No escape for the guarantor after signing loan agreement

Before signing the guarantor papers for any of your friend’s loan read all the clauses and the fine prints carefully and be sure that your friend will be doing the repayment of loan up to the last penny he owes the bank.

Recently the Supreme Court in its judgment had made it clear that if you revoke the guarantee before the loan amount is disbursed; there would be no escape for you from paying up the defaulted amount.

This judgment given by a bench comprising Justices Tarun Chatterjee and H S Bedi is going to hit guarantors hard as it virtually lays down the principle "once a guarantor, you stay a guarantor till the recovery of the loan amount" much to the joy of financial institutions.

In its judgment the apex court have asked a guarantor, Sita Ram Gupta, to pay up the amount decreed against the persons who had taken the loan in 1980 from Punjab National Bank. It supported a Delhi high court verdict asking Gupta to pay up the decreed amount of Rs 42,874, including interest at the rate of 19.5% per annum.

Though Gupta, through his counsel, clarified that the guarantee issued by him to PNB was with drawn by his letter dated July 31, 1980, and argued that since his guarantee stood cancelled, he was not liable to pay the loan for which he had initially agreed to stand guarantee.

He said under Section 130 of the Indian Contract Act clearly provided for revocation of guarantee by prior notice to the creditor and argued that he had revoked the guarantee long before the loan was given.

But Gupta had forgot to read the fine print in the guarantee agreement signed by him with the bank, which read: "The guarantor hereby guarantees... to pay the bank on demand all principal, interest, costs, charges and expenses due and which may at any time become due to the bank from the borrower down to the date of payment."

The agreement also stated: "the guarantors hereby declare that this guarantee shall be a continuing guarantee and shall not be considered as cancelled or in any way affected...."

As per these two clauses in the guarantee agreement, which is virtually present in every loan agreement, the bench said, "This was an agreement entered into by Gupta with the bank, which is binding on them.

"Having entered into the agreement in the manner indicated above, it was not open to Gupta to turn around and say that in view of Section 130 of the Contract Act, since the guarantee was revoked before the loan was advanced to the persons, he was not liable to pay the decretal amount as a guarantor to the bank as his guarantee had already stood revoked."

The bench added, "It was not open to Gupta to revoke the guarantee as he had agreed to treat the guarantee as a continuing one and was bound by the terms and conditions of the said guarantee."