LESSON 14 SURETYSHIP AND PLEDGES

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1 LESSON 14 SURETYSHIP AND PLEDGES Suretyships are types of security agreements and are examples of an accessory contract. (A mortgage is also a type of security agreement and will be discussed in the next lesson.) The Contract of Suretyship Suretyship is an accessory contract by which a person binds himself to a creditor to fulfill the obligation of another upon failure of the other person to do so. It is made to provide security for the performance of an obligation. The primary obligor is known as the principal in a suretyship and the guarantor is known as the surety. The surety is only obligated to the creditor if the principal fails to perform. Examples of contracts of suretyship: Bonds-notary, fidelity & bail bonds; bonds of executors, administrators, tutors Contracts of guaranty-personal guarantees A suretyship may be established for any lawful obligation. The principal obligation may be subject to a term or condition and may be in existence now or in the future. The suretyship MUST be in writing. It can be under private signature or authentic act. The contract of guaranty may be a continuing guaranty and remains in full force and effect until the guarantor revokes it or its effectiveness is extinguished. A person is a surety when he binds himself together with the principal debtor in solido as a guarantor of a debt and when his agreement is to guarantee the performance of the debtor. A debtor will look at the surety and the guarantor as both being bound to the debt unless he clearly knows of their true relationship. The most common words used in a suretyship situation are: guarantor sureties in solido co-signors co-makers It is assumed the creditor accepts the suretyship and there is no formal acceptance necessary. Once the creditor receives the writing that the person has agreed to be the surety, then the suretyship is established. Suretyship may be qualified, conditioned, or limited in any lawful manner. If the rules of the suretyship are established by law, then those particular rules may not be modified in any way. Example: suretyship must be in writing and the surety s right to recover from the guarantor may not be changed. There are three kinds of suretyship; those are commercial, legal and ordinary. The commercial surety is one in which: Lesson 14 page 1 of 7

2 The surety is engaged in a surety business. The principal obligor or the surety is a business corporation, partnership or other business entity. The principal obligation or the suretyship arises out of a commercial transaction of principal obligor or surety respectively. The legal suretyship is one given pursuant to legislation, administrative act or regulation or court order. If there are no provisions in the Civil Code for special rules of a legal suretyship, then the commercial suretyship rules apply to the legal suretyship. Legal suretyship may be given by a person authorized to conduct a surety business in Louisiana or a natural person living in Louisiana and owning property in Louisiana that is subject to seizure and of sufficient value to satisfy the principal obligation The qualification of a natural person to be a surety must be done by his affidavit and the affidavit of the principal obligee. A legal surety is not responsible for more than what is stated in his surety contract. In lieu of a legal surety, a pledge of funds, by depositing with the creditor, may be given as security for the obligation. No judgment may be rendered against a surety without the creditor first obtaining a judgment against the principal obligor. If a court demands a security, any bond so given must be made payable to the clerk of the trial court in which the proceeding was brought. If the surety himself is the plaintiff, then a cash bond may be furnished in lieu of other security at the surety s option. Immovable property may be used as security as long as it is in the state of Louisiana. If immovable property is used for security the following is required: assessment certificate homestead exemption waiver mortgage certificate (showing it is recorded in the mortgage office) A bond will only be accepted in a judicial proceeding unless accompanied by affidavits of: each surety that he is worth the amount he is promising to secure each party furnishing bond that he is informed and believes that each surety on the bond is worth the amount promised to secure each party furnishing a bond by immovable property that he is worth the amount he is promising to secure and that the immovable is worth the amount of money he says it is The ordinary suretyship is one that is not commercial or legal and must be strictly construed in favor of the surety. Effects of Suretyship A surety is liable for the full performance of the principal obligation Lesson 14 page 2 of 7

3 The surety has the right to assert against the creditor any defense to the principal obligation except lack of capacity or discharge in bankruptcy of the principal obligor. When the surety pays the debt, he has the right to be reimbursed by the principal debtor. He becomes subrogated to the rights of the creditor and may require security from the principal. i.e., The surety has the right of: subrogation reimbursement requirement of security from the principal obligee If a principal obligor pays a creditor and the surety does also, the surety may recover the amount he paid from the creditor. The surety may never recover more than he has paid on the debt other than an amount for attorney s fees and interest. Before making any payments, the surety may demand security from the principal obligor to guarantee his reimbursement when: surety is sued by the creditor principal obligor is insolvent principal obligor fails to perform an act promised in return for the suretyship principal obligation is due or would be due but for an extension of its term not consented to by the surety If the principal obligor fails to provide the required security within 10 days of the delivery of a written demand for the security, then the surety has an action to require the principal obligor to deposit into the registry of the court the funds sufficient to satisfy the surety s obligation to the creditor as a pledge for the debt of the principal. More Than One Surety Co-sureties are those who are sureties for the same obligation of the same obligee and share in proportion to their numbers. This is not true if they agreed to the responsibility in a contract in writing that one surety will be responsible for an amount different from the others. If one surety pays all of the debt or more than his share, then that surety has the right to proceed directly against the other sureties for their share of the debt. The surety that paid the debt has 10 years in which to recover his funds. Termination of Suretyship An obligation of a surety is terminated when: the principal obligation is extinguished prescription of the principal obligation extinguishes the obligation of the surety Lesson 14 page 3 of 7

4 notice by the surety to the creditor that the surety is terminating the suretyship death of a surety Extinguishment of an ordinary surety also occurs if an amendment or modification of the principal obligation is made without the consent of the surety. Extinguishment of a commercial suretyship is to the extent that the surety is not prejudiced by the action of the creditor (singled out of several sureties is a good example). Paying the debt that the surety has obligated himself to pay on the debtor s obligation extinguishes the suretyship NOT the debt. If the debt were extinguished, the surety would not have the right to subrogate to the rights of the creditor and to enforce the debt against the principal obligor. Pledge The pledge is a contract where property is given as a security for a debt. The property is deposited with the creditor (pledgee) and gives him preference over other creditors for the secured amount of money owed. A pledge is contractual and the pledgor must have the capacity to contract. When the pledge arises from a contract then that contract is considered and called the principal contract. The pledge depends on a primary personal obligation for its validity. Every lawful obligation may be enforced (secured) by a pledge. If the principal obligation is conditional then the pledge expires when the condition is met. The pledge is void (null) if the obligation is (void) null. A pledge can be for money or any object, such as a personal pledge to be a surety. A person may give a pledge for his own debts as well as for another s. A debtor may pledge anything that belongs to him. A pledge must be delivered by the debtor to the creditor if for a corporeal thing. If for an incorporeal thing, the delivery is merely fictitious and symbolical. The pledge can be written or oral depending on the type of property being pledged. The pledge MUST be in writing if property is an incorporeal or immovable the creditor expects privilege and preference in payment An oral pledge is perfected upon delivery. A pledge may be used to create a security interest in personal or movable property. Types of Pledges Pawn-when a movable thing is given in security and may be given to secure any lawful obligation Antichresis-when the thing is immovable Lesson 14 page 4 of 7

5 Pawns The term pledge and pawn are sometimes used synonymously. Do not confuse the use of the word pawn as when someone pawns a watch or a movable item. In Civil Law the term pawn refers to a sale with a right of redemption. A corporeal movable may be pledged if it is susceptible of alienation and that movable belongs to the pledgor. Incorporeal movables may be pledged provided the pledge is in writing. The pawn (pledge) of a movable invests the creditor with the right of causing his debt to be satisfied first (by privilege) and in preference to other creditors of his debtor. A privilege may be exercised against creditors only when the pledge is in writing. A debtor may pledge promissory notes bills of exchange bills of lading stocks & bonds policies of life insurance or written obligations of any kind The debtor MUST deliver to the creditor the object of the pledge and the pledge shall then be valid as well as against third persons if made in good faith. All pledges may be made by private writing and all MUST be delivered (except life insurance policies). A pledge of a life insurance policy must be evidenced by written assignment as security to the pledge and by delivery of the assignment or pledge to the insurer with the consent of any named beneficiary who is not the insured or his estate. A pledge of life insurance may not be done if it requires the consent of the beneficiary and that beneficiary does not give his permission or if the insured can change the beneficiary upon the insured s sole request. The assignment or transfer of the principal obligation does not extinguish the pledge constitute a new pledge or issuance affect the retroactive effect given for obligations to the original pledgee or its successors If a pledge at the time of its delivery, issuance or reissuance was intended to secure obligations that may arise in the future, the pledge relates back to its time of delivery, issuance or reissuance as long as the pledgee, or his agents or successors have maintained possession of the pledged item. Lesson 14 page 5 of 7

6 Future obligations can be but are not limited to: lines of credit situations where monies have been advanced in whole or in part one or more times readvanced to one or more obligations that the pledge was given to secure situations which pledgor could not have required the pledgee to advance funds under one or more obligations that pledge was given to secure delivery of property on deposit in a warehouse cotton press on storage with a third person represented by a bill of lading or storage receipt Who owns the pledged property? The debtor. The property is only in the hands of the creditor as security- not ownership by the creditor. The pledgee (creditor) is liable for any loss or damages of the pledged property through his negligence or fault. The creditor must pay necessary expenses to maintain the item pledged. This relationship creates a fiduciary relationship between the creditor and the debtor (the pledgor and the pledgee). The creditor (pledgee) has the right to the delivery and possession of the pledged property. To confect the contract, the debtor must deliver to the creditor the pledged property. Once the pledge is paid or discharged, the property MUST be returned to the pledgor. The pledgee CANNOT use the pledge as collateral or in other transactions not related to the pledge contract. When several things are pawned, the owner cannot retake possession of only a few or part of the things without paying the debt in full. If a debtor takes back property without satisfying the debt, it is considered theft. The creditor can not acquire the pledge by prescription no matter how long he holds the thing in his possession. If the pledgor does not satisfy the debt, then the creditor has the right to sell the item pledged to recover his money. Before doing so, the pledgee MUST notify the pledgor of his intention to sell so that the pledgor has the opportunity to cure his default. If the pledge consists of stocks, bonds or other instruments, and they have been pledged for the payment of any debt or obligation, the pledgee must obtain a judgment in the ordinary course of law in order to sell the pledge. Also, it is lawful at all times for the pledgee to give his consent for the disposition of such pledges. If the pledgor is dishonest about the substance or quality of a thing pledged, the creditor (pledgee) has the right to claim another thing in its stead or demand immediate payment of the debt. The fruits (or income) of the pledge are considered part of the pledge and remain in the hands of the creditor. The creditor must account for the fruits and may reduce the debt owed to him if he keeps the fruits from the pledge. Lesson 14 page 6 of 7

7 Antichresis Antichresis is the pledge of immovable property. It is a contract where the debtor (pledgor) gives immovable property (incorporeal immovables) to the pledgee (creditor) as security. Ex: mineral rights, rents, future crops Provisions for a Pledge Antichresis is subject to all general provisions for pledge: Is an accessory obligation subject to a primary obligation Must have a debt or principal obligation to support it since it is an ancillary contract. The primary obligation may be pre-existing or incurred in the making of the antichresis Antichresis may be given to secure a third party s obligation. The property pledged must be owned by the pledgor. Possession, but not ownership of the property pledged must be transferred to the creditor. The antichresis MUST be in writing. It gives the creditor the right to reap the fruits and revenues of the property and to apply them first to the interest owed and then to the principal debt. It must be recorded to affect third persons. It does not take precedence over other recorded mortgages. The creditor must pay the taxes and annual charges on the property unless the parties agreed otherwise. In order to avoid paying the taxes and annual charges, the creditor may renounce his right to possession and return it to the debtor. The debtor may not retake the property unless the creditor renounces his right to keep it. Should the debtor default, the creditor must seek a judgment from a court of law in order to dispose of the property to get his money. The property which is the object of the default must then be sold at sheriff s sale. VOCABULARY Accessory Contract - when it is made to provide security for the performance of an obligation Surety - Guarantor Suretyship Guaranty Privilege -security interest in property that arises by operation of law is usually not recorded Ancillary Contract - having a subordinate, subsidiary, or secondary nature; serving as a supplement or addition Confect -to put together by combining Curator - a court appointed guardian who manages the affairs of another who is incapable of doing so himself Lesson 14 page 7 of 7