The Power of a Continuing Guaranty
John A. Snow and Sam Meziani
Supervisors, managers and owners of construction firms: imagine becoming personally liable on invoices for the sale of goods simply by signing a purchase order. Suppliers of goods to the construction industry: imagine binding the employees and principals of your business customers to personally guarantee their purchases simply by obtaining a signature on your purchase order. This is the power of the continuing guaranty.
A continuing guaranty is a contract clause that provides that the individual signing the credit application on behalf of the company personally guaranties that the company will pay the supplier. The continuing guarantee is typically set forth in the credit application section of a purchase order. When goods are delivered by a supplier to a purchaser without immediate payment, the supplier is in effect extending credit to the supplier. This is why many purchase orders contain credit applications. Continuing guaranties are a useful tool for suppliers, but can be detrimental to the unwary employee, officer or owner of the purchasing company, as evidenced by the following example:
Mike is the project superintendent for a major industrial construction project in Salt Lake County. During one busy day at the work site, he signs a purchase order for pipes and plumbing fixtures with a local plumbing supplier with whom he’s been doing business with for years. After reviewing the quantity of goods supplied and cost terms, he signs the purchase order, without reviewing the small print at the bottom of the purchase order. Unbeknownst to Mike, the purchase order contains a credit application including a continuing guaranty. A few days later, the goods are delivered and during the next several weeks, the pipes and fixtures are installed in the building, and the project is completed. The construction project is a success. Mike is credited for finishing the project on time and within budget. Because of his success, Mike receives and accepts a better offer from a competitor. Two years later, Mike is served with a lawsuit seeking $150,000 after his former employer failed to pay for the pipes and fixtures. The basis of the lawsuit is the continuing guaranty that Mike signed. As Mike has learned, the continuing guaranty may allow suppliers to reach persons who did not intend to become personally liable.
The practice of obtaining a guaranty, and the form of the guaranty itself, creates several uncertainties and issues which may defeat the enforceability of the guaranty or at least delay its enforcement. Some of these include:
When, if ever, will the ‘continuing’ guaranty cease to continue? The “continuing” guaranty presumably continues indefinitely, or, if provided in the guaranty, until the guarantor terminates the guaranty by notice. One of the problems that can arise is when it will in fact terminate, if ever, without written notice. This may be an issue in those instances, for example, where the customer anticipates a single transaction with a supplier. The principal signs the simple guaranty in anticipation of a single transaction, however several years later, the same customer makes a second purchase on credit from the same supplier but defaults on the payment. The creditor then attempts collection from the principal who signed the application and guaranty several years earlier.
As a general rule, a personal guaranty that continues for an unlimited period will be construed to continue only for a reasonable time. This is consistent with general contract principles that when there is no fixed time for performance stated in a contract, the law presumes that a "reasonable time" was intended, in light of the circumstances of the particular case. This rule that a guaranty of unlimited duration will only be valid for a reasonable time obviously raises various issues. The “existing circumstances” used to determine a reasonable time will clearly be interpreted differently by the creditor and guarantor, which will most likely result in a dispute that delays enforcement and gives the guarantor a certain amount of bargaining power.
What types of guaranties are in fact continuing or of unlimited duration? Courts across the country have answered this question in different ways. Some courts have held that if the guaranty can be terminated upon notice, meaning that it is not a continuing guaranty at all and will only continue until notice is given. This interpretation avoids the uncertainty of a “reasonable time.” Other courts have held the right to terminate upon notice does not render a continuing guaranty a guaranty of limited duration, and requires examination into the circumstances of the guaranty to determine its duration.
Are you signing as an individual or officer of the company? Another issue that may also arise is where the signature of the principal itself creates an ambiguity. For example, the principal signs the guaranty and adds the company title following the signature, such as “president.” The issue then arises as to what was intended by the signature. Did the individual sign as an individual or only as an officer of the company and as a result avoid personal liability? Again, courts have addressed this issue differently and inconsistently.
Does revoking the guarantee affect former liabilities? Another common problem may occur when there is an extension or renewal of an obligation, after the continuing guaranty has been terminated in accordance with the guaranty. Some courts have held that an extension or renewal of obligations which were subject to the guaranty at the time of termination, discharges the guaranty. Other courts have held that a guarantor remains liable for indebtedness incurred prior to revocation notwithstanding a renewal or extension of time occurring after revocation of the guaranty.
Preventative Measures. To avoid the foregoing issues and uncertainties, every form of guaranty should recite sufficient information including the duration of the guaranty, notice of termination and its effect, and the scope of liability. The express language of the guaranty controls the relationship of the parties. The creditor should also consider obtaining new guaranties from the owners of its customers on a periodic basis, regardless of the form of guaranty that is used. The owner of a customer who signs a guaranty should make certain that the guaranty reflects the principal's intent. For example, if the principal does not intend to be liable for future transactions, the guaranty should so state. When a principal leaves a company and guaranties have been executed by the principal, the principal should make an inventory of vendors and determine what, if any, guaranties may still be outstanding, and then promptly provide notice of termination in writing.
Paying attention to the issues and uncertainties associated with the continuing guaranties will not only alleviate unnecessary problems, but can build stronger business relationships.
John Snow and Sam Meziani are members of the Construction Law Group at the law firm of VanCott, Bagley, Cornwall & McCarthy. They can be reached at 801.532.3333 or by email at jsnow@vancott.com and smeziani@vancott.com.
A continuing guaranty is a contract clause that provides that the individual signing the credit application on behalf of the company personally guaranties that the company will pay the supplier. The continuing guarantee is typically set forth in the credit application section of a purchase order. When goods are delivered by a supplier to a purchaser without immediate payment, the supplier is in effect extending credit to the supplier. This is why many purchase orders contain credit applications. Continuing guaranties are a useful tool for suppliers, but can be detrimental to the unwary employee, officer or owner of the purchasing company, as evidenced by the following example:
Mike is the project superintendent for a major industrial construction project in Salt Lake County. During one busy day at the work site, he signs a purchase order for pipes and plumbing fixtures with a local plumbing supplier with whom he’s been doing business with for years. After reviewing the quantity of goods supplied and cost terms, he signs the purchase order, without reviewing the small print at the bottom of the purchase order. Unbeknownst to Mike, the purchase order contains a credit application including a continuing guaranty. A few days later, the goods are delivered and during the next several weeks, the pipes and fixtures are installed in the building, and the project is completed. The construction project is a success. Mike is credited for finishing the project on time and within budget. Because of his success, Mike receives and accepts a better offer from a competitor. Two years later, Mike is served with a lawsuit seeking $150,000 after his former employer failed to pay for the pipes and fixtures. The basis of the lawsuit is the continuing guaranty that Mike signed. As Mike has learned, the continuing guaranty may allow suppliers to reach persons who did not intend to become personally liable.
The practice of obtaining a guaranty, and the form of the guaranty itself, creates several uncertainties and issues which may defeat the enforceability of the guaranty or at least delay its enforcement. Some of these include:
When, if ever, will the ‘continuing’ guaranty cease to continue? The “continuing” guaranty presumably continues indefinitely, or, if provided in the guaranty, until the guarantor terminates the guaranty by notice. One of the problems that can arise is when it will in fact terminate, if ever, without written notice. This may be an issue in those instances, for example, where the customer anticipates a single transaction with a supplier. The principal signs the simple guaranty in anticipation of a single transaction, however several years later, the same customer makes a second purchase on credit from the same supplier but defaults on the payment. The creditor then attempts collection from the principal who signed the application and guaranty several years earlier.
As a general rule, a personal guaranty that continues for an unlimited period will be construed to continue only for a reasonable time. This is consistent with general contract principles that when there is no fixed time for performance stated in a contract, the law presumes that a "reasonable time" was intended, in light of the circumstances of the particular case. This rule that a guaranty of unlimited duration will only be valid for a reasonable time obviously raises various issues. The “existing circumstances” used to determine a reasonable time will clearly be interpreted differently by the creditor and guarantor, which will most likely result in a dispute that delays enforcement and gives the guarantor a certain amount of bargaining power.
What types of guaranties are in fact continuing or of unlimited duration? Courts across the country have answered this question in different ways. Some courts have held that if the guaranty can be terminated upon notice, meaning that it is not a continuing guaranty at all and will only continue until notice is given. This interpretation avoids the uncertainty of a “reasonable time.” Other courts have held the right to terminate upon notice does not render a continuing guaranty a guaranty of limited duration, and requires examination into the circumstances of the guaranty to determine its duration.
Are you signing as an individual or officer of the company? Another issue that may also arise is where the signature of the principal itself creates an ambiguity. For example, the principal signs the guaranty and adds the company title following the signature, such as “president.” The issue then arises as to what was intended by the signature. Did the individual sign as an individual or only as an officer of the company and as a result avoid personal liability? Again, courts have addressed this issue differently and inconsistently.
Does revoking the guarantee affect former liabilities? Another common problem may occur when there is an extension or renewal of an obligation, after the continuing guaranty has been terminated in accordance with the guaranty. Some courts have held that an extension or renewal of obligations which were subject to the guaranty at the time of termination, discharges the guaranty. Other courts have held that a guarantor remains liable for indebtedness incurred prior to revocation notwithstanding a renewal or extension of time occurring after revocation of the guaranty.
Preventative Measures. To avoid the foregoing issues and uncertainties, every form of guaranty should recite sufficient information including the duration of the guaranty, notice of termination and its effect, and the scope of liability. The express language of the guaranty controls the relationship of the parties. The creditor should also consider obtaining new guaranties from the owners of its customers on a periodic basis, regardless of the form of guaranty that is used. The owner of a customer who signs a guaranty should make certain that the guaranty reflects the principal's intent. For example, if the principal does not intend to be liable for future transactions, the guaranty should so state. When a principal leaves a company and guaranties have been executed by the principal, the principal should make an inventory of vendors and determine what, if any, guaranties may still be outstanding, and then promptly provide notice of termination in writing.
Paying attention to the issues and uncertainties associated with the continuing guaranties will not only alleviate unnecessary problems, but can build stronger business relationships.
John Snow and Sam Meziani are members of the Construction Law Group at the law firm of VanCott, Bagley, Cornwall & McCarthy. They can be reached at 801.532.3333 or by email at jsnow@vancott.com and smeziani@vancott.com.
Copyright 2006. Published for general informational purposes only, and should not be construed as legal advice. If you need legal advice please consult with your attorney.