Collateral in the construction and property sector – What to look out for?
Property projects are complex and large sums of money are at stake. The interests and therefore the need for security of the various parties involved differ. Of the various means of security, the "guarantee on first demand" stands out.
The usual means of security
Collateral is ubiquitous in the construction and property sector. For the financing of land or residential property, mortgages (liens on real property) are in the foreground. Step-by-step transactions (e.g. the purchase of a plot of land or a flat) are usually secured with so-called promises to pay from banks. Abstract guarantees or sureties are then frequently used to ensure that construction work is carried out in accordance with the contract. Finally, it is also conceivable to hand over movable property as a pledge or to transfer (future) claims of one’s own company against third parties to a lender.
Guarantees and sureties in particular
With a guarantee, a bank or insurance company undertakes to pay the guarantee recipient an amount if certain conditions (e.g. a breach of contract) are met. If the bank/insurance company waives all defences and objections arising from the basic relationship, this is an abstract guarantee in accordance with Art. 111 CO. Such guarantees can be called with a mere notification, which is why they are often also called “guarantee on first demand”. In practice, such guarantees are used as performance, advance payment and warranty guarantees.
In contrast, a surety is always dependent on the underlying transaction. The bank/insurance company is entitled to the same defences and objections as the principal debtor. The main case of application in practice is the joint and several guarantee, which is also specified in the widely used SIA-118 standard as standard security for liability for defects.
The recipient of an abstract guarantee is in a better position and usually receives his money immediately. Guarantees are therefore expensive and the guarantor always requires security in the event of a claim. The need for security must be examined on a case-by-case basis and the form of the security must be weighed up.
Guarantees – a world of formality
Guarantees on first demand sound tempting because they are supposedly easy to handle. This can be deceptive: Firstly, the guarantee text must be checked, because not every guarantee is abstract. Then you need to keep an eye on the period of validity. When making a claim under a guarantee, the formal requirements in the guarantee document must be meticulously observed, otherwise payment may be refused (so-called guarantee rigour). Another decisive factor is the way in which the claim must be submitted to the bank/insurance company and with which declaration (directly, via a correspondent bank, etc.). It is worth checking this in advance.
A guarantee is utilised – what needs to be done?
When the guarantee is issued, it is important to ensure that the bank/insurance company undertakes to provide notification in the event of a claim. This gives the party against whom the guarantee has been issued the opportunity to have the bank/insurance company prohibited from making the payment by court order. However, it should be borne in mind that the courts will only prohibit a payout if the claim is clearly an abuse of rights. The hurdles are so high that payouts are very rarely prohibited.