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February 14, 2023

When is a guarantee not a guarantee? When it's an indemnity!


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When is a guarantee not a guarantee? When it's an indemnity!

In Holman Fenwick Willan LLP v Samady (2023) the High Court had to decide whether the words (contained in a payment plan agreed between a client and his law firm) "you agree and confirm that you are personally liable for and guarantee ... all of the payments set out in this letter [and] accordingly you hereby, jointly and severally, unconditionally and irrevocably, guarantee ... the prompt and complete and performance when due in full of all payments owed by [X,Y and Z] to us" amounted to a guarantee or an indemnity. 

If this was a guarantee, the defendant would be able to raise defences available to the primary obligors against payment, including, in particular, any failure to comply with the statutory formalities relating to solicitors' invoices under the Solicitors Act 1974. The alternative was that the language created primary obligor liability as an indemnity as well as liability as a guarantee in respect of the amounts owed by X, Y and Z. In that case, any failure to comply with the formalities of the Solicitors' Act would be irrelevant as regards the defendant's primary liability as indemnifier and not help in defending legal proceedings to pay the amounts owing by X,Y and Z.

Differences between a guarantee and indemnity

The key difference between liability under a guarantee and under an indemnity is that a guarantor undertakes a secondary liability to the beneficiary of the guarantee to discharge amounts or other liabilities owing by a primary debtor or other obligor to that beneficiary. In contrast, under an indemnity, the indemnifier undertakes a primary obligation or liability to pay or discharge the amounts or liabilities owing as its own, new liability. The consequence is that any defences that may be available to the primary debtor or obligor in respect of its liabilities which have been guaranteed will also be available to the guarantor so as to limit its own liability under the guarantee (as a secondary obligor). However, under an indemnity, the liabilities undertaken by the indemnifier are new primary liabilities of that person and so defences that might be available to a third party in respect of the liabilities which are the subject of the indemnity will not, as a rule, be available to the indemnifier so as to limit its liability under the indemnity.

How could a guarantee also be an indemnity?

The relevant wording here referred to "guarantee" twice and so the defendant argued that, as used in a document drafted by lawyers, this "guarantee" wording must be taken to have its normal legal meaning and so only impose secondary liability, i.e., liability to pay subject to any defences against payment that were available to X, Y and Z. Mr Justice Freedman, however, rejected that argument and held that "the key to the construction of the .... words [is] seen in their context".  

The context here was that the payment plan replaced a series of invoices issued by the law firm, both to the defendant and to companies controlled by him. It therefore would not make sense to read the payment plan wording as limiting the defendant's liability to that of a guarantor since he couldn't be treated as a guarantor in respect of his own liabilities. Neither was it possible, in the judge's view, for the defendant to be treated as a guarantor of the liabilities of his controlled companies or those companies as a guarantors of his liabilities. 

New primary liabilities 

In response to the argument that the defendant was both primarily liable in respect of his own "invoice liabilities" and only liable as a guarantor in respect of the other companies' "invoice liabilities", the judge noted that the payment plan replaced the old invoices with a new contract that was not referable to any specific invoices. The new primary obligations under the payment plan replaced the old obligations under the invoices and so there were no liabilities that remained that could be the subject of any guarantees. 

As a result, this new primary liability under the payment plan did not depend on whether the old invoices were compliant with the Solicitors Act and so the defendant's attempts to deny liability under the plan by relying on defences only available to a guarantor (in relation to the old invoices) failed.

Litreralism v contextualism

This decision illustrates neatly the debate that has developed between lawyers over the English courts' approaches to contractual interpretation, and in particular the balance to be struck between, on the one hand, having proper regard to the dictionary or ordinary meaning of the particular words used by the parties (and most likely chosen by their sophisticated legal advisers) in their contracts and, on the other, the wider context in which the relevant words are used, including the contract as a whole and its relevant factual background.

The court's approach here in refusing to be tied down in its interpretation exercise by the specific, technical legal language used - that of "guarantees" - may be less striking than the seminal decision in Chartbrook v Persimmon Homes but is still a good example of the priority that the courts will place on interpreting contractual language in the round

In some cases that may mean there is nothing to be added to an interpretation that follows strictly the language that is used but in other cases this may mean that too strict an interpretation of particular language will not reflect the cardinal principle of contractual interpretation - "what a reasonable person having all the background knowledge which would have been available to the parties would have understood them to be using the language in the contract to mean" (per Lord Hoffmann, Chartbrook v Persimmon, at #14).

"The construction is therefore contextual. Whatever terms have been used by the parties, [the defendant's] liability is at least in part that of a primary obligor not only to the extent of whatever was his prior obligation, but to the full extent of the payment plan. Against this background, the words “personally liable” are not redundant or tautological, but state as often happens in commercial documents including agreements of lending or other forms of credit, that the liability is both that of primary obligor and guarantor.", Mr Justice Freedman, Holman Fenwick Willan LLP v Samady, at #23.

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Michael Scargill


Mergers & Acquisitions

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+44 20 7655 5161