WHEN A GUARANTOR ISN'T A GUARANTOR
Sometimes lenders, especially if they are out of state, sometimes seek to obtain a guarantee of payment or a guarantee of certain non-recourse "carve-outs" in commercial loans. Often a condition of loan closing is that these guarantees be signed by general partners of limited partnerships, general partners of general partnerships, managing members or managers of limited liability companies, and trustees of revocable trusts. Enforcement of the guarantees in each of these situations may be doubtful.
Guarantees in California must be discussed in the context of California's anti-deficiency protections.
Lenders sometimes obtain a guaranty from a party who is really the borrower in disguise. If so, the guaranty is ineffective and the additional support for the loan that the lender thought existed is not there.
A guarantor is someone who promises to answer for the debt of another. Seeing that the name signed at the bottom of a note is different than the name signed to the guaranty is not the end of the analysis, though. If the guarantor is legally equivalent to the borrower, the guaranty will not be enforced. For example, if the borrower is a partnership and the guarantor is a general partner, the guaranty is redundant. A general partner is already liable to pay the debts of the partnership. The guaranty will not be enforceable for that reason.
At first glance a redundant guaranty may not seem a problem for the lender since the general partner/guarantor is still liable for the debt; but what if the note is non-recourse? The lender who thought that it had recourse against the general partner/guarantor does not.
The problem is not confined to partnerships. Where the trustee of a trust is liable for the trust's debt by statute, the trustee's guaranty of the trust's debt is unenforceable. Likewise, if a shell corporation is formed to borrow, the lender may find the court unwilling to enforce a guaranty given by the principal shareholder.
The problem of guarantors who are treated as borrowers crops up quite frequently when a loan is secured by real property. Often the lender will seek to collect, from a guarantor, the deficiency between the value of real property security and the full amount owing. Various laws restrain or, depending upon the circumstances, eliminate the lender's ability to collect the deficiency from the borrower. If the guarantor is treated by a court as the borrower, then the laws that protect the borrower apply, and the deficiency claim will be barred unless the claim legally could be pressed against the borrower.
In the past, some lenders have been tempted to avoid the effect of the anti-deficiency laws by having financially strong potential borrowers create or find another entity to act as the actual borrower, and by then taking a guaranty from the financially strong entity. If the loan later soured, the lender hoped to foreclose the real property security without worrying whether the right to a deficiency was thereby cutoff against the borrower, since the lender would collect the deficiency from the guarantor. Unfortunately for those lenders, the courts refused to uphold such a scheme. If the purpose and effect of the loan documentation was to avoid the anti-deficiency protections afforded the borrower, the guaranty will not be enforced. The guarantor will be treated as if it were the borrower, and will then enjoy the anti-deficiency protections enjoyed by the borrower under the circumstances.