool’s errand because when the landlord is coming after the guarantor (or the original tenant), it means that the assignee can’t pay the obligation. Thus, the guarantor won’t be able to recover damages from the original tenant’s assignee that went ahead and modified the lease without the guarantor’s permission or failed to pass along a default notice to the guarantor.
What should a guarantor do? It should insist that the guaranty not make it liable for lease amendments made between the landlord and a tenant that is not affiliated with the guarantor. It should require the landlord to send copies of notices of default sent to the unaffiliated tenant and might also allow the guarantor to cure those defaults. A compromise might be to allow lease amendments without the guarantor’s consent, but relieve the guarantor of any increase in liability arising out of such amendments. It would be reasonable for the landlord to require that the guarantor give it notice when it and the “new” tenant are no longer “affiliated.”
Often, a landlord’s form will ask the guarantor to “waive all defenses.” That’s not appropriate. Certainly, a guarantor shouldn’t be allowed to claim that because the tenant can raise a bankruptcy defense, the guarantor should be able to hide behind that defense as well. On the other hand, the guarantor shouldn’t have to pay anything the tenant wouldn’t have had to pay had the guarantor been the tenant at the time. That’s what a guaranty should say – the guarantor has all the defenses it could raise as if it had been the tenant under the lease.
Similarly, a typical landlord form of guaranty will ask the guarantor to waive “offsets.” That also doesn’t make sense. If the tenant could have applied an offset, then the tenant wouldn’t have owed as much. Since the guarantor shouldn’t be liable for what the tenant wouldn’t have to pay (other than by reason of the tenant’s personal defenses), outstanding offsets should be available to the guarantor.
Lastly, for now, there is something called “subrogation.” In the context of a lease guaranty, that basically means the right of a guarantor, after paying the landlord under the guaranty, to collect that money from the tenant itself. Landlord forms of guaranty frequently ask the guarantor to waive this right of subrogation. That’s because of the landlord’s concern over a bankruptcy doctrine called Deprizio.
Basically, this doctrine, when it was fully alive, resulted in landlords having to give back the guarantor’s payment when the guarantor was an insider in the tenant’s bankruptcy and had the right to collect from the tenant through subrogation. Congress changed the bankruptcy law to override this result but, in the view of some bankruptcy practitioners, Congress didn’t close the door well enough. That’s why guaranties still ask for a waiver of subrogation. A guarantor’s response should be to waive subrogation rights only until such time as the remnants of the Deprizio doctrine would no longer result in a “claw-back.” Exactly how to say that depends on the way the landlord’s form of guaranty is written.
There are a lot of ways a landlord can write a lease guaranty, so it isn’t possible in this limited space to parse through every possible form of such guaranty. For that reason, all Ruminations can do is to lay out the basic principles set forth above. It can’t suggest specific clauses. Sorry.
Where does this leave us? We haven’t touched on what kinds of limitations can be negotiated. Next time (or maybe the time after that), we’ll explore monetary limitations, time limitations, “exposure” limitations, and the increasing encountered “good guy” guaranty. We may also touch on some ways a guarantor can mitigate its exposure even if it has to “pay up.”