R8.1 – Suretyship and Creditor's Rights Flashcards
Suretyship
Surety = one who is liable for the debt or obligation of another.
Suretyship involves three parties:
- Creditor (the obligee)
- Principal (debtor or obligor)
- Surety
Surety vs. Guarantor
Surety directly liable on his contract
Guarantor – liable to creditor only if the debtor does not perform his duty to the creditor
Guarantor of collectibility – liable only if creditor unable to collect from debtor after exhausting all legal remedies including demand, suit judgement, and exhaustion of all supplementary proceedings.
The Statute of Frauds requires written evidence of suretyship
A suretyship undertaking not evidenced by a written memorandum is unenforceable
Gratuitous Surety
Not compensated for his promise to the creditor
If the creditor does anything that varies the gratuitous surety’s risk IN ANY WAY, the surety’s obligation is discharged
To be binding, surety’s promise must be a condition of the creditor making the loan
Generally, suretyship promise made after the loan contract has been made will not bind the contract
Compensated surety
Paid for his promise to the creditor.
Only changes by the creditor that MATERIALLY INCREASE the surety’s risk will release a compensated surety
Surety’s Rights – Against Creditor
When a debtor defaults in a suretyship situation, the creditor may do any of the following in any order:
– Immediately demand payment from the surety
– Immediately demand payment from the debtor
– Immediately go after collateral if there is any
Creditor not required to go after debtor or collateral, or apply security held to reduce debt, before going after surety
– Exception: Guarantor of collectibility - creditor must go after debtor and collateral before coming to guarantor of collectibility.
Creditor does not have to notify the surety if principal default
Surety’s Rights – Against Principal Debtor
- Exoneration
= suit to compel debtor to pay
– Surety can do this prior to paying creditor
– Exoneration does not affect creditor’s right to proceed against a surety - Subrogation
= enforcement of creditor’s right against debtor
– Once the surety pays the creditor, the surety may enforce any right that the creditor had against the debtor - Reimbursement/Right to indemnification = suit against principal after payment
– The surety is entitled to reimbursement from the debtor for any amounts that the surety paid
Surety’s Rights – Against Co-Sureties: Exoneration
Creditor has moved against only one surety
BUT
Surety has not yet paid more than his share of debt
Surety compels co-sureties by a suit in equity for exoneration to pay their pro-rata shares of the debt
Surety’s Rights – Against Co-Sureties: Consideration
Creditor has moved against one surety
AND
Surety has paid more than his sure of debt
Surety compels co-sureties to pay their shares of the debt
If contract does not specify liability of each surety, pro-rata share determined by number solvent sureties
If principal has paid back part of debt, debt is reduced by part payment but each co-surety still liable for original amount stated in agreement.
– Payment of more than his pro-rata share of reduced debt entitles surety to contribution from co-sureties
If co-surety’s obligation discharged in bankruptcy, his agreed share is ignored in determining the pro-rata share of remaining co-sureties.
Co-Sureties
Co-sureties = two or more sureties of the same obligation.
Co-sureties are jointly and severally liable
Surety’s Rights – Against Co-Sureties: Consideration, Co-Surety’s Obligation Discharged in Bankruptcy Example
C loans D $9,000, and X, Y, and Z agree to be co-sureties. The maximum liability for each is X: $6,000, Y = $3,000, Z = $9,000. D makes loan payments of $3,000, and then defaults. Z pays the entire balance of $6,000. X’s debts, including his surety obligations, are discharged in bankruptcy
Pro-rata share before X’s debts was discharged
X = 6,000 ÷ (6,000 + 3,000 + 9,000) = 0.33
Y = 3,000 ÷ (6,000 + 3,000 + 9,000) = 0.17
Z = 9,000 ÷ (6,000 + 3,000 + 9,000) = 0.33
Pro-rata share now that X’s debts are discharge
X = 0
Y = 3,000 ÷ (3,000 + 9,000) = 0.25
Z = 9,000 ÷ (3,000 + 9,000) = 0.75
– Z can not collect anything from X
– Z can collect 0.25 x $6,000 = $1,500 from Y
Defenses of Surety
- Fraud
- Duress and Illegality
- Discharge of Debtor’s obligations
- Surety’s contract incapacity or bankruptcy
- Variation of Surety’s Risk
Defenses of Surety – Fraud
Fraud by creditor is defense against creditor
– Debtor was induced into the debt agreement by the creditor’s fraud
Fraud by debtor not a defense against creditor unless creditor knew of fraud
Defenses of Surety – Duress and Illegality
The surety is not liable if the debtor’s promise was obtained by duress or if the debtor’s obligation was illegal
Defenses of Surety – Discharge of debtor’s obligations
Payment or tender of payment by debtor or a third party
Defenses of Surety – Surety’s contract incapacity or bankruptcy
Contract incapacity = minority or adjudicated insantiy
Defenses of Surety – Variation of Surety’s Risk: Alteration of Contract
Alteration that leads to ANY CHANGE in surety’s risk (even if decrease) releases GRATUITOUS surety
Alteration that leads to MATERIAL INCREASE in surety’s risk releases COMPENSATED surety
Defenses of Surety – Variation of Surety’s Risk: Extension of time of debtor’s payment
If creditor agreed to extension
–ANY EXTENSION of time releases GRATUITOUS surety
–Compensated surety is released only if the extension of time MATERIALLY INCREASES the surety’s risk
Surety is not released if creditor did not agree to extend time
Defenses of Surety – Variation of Surety’s Risk: Loss of Security
Released security –Surety discharged in the amount of the value of the security released
Security lost due to creditor’s inaction – Surety discharged in amount of value of security unless substantial and burdensome acts required to protect security
Defenses of Surety – Variation of Surety’s Risk: Release of co-surety without other co-surety’s consent
Remaining surety discharged in the amount he could have recovered from released surety
Defenses not Available to Surety
Debtor’s fraud or duress upon the surety
- Can be used if creditor aware of fraud
– Can be used if fraud makes surety’s undertaking absolutely void
Debtor’s contractual capacity
– Surety’s own contractual capacity not debtor’s contractual capacity is a defense
Bankruptcy of debtor
–Bankruptcy of debtor discharges creditor and surety’s rights with respect to debtor; it does not discharge creditor’s rights with respect to surety
–Surety’s own bankruptcy is a defense
Creditor’s Rights Outside of Suretyship –Debtor Remedies
Debtor’s bankruptcy
Creditor’s composition
– Entered into by debtor and at least 2 creditors that debtor has defaulted on
–Each creditor agrees to take less that his full claim
– Debtor discharged in full for debts of participating creditors after debtor pays agreed amount
Assignment for the benefit of creditors
– Debtor transfers some or all his property to a trustee
–Trustee disposes of property and uses proceeds to satisfy debtor’s debt
– Debtor not discharged from unpaid debt
Judicial Liens and Garnishment
Creditors without security interest or mortgages in debtor’s property can gain rights in the property through
– Imposition of a judicial lien on property in debtor’s hands
–Garnishment of property in hands of 3rd party
Judicial Lien
Creditor asks court to impose lien on specific property owned and possessed by creditor
Court imposes lien and issues writ directing authorizes to seize property, sell it, and turn proceeds over to creditor
Personal property lien – lien attaches upon seizure by sheriff
Real property lien – lien attaches on date judgment docketed by court
Generally, Creditor can ask only if debtor adjudged to owe creditor and judgement has gone unsatisfied
Creditor can ask for lien even before judgment has been rendered if he believes debtor will not pay
– There will be adhering before writ issued
– Courts will ask creditor to post bond for damages that result if creditor does not prevail in suit.
Garnishment
Writ of garnishment orders 3rd party to turn over property to creditor or to beheld personally liable for value of property not turned over.
Social Security payments are not subject to garnishment, execution, levy, or attachment.
Judicial Liens and Garnishment – Exceptions
Certain items of a person’s household up to a certain amount are excluded from liens of most creditors
– Does not apply to persons with PMSI in personal property or purchase money mortgages against real property
Personal injury awards exempted from liens
– Not protected vs. liens of creditors who rendered medical assistance
The amount of an employee’s wages that can be garnished is limited.
No protection from IRS
Mechanic’s and Artisan’s Liens
Mechanic or artisan who works on property and improves and repairs it automatically has lien on property for the price of repairs
Must be in lienor’s possession
Lien dissolves as soon as lienor lets owner have property back
Lienor can sell retained property or foreclose on property by filing suit
–Must give owner notice
Materialsman’s Lien
For contractors who work on, or provide supplies for, real property improvements
Must file notice with local recorder of deeds.
Fraudulent Conveyances
Fraudulent conveyances = debtor transfers property with intent to hinder, delay, or degrade creditors
Indications of fraudulent conveyances
– Transfer to an insider
– Debtor retained possession or control of property
– Transfer not disclosed, or was concealed
– Transfer of substantially all of debtor’s assets
– Value received by debtor for asset not reasonable
– Debtor insolvent shortly after transfer
Fraudulent Conveyances – Remedies
Creditor can not repossess fraudulently transferred property without legal process
Creditor may
– Avoid transfer to extent necessary to satisfy his claim
– Obtain attachment vs. transferred or other property
– Obtain injunction vs. further transfer by debtor or transferee, of asset transferred.
Fair Debt Collection Practices Act (FDCPA)
FDCPA curb abuses by collection agencies and collecting consumer debts
Does not apply to a creditor attempting to collect its own debts; just the services to collect consumer debts for others.
Restrict collection agencies’ ability to call third parties, such as relatives of the debtor, to indirectly pressure the debtor.
Can contact third party to disclose debtor’s whereabouts but can not disclose that it is a collection agency or that debtor owes a debt
Fair Debt Collection Practices Act (FDCPA) – Prohibited behavior
Contacting the debtor at inconvenient all unusual times; in most cases, “convenient” times are between 8 pm and 9 pm.
Contacting the debtor directly if the debtor is represented by an attorney
Using harassing or abusive language in talking to debtor.
Making false or misleading claims
Contacting debtor at place of employment if employer objects
Fair Debt Collection Practices Act (FDCPA) – Remedies
Debtor’s power to terminate contacts
– Notifies agency in writing the debtor will not pay and to stop further communication
– Agency must stop communication except to inform debtor it is bringing lawsuit or seeking other remedies
Damages
– Debtors have right to sue for actual damages cause by collection agency’s misconduct
–Statutory $1,2000 damage award
Federal Trade Commission
– FTC can bring administrative enforcement actions under the act to force a collection agency to comply with the act’s provisions
