Loan agreements that are breached by the borrower are commonplace in Israel, and therefore to disperse credit risk, it is found that in most cases the lender obtains an external letter of guarantee as a condition for granting a loan to the borrower.
How shall the prescription period be calculated for the guarantor, and is there a difference in this respect between an ordinary guarantor and a protected guarantor? In this article we shall discuss two decisions in which the Court bases its interpretation of the amendment to the Law of Guarantees in the context of Statutes of Limitation.
Brief
Loan agreements that are breached by the borrower are commonplace in Israel, and therefore to disperse credit risk, it is found that in most cases the lender obtains an external letter of guarantee as a condition for granting a loan to the borrower.
The regularity of the phenomenon of mutual guarantee of the Israeli people led to a situation in which guarantors were sued along with the debtors and became the actual main source of repayment, a situation that illustrates the complexity of the triangle of interests, creditor -debtor -guarantor. Only the intervention of the legislature within the amendments to the Law of Guarantees (תשנ”ב, תשנ”ח), has created a new arrangement regarding the ability to utilize legal measures against the guarantors.
Despite the failure of credit repayment, the lender often gives the borrower a second chance in the form of a new debt arrangement, despite the fact the credit was placed for immediate repayment and its return was also demanded from the guarantor. Thus a reality is created in which on one hand the borrower and lender agree to a second chance for credit repayment without the guarantor being a side to these agreements, and on the other hand the passage of time exposes the lender to the argument that he is statute-barred on the part of the guarantor.
If so, how shall the prescription period be calculated for the guarantor, and is there a difference in this respect between an ordinary guarantor and a protected guarantor? Following we shall discuss two decisions in which the Court bases its interpretation of the amendment to the Law of Guarantees in the context of Statutes of Limitation.
Background
The right of a creditor to collect the debt from the debtor is limited in time and subject to a statute of limitations argumentation. In general, the period in which a claim (that does not concern real property) that was not filed becomes statute-barred is seven years from the date on which the cause of action occurred (sections 5-6 of the Prescription Law).
According to the Supreme Court ruling in the Williams case[1], it was determined that the cause of action against the guarantor formulates with the sending of the first demand letter to him and that at this time the prescription period begins to run.
Since the Williams ruling, the legislature made amendments to the Law of Guarantee and, inter alia, a different procedure has been outlined that distinguishes between an ordinary guarantor and a protected guarantor, in such a way that regarding the latter the creditor’s right has been restricted with all that concerns his leeway in acting against the protected guarantor.
The relevant provision regarding a protected guarantor is stated in Article 27 of the Law, according to which no action will be filed against a protected guarantor until only after a judgment against the debtor has been given and the Head of the Execution Office has confirmed that all execution steps and procedures to recover from the principal debtor have been taken and exhausted. In this context, we shall note that a protected guarantor is a guarantor that signed a letter of guarantee for credit that does not exceed ₪ 87,638.31 on the day the credit was given, and who is not the borrower’s spouse, partner or a shareholder in a corporate borrower.
The Legal Situation regarding a Protected Guarantor
This time period in which the lender must act to exhaust all proceedings against the debtor, and during which the guarantor turns into a sort of “deferred debtor” may continue for many years. Thus, within the time period stated the creditor must perform a series of actions including: sending a warning letter to both the debtor and the guarantor regarding the non-payment of the debt; filing a suit against the principal debtor; receiving a judgment against the principal debtor; opening an execution file to collect the debt of the principal debtor; taking enforcement proceedings in order to collect the debt of the principal debtor; and only at the very end receiving the awaited confirmation regarding the exhaustion of proceedings. Only at this time the creditor is entitled to act in legal proceedings against the protected guarantor.
In some instances, this time period might exceed the statutory period stated in the Prescription Law if the period is counted – according to the Williams ruling – from the sending date of the first demand letter to the guarantor and until commencement of proceedings against him.
In the Rubin case[2] the question arose whether the prescription race began on the date on which the bank sent a warning letter to the protected guarantor regarding his debts or on the date the Head of the Execution Office gave his confirmation regarding exhaustion of all procedures against the debtor.
It was determined that the prescription period is counted from the point in time that the Head of the Execution Office issued a certificate regarding exhaustion procedures against the debtor. Whereas an amendment to the Law prevents the creditor from suing the protected guarantor as long as the Head of the Execution Office has not issued the above mentioned certificate, the creditor has, at most, a “conceptual right of action” against the guarantor, as opposed to a “concrete right of action”.
The Legal Situation regarding an Ordinary Guarantor
As regards to an ordinary guarantor, the legal situation is different. Since the amendment of the Law of Guarantee has not prevented the creditor from acting against the guarantor already on the date on which he demands the debt from the debtor, the mechanism of deferring the right to sue does not operate in these cases.
As a result, the creditor must exercise his rights against an ordinary guarantor within the prescription period which already begins to be counted from the date of the demand of the debt from the debtor. In a long series of rulings the courts rejected claims filed against guarantors after seven years had passed from the date the debt had been demanded from the debtor and accepted the prescription claims made by the debtors. Claims of creditors that proceeding had not yet been exhausted against the principal debtor were dismissed in limine in light of the clear distinction that the legislator had implemented regarding categorization of the guarantors.
Does a new Debt Settlement affect the Prescription Race?
A most common situation is that after sending the repayment of the debt demand, the debtor and creditor reach new debt settlement which within its framework the debtor is given an additional chance to repay his debt while postponing in consent the activation of the legal proceedings. Thus, there may a situation in which new debt agreement, signed after the creditor demanded the repayment of the debt from the debtor and the guarantor, is breached, but this happens after the prescription period, counted from the date of issuing the original demand for repayment of the debt, has already passed.
What is the law in this case? Was the prescription race which had already begun (in relation to the guarantor) never stopped? Does the violation of the new debt agreement establish a new cause of action against the guarantor?
It was recently ruled by the District Court in the matter of The International Bank vs. Israeli and others[3] that violation of the principal debtor’s debt agreement does not formulate a new cause of action against the guarantor. As the creditor did not act against the guarantor during the prescription period which began on the day the first demand letter to the guarantor was sent, then he is prevented from doing so if the prescription period has passed. The court held, relying on previous rulings, that an extension given to the principle debtor to settle his debt does not establish a new cause of action against the guarantor and therefore does not extend the prescription period regarding the guarantor.
The fact that the prescription race against the principal debtor is suspended for any reason does not stop the prescription race against the guarantor. The lender was not prevented in any way from taking action against the guarantor from the moment he sent the first demand letter. Violation of the arrangement with the creditors does not establish a new cause of action against the guarantors (even if it establishes a new cause of action against the principal debtor).
The Court held that the obligation of the guarantor is “secondary” to the major obligation, in the sense that with the formation of the cause of action against the principal debtor the cause of action against the guarantor also takes shape. The court noted that accepting the bank’s argument will create uncertainty because the bank has an interest in signing additional debt arrangements with the debtor, if only to artificially prolong the prescription race. There is thus a gross violation of the guarantor’s interest since the duration of time a prosecution sword is suspended above him should be limited and circumscribed, and there is thus harm to his reliance that the passage of time indicates a waiver on the creditor’s part. Moreover, this argument also creates clear evidential damage.
Summary
From the categorization of a guarantor as an ordinary guarantor or a protected guarantor the lender’s mode of action is derived. Regarding a protected guarantor, the right to take legal actions against him is restrained until a certificate is received from the Head of the Execution Office regarding exhaustion of procedures against the borrower, and from that time the prescription race begins.
Regarding an ordinary guarantor, the laws differ. The creditor must be meticulous, since as from the date the creditor’s demand for repayment of the debt is sent the prescription race begins. Any arrangement or extension agreed upon between the lender and the borrower are not relevant to the ordinary guarantor and they do not stop in themselves the prescription race.
It is important to know that a new arrangement with the debtor does not mean that you cannot act to restart the prescription race: the credit provider should know that he must act to add the guarantor as a party to the debt settlement with the debtor and get the guarantor’s actual consent to defer the prescription race. Alternatively, the lender can send a letter to the guarantors and let them know that he has a cause of action against them and that he wants their consent not to file a lawsuit against them at this time, but rather only if the arrangement with the principal debtor is breached, thereby preventing the prescription claim against him by the guarantors.