6 Essentials of Bank Guarantees

How closely do you as the beneficiary of the bank guarantee check the contents of the document? Do you take careful note of where it is stored or filed? asks MATTHEW WICKS.

All too often, lawyers are handed a bank guarantees which are invalid or are no longer current, or instructed that the client cannot locate the bank guarantee and is not sure whether it was actually provided or to whom.

Bank guarantees are one of the most common features in commercial contracts. They are used for a variety of reasons, whether as a form of security in a retail or commercial lease, or provided by a builder to the owner as a form of financial guarantee that the project will be brought to practical completion and any defects rectified within the defect liability period following practical completion

Essentials of Bank Guarantees.

1. A bank guarantee should always be from an Australian Trading Bank; that is, a bank with an Australian banking licence.  Given the international stage on which so many conduct business today, it is important to note that many foreign banks have Australian banking licences, and these fall within the description of Australian Trading Banks. The format of bank guarantees for many foreign banks is often quite different to those provided by Australian banks however, and should be carefully reviewed.

 

2. Ideally, the bank guarantee should not have an expiry date. If however the guarantee provider or their bank insists on an expiry date, it should be a minimum of three (3) months from the expiry date of the contract. This will ensure that if the provider breaches the contract following the contract termination date or simply disappears, you will still have a valid bank guarantee to enforce against the breach.

Many American banks will only issue bank guarantees for a maximum period of one (1) year. This is often a problem when the company you are dealing with is a local subsidiary of an American corporation. In such circumstances reinforcing the bank guarantee from the American parent company may be worthwhile.

 

3. The bank guarantee should clearly state who it is in favour of. The name of the beneficiary should be accurate and correctly spelt.

 

4. A bank guarantee should clearly and correctly state the amount being guaranteed. If the provider is reimbursing you for GST on payments, the amount guaranteed should include the GST reimbursement.

 

5. Parties, particularly the party providing the guarantee, should have particular regard to drafting the contract in terms that expressly limit the purpose of the guarantee, if that is the parties’ intention, including:

  • whether recourse to security is subject to a condition precedent or set-off;
  • clearly identifying monies capable of being set-off, and the priority of any set-off against security given under the contract; and
  • clearly identifying the circumstances giving rise to an entitlement to call upon any bank guarantee, including expressly excluding certain types of debts arising under the contract if the parties so agree.

 

6. For bank guarantees provided pursuant to a lease, the following additional issues should also be considered:

a. The bank guarantee should clearly state the premises being leased. This should include the suite or building number and the street address.

b. The tenant should not be given possession of the premises until the bank guarantee is provided.

c. If the lease provides for the bank guarantee to increase on each rent review, make sure that this provision is enforced. It is appropriate to include a request for the new bank guarantee and reference to the relevant clause of the lease in the notice to the tenant advising of the new rent.

d. On the exercise of an option by the tenant, or the granting of a new lease to an existing tenant, remember that you will need a new bank guarantee from that tenant. The guarantee in existence may have expired, or may no longer be the correct amount if there has been a rent review on exercise of option.

 

The existing bank guarantee should be physically exchanged for the new guarantee. Otherwise you will be left without security for the lease.

It is important to decide who is to have physical possession of the bank guarantee – you, your lawyer, the managing agent, or somebody else. Make sure that all involved parties know who has the original.

It is worthwhile undertaking an audit of all leases at regular intervals to ensure the bank guarantees held are up to date and still valid.

Leasing agents should clearly set out the requirements of the bank guarantee in their leasing advice so that the tenant is aware at an early stage of what is required.

If a proposed bank guarantee does not comply with the above points, and the relevant bank will not agree to an amendment, it may be preferable to agree to an alternative form of security such as a security deposit or surety bond.

A further issue for consideration, not unrelated to the matters discussed above, is that of enforcement of bank guarantees. Often, beneficiaries will be unsure whether the circumstances warrant calling on the guarantee, or how to go about it. Conversely, the party who has provided the guarantee may dispute the beneficiary’s entitlement to call on the guarantee. In our experience, whether you are the party who has provided the guarantee or the beneficiary, calling on a bank guarantee is likely to be a contentious issue.

 

Bank guarantees are an integral part of ensuring contractual compliance and securing your legal entitlements, and you should therefore ensure that you obtain legal advice in this area. Baker Love’s commercial law team has extensive experience in advising on bank guarantees, so please contact us if you require any assistance in regard to bank guarantees, call (02) 4951 5766.