Debtor-Creditor Relationships Flashcards
Camp orally guaranteed payment of a loan Camp’s cousin Wilcox had obtained from Camp’s friend Main. The loan was to be repaid in 10 monthly payments. After making six payments, Wilcox defaulted on the loan and Main demanded that Camp honor the guaranty. Regarding Camp’s liability to Main, Camp is
- Liable under the oral guaranty because the loan would be paid within one year.
- Liable under the oral guaranty because Camp benefitted by maintaining a personal relationship with Main.
- Not liable under the oral guaranty because Camp’s guaranty must be in writing to be enforceable.
- Not liable under the oral guaranty because of failure of consideration.
Not liable under the oral guaranty because Camp’s guaranty must be in writing to be enforceable. The guaranty must be in writing to be enforceable under the Statute of Frauds. This is a promise to pay the debt of another.
Surety may take advantage of own contractual defenses for Fraud or Duress.
- If creditor obtains surety’s promise by fraud or duress, contract is voidable at surety’s option
- If creditor gets principal debtor’s promise using fraud or duress, then surety not liable
- Fraud by principal debtor on surety to induce a suretyship agreement will not release surety if creditor has extended credit in good faith
- But if creditor had knowledge of debtor’s fraudulent representations, then surety may avoid liability
Lux Financial Corp. loaned Boe $100,000. At Lux’s request, Boe entered into an agreement with Frey and Harp for them to act as cosureties on the loan in the amount of $100,000 each. If Lux releases Harp without the consent of Frey or Boe, and Boe subsequently defaults, which of the following statements is correct?
- Frey will be liable for 50% of the loan balance.
- Lux’s release of Harp will have no effect on Boe’s and Frey’s liability to Lux.
- Boe will be released for 50% of the loan balance.
- Frey will be liable for the entire loan balance.
Frey will be liable for 50% of the loan balance. A discharge or release of one cosurety by a creditor results in a reduction of liability of the remaining cosurety. The remaining cosurety is released to the extent of the released cosurety’s pro rata share of debt liability, unless there is a reservation of rights by the creditor against the remaining cosurety. Frey and Harp each had maximum liability of $100,000. Thus, Lux’s release of Harp will result in Frey’s liability being reduced by Harp’s pro rata share of the total debt liability which was one half. Therefore, Frey’s liability has been reduced to $50,000 (i.e., 50% of the loan balance) due to the release of Harp as a cosurety.
Nash, Owen, and Polk are co-sureties with maximum liabilities of $40,000, $60,000, and $80,000, respectively. The amount of the loan on which they have agreed to act as co-sureties is $180,000.
The debtor defaulted at a time when the loan balance was $180,000. Nash paid the lender $36,000 in full settlement of all claims against Nash, Owen, and Polk.
The total amount that Nash may recover from Owen and Polk is”
- $0
- $24,000
- $28,000
- $140,000
$28,000. When there are co-sureties, each has a right to a proportionate contribution from the others if a co-surety pays an unfair share of the debt. In this case, Nash’s liability is 2/9 of the total liability among all co-sureties ($40,000 out of a total $180,000). She therefore should not pay more than 2/9 of any total settlement. She has a right to recover 7/9 * $36,000 from the others, or $28,000. More specifically, she will get $12,000 from Owen and $16,000 from Polk.
Lane promised to lend Turner $240,000 if Turner obtained sureties to secure the loan.
Turner agreed with Rivers, Clark, and Zane for them to act as co-sureties on the loan from Lane. The agreement between Turner and the co-sureties provided that compensation be paid to each of the co-sureties. It further indicated that the maximum liability of each co-surety would be as follows: Rivers $240,000, Clark $80,000, and Zane $160,000.
Lane accepted the commitments of the sureties and made the loan to Turner. After paying ten installments totaling $100,000, Turner defaulted. Clark’s debts, including the surety obligation to Lane on the Turner loan, were discharged in bankruptcy. Later, Rivers properly paid the entire outstanding debt of $140,000.
What amount may Rivers recover from Zane?
- $0
- $56,000
- $70,000
- $84,000
$56,000. Since Clark’s debts have been discharged in bankruptcy, Clark has no liability. Also discharged in bankruptcy is his maximum liability of $80,000. The remaining co-sureties are liable for up to $400,000 between them: $240,000 for Rivers and $160,000 for Zane. Rivers paid more than her proportionate share of the liability. Her right of contribution from Zane is based on the percentage of the total maximum liability of $400,000.
Zane will pay 40%, because his maximum liability is $160,000/$400,000 = 40%. 40% of $140,000 is $56,000 (not $70,000), the amount Zane owes Rivers.
Which of the following rights does one cosurety generally have against another cosurety?
- Exoneration.
- Subrogation.
- Reimbursement.
- Contribution.
Contribution. When two people act as a cosurety, neither can generally be held liable for an entire debt. Thus, when one cosurety, upon debtor’s default, pays more than his or her proportional share, the cosurety can recover from the other cosurety the amount paid in excess of his or her share.
Sorus and Ace have agreed, in writing, to act as guarantors of collection on a debt owed by Pepper to Towns, Inc. The debt is evidenced by a promissory note.
If Pepper defaults, Towns will be entitled to recover from Sorus and Ace unless:
- Sorus and Ace are in the process of exercising their rights against Pepper.
- Sorus and Ace prove that Pepper was insolvent at the time the note was signed.
- Pepper dies before the note is due.
- Towns has not attempted to enforce the promissory note against Pepper.
Towns has not attempted to enforce the promissory note against Pepper. A guarantor on a guaranty of collection is conditionally responsible for a debt only if collection against the primary debtor fails.
Edwards Corp. lent Lark $200,000. At Edwards’ request, Lark entered into an agreement with Owen and Ward for them to act as compensated co-sureties on the loan in the amount of $200,000 each.
If Edwards releases Ward without Owen’s or Lark’s consent, and Lark later defaults, which of the following statements is correct?
- Lark will be released for 50% of the loan balance.
- Owen will be liable for the entire loan balance.
- Owen will be liable for 50% of the loan balance.
- Edwards’ release of Ward will have no effect on Lark’s and Owen’s liability to Edwards.
Owen will be liable for 50% of the loan balance. Since Edwards released one of the two sureties, the remaining surety is liable for only half of the entire debt. Until the release, Edwards could have collected the entire debt from either surety, and then that surety could have sued the other surety for half of that amount under the right of contribution. However, now Edwards can only collect 50% of the debt from Owen, because it has eliminated Owen’s ability to collect anything from Ward.
Which of the following rights does a surety have?
- Right to compel the creditor to collect from the principal debtor
- Right to compel the creditor to proceed against the principal debtor’s collateral
NO and NO…
A surety is primarily liable on a debt upon debtor’s default. If the creditor wishes to collect from the surety, the creditor may do so. The surety may not compel the creditor to take either of these actions.
A distinction between a surety and a co-surety is that only a co-surety is entitled to
- Reimbursement (Indemnification).
- Subrogation.
- Contribution.
- Exoneration.
Contribution is a right one co-surety has against another. There cannot be rights between sureties if there is only a single surety.
Which of the following acts will always result in the total release of a compensated surety?
- The creditor changes the manner of the principal debtor’s payment.
- The creditor extends the principal debtor’s time to pay.
- The principal debtor’s obligation is partially released.
- The principal debtor’s performance is tendered.
The principal debtor’s performance is tendered. Tender of full performance will totally release the surety, as in such a case there is no longer a debt to be repaid by anyone.
Green was unable to repay a loan from State Bank when due.
State refused to renew the loan unless Green provided an acceptable surety. Green asked Royal, a friend, to act as surety on the loan. To induce Royal to agree to become a surety, Green fraudulently represented Green’s financial condition and promised Royal discounts on merchandise sold at Green’s store. Royal agreed to act as surety and the loan was renewed. Later, Green’s obligation to State was discharged in Green’s bankruptcy. State wants to hold Royal liable.
Royal may avoid liability:
- If Royal can show that State was aware of the fraudulent representations.
- If Royal was an uncompensated surety.
- Because the discharge in bankruptcy will prevent Royal from having a right of reimbursement.
- Because the arrangement was void at the inception.
If Royal can show that State was aware of the fraudulent representations. A creditor is required to disclose any known material facts to a surety before the surety signs a loan agreement, if such facts will substantially increase the surety’s risks. When a creditor does not make such disclosures, the creditor has committed presumed fraud, and the surety may use this as a defense to repayment.
Which of the following defenses would a surety be able to assert successfully to limit the surety’s liability to a creditor?
- A discharge in bankruptcy of the principal debtor.
- A personal defense the principal debtor has against the creditor.
- The incapacity of the surety.
- The incapacity of the principal debtor.
The incapacity of the surety. When a surety loses capacity, the surety can usually avoid liability. Many legal obligations are therefore extinguished, including obligations taken on as a surety.
Florie is a compensated surety for a loan by Brenner to McDonald. In which of the following cases would Florie be released entirely from liability as a surety?
- Brenner reduces the interest rate on the loan.
- When the loan is due, Brenner refuses McDonald’s tender of payment and then attempts to collect from Florie.
- Florie agrees to a material change in the debtor’s contract that substantially increases Florie’s risk.
- Brenner, without Florie’s consent, agrees to a modification in McDonald’s loan that increases Florie’s risk in a nonmaterial way.
When the loan is due, Brenner refuses McDonald’s tender of payment and then attempts to collect from Florie. When the creditor refuses to accept the principal debtor’s tender of payment, the surety is released. However, the debtor remains liable as the accrual of additional interest stops.
The right of subrogation
- May permit the surety to assert rights he otherwise could not assert.
- Is denied in bankruptcy.
- Arises only to the extent that it is provided in the surety agreement.
- Cannot be asserted by a cosurety unless he includes all other cosureties.
May permit the surety to assert rights he otherwise could not assert.
The right of subrogation arises when the surety, pursuant to his contractual undertaking, fully satisfies the obligation of the principal debtor to the creditor and succeeds to the creditor’s rights against the debtor (i.e., “steps into the creditor’s shoes”). The surety acquires the identical claims or rights the creditor possessed against the principal debtor, permitting the surety to assert rights he otherwise could not assert.
