Types of Guarantee in Business Law
A guarantee is basically the promise made by a third party that they will cover a person or a company's debt should they unable to continue to do so themselves.3 min read
There are several types of guarantee in business law. A guarantee is basically the promise made by a third party that they will cover a person or a company's debt should that person or company be unable to continue to do so themselves. At some point in a company's existence, debt will be necessary. And when raising that debt, the financial institution that issues the loan will need to make sure there's every chance the loan will be repaid in full.
Contract of Guarantee
The contract of guarantee clearly stipulates the nature and extent of the debt the creditor must recover from the principal debtor. Its main purpose is to enforce the payment of any unresolved debt by a third party, namely the person giving the guarantee, also known as the surety or the guarantor.
The whole process consists of two different contracts: the first one between the principal debtor and the creditor, and the second one between the same creditor and the surety. The contracts are independent from each other, and the liability needs to be clearly defined, with any subsequent extensions or reductions based on that initial definition.
Vital Parts of a Contract of Guarantee
- The main factors that constitute a valid contract, like full consent of the parties, a valid consideration, etc., must be fulfilled.
- The main debt must be created beforehand. In most cases, a contract of guarantee seeks to offer security to a creditor regarding an outstanding debt due to be paid by the principal debtor, therefore giving the contract of guarantee its purpose.
Different Types of Guarantee
- Unilateral Contract of Commercial Credit – Commonly used in commercial transactions, it is used either between wholesale and retail sellers or between the retail trader and the final customer. This type of agreement implies that the goods are delivered either by the wholesale to the retail seller, or from the retail seller to the customer, with no immediate payment and an agreement for payment at a later date.
- Bank Guarantee – It's a type of guarantee issued by a financial institution or a bank, that they will cover any debt a person or an institution attracts if they are no able to do so themselves. This practice helps businesses grow by allowing them to make use of certain goods and services while being able to pay for them at one point in the future, therefore letting a company invest at a higher rate than they would have done without the backing of a bank guarantee.
- Letter of Credit – It's a letter written with the purpose or requesting credit to be given either to the person writing the letter, or to specific entities mentioned in the letter, and it is used most often in international trade.
- Absolute Performance Bonds – A straightforward deal in which the surety will pay the sum that's specified in the contract if the person initially attracting the debt is unable to do so.
- Bid bond – Used in pursue of public contracts, it basically guarantees that once you win the respective contract, you will proceed to do the work you've signed up for.
- Warranty bond – When exporting goods, this type of guarantee ensures the respective goods will indeed be delivered.
- Retrospective guarantee – It is a guarantee issued when the debt is already outstanding.
- Prospective guarantee – Given in regard to a future debt.
- Specific guarantee – Also known as a simple guarantee, it's a type that is used when dealing with a single transaction, and therefore a single debt.
- Continuing guarantee – A type of guarantee used in recurring transactions, it remains in effect until it is actively revoked by the parties.
- Personal guarantee – When a business owner obtains financing for their business, they may need to offer a personal guarantee, meaning that they are personally responsible for paying some or all the amount of debt in the situation when the company is unable to do so.
- Validity guarantee – Used by companies to guarantee that issued invoice are indeed valid and collectible.
- Warranties – A guarantee that assures the final customer that the purchased good or service sold to them meets certain quality and durability standards. They can either be enforced by law or specifically offered by sellers to increase trust in their goods or services.
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