In this case, the Federal Court held that a guarantor on a loan is not excused from liability even when the principal debtor files bankruptcy.

In this case, an obligation to the creditor was guaranteed by a third-party.

The principal debtor filed bankruptcy and proposed to “cram down” the obligation to the creditor. Creditor filed an action against the guarantor to collect the entire obligation; guarantor responded by contending its liability could not be determined until the debtor’s bankruptcy repayment plan was completed.

The guarantor argued that since the principal debtor was proposing to repay a portion of the obligation, the guarantor’s liability ought not arise, if at all, until completion of the bankruptcy repayment plan.

The federal court, however, noted that:

An absolute guaranty is a contract by which the guarantor promises that if the debtor does not perform his obligation or obligations, the guarantor will perform some act (such as the payment of money) to or for the benefit of the creditor, irrespective of any additional contingencies.

A conditional guaranty, on the other hand, contemplates as a condition to the guarantor’s liability the happening of some contingent event other than the default of the principal debtor, or the performance of some act on the part of the creditor.

In this case, Moore’s guaranty was not in any way contingent upon the outcome of the primary debtor’s bankruptcy.  To rule otherwise would defeat the purpose of the agreement itself.  In addition, discharge of a principal debtor in bankruptcy generally does not relieve the obligation of a guarantor.

Section 524 of the Bankruptcy Code provides, in part, that the discharge of a debt of the debtor does not affect the liability of any other entity on, or the property of any other entity for, such debt.

The court found that the guarantor’s obligation would not be delayed or excused by the principal debtor’s bankruptcy. Moore, Owen et al. v. Coffey, 992 F.2d 1439.

By Charles R. Harroun, Attorney at Law