A recent Supreme Court opinion casts new light on performance of a guarantee. The Court decided that performance of a first demand guarantee can be suspended in certain cases. Since previously no such practice existed, we provide a brief summary below.
Under the Estonian Law of Obligations Act, a guarantee by its nature is a non-accessory obligation, i.e. it is not affected by the obligation secured by the guarantee. This means that the guarantor must perform the obligations arising under the guarantee agreement on the conditions laid down in the guarantee agreement regardless of whether a claim arises between the obligee and the obligor. The most common guarantee is a demand guarantee, i.e. a first demand guarantee issued by banks. In order to enforce the guarantee, the obligee has simply to file a claim with the bank and the bank will pay the amount secured by the guarantee just on the basis of the claim letter.
In a recent judgment the Supreme Court concluded that by way of securing an action it is basically possible to prohibit a guarantor from making payments. The Court stated that it is possible to suspend payments arising from a guarantee for the period of dispute until a substantive decision on whether the obligee can enforce the guarantee claim. The Court also considered suspending payment of claims arising under a guarantee to be reasonable if the guarantee is closely related to an ongoing dispute (if the claims settled in the dispute are secured by that guarantee), where enforcing the guarantee would cause considerable cost to the obligor and where suspending enforcement of the guarantee would not be disproportionate considering the interests of the obligee. The Court, inter alia, took the view that it has to be ensured that the obligee will not forfeit the actual opportunity to enforce the guarantee claim owing to securing the action (e.g. due to expiry of the guarantee term) if the dispute is finally settled in his favour.
Therefore, cases involving letters of guarantee need to take into account that although a bank may issue a first demand guarantee, it is still possible for the obligor to prevent the bank from paying the guarantee amount while the obligor and the obligee are in dispute about the existence and scope of the obligor’s obligation.
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Performance of first demand guarantee can be suspended
A recent Supreme Court opinion casts new light on performance of a guarantee. The Court decided that performance of a first demand guarantee can be suspended in certain cases. Since previously no such practice existed, we provide a brief summary below.
Under the Estonian Law of Obligations Act, a guarantee by its nature is a non-accessory obligation, i.e. it is not affected by the obligation secured by the guarantee. This means that the guarantor must perform the obligations arising under the guarantee agreement on the conditions laid down in the guarantee agreement regardless of whether a claim arises between the obligee and the obligor. The most common guarantee is a demand guarantee, i.e. a first demand guarantee issued by banks. In order to enforce the guarantee, the obligee has simply to file a claim with the bank and the bank will pay the amount secured by the guarantee just on the basis of the claim letter.
In a recent judgment the Supreme Court concluded that by way of securing an action it is basically possible to prohibit a guarantor from making payments. The Court stated that it is possible to suspend payments arising from a guarantee for the period of dispute until a substantive decision on whether the obligee can enforce the guarantee claim. The Court also considered suspending payment of claims arising under a guarantee to be reasonable if the guarantee is closely related to an ongoing dispute (if the claims settled in the dispute are secured by that guarantee), where enforcing the guarantee would cause considerable cost to the obligor and where suspending enforcement of the guarantee would not be disproportionate considering the interests of the obligee. The Court, inter alia, took the view that it has to be ensured that the obligee will not forfeit the actual opportunity to enforce the guarantee claim owing to securing the action (e.g. due to expiry of the guarantee term) if the dispute is finally settled in his favour.
Therefore, cases involving letters of guarantee need to take into account that although a bank may issue a first demand guarantee, it is still possible for the obligor to prevent the bank from paying the guarantee amount while the obligor and the obligee are in dispute about the existence and scope of the obligor’s obligation.