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Guarantees and Surety Bonds

A clear distinction must be made between a surety bond and a guarantee.

Difference between a Guarantee and a Surety Bond

Guarantee

A guarantee is a distinct promise to pay and is not dependent on the principal obligation. The guarantor (the bank) may not raise any objections or defenses based on the underlying transaction. This means the guarantor pays upon the first written demand (claim) on the part of the beneficiary, i.e. on presentation of the confirmation specified in the guarantee text and any required documents.

The standard wording used by banks in individual cases either comply with the local legal framework or the policies of the International Chamber of Commerce (ICC). The extent to which any policies apply depends on the acceptance of the beneficiary, who decides in what manner, based on which law, and following which policies a guarantee or standby letter of credit in his or her favor is accepted.

Uniform Rules for Demand Guarantees (URDG 758)

The URDG 758, which are a revised version of the URDG 458, came into force on July 1, 2010. Their wording is based on the internationally recognized Uniform Customs and Practice for Documentary Credits (UCP 600) issued by the ICC. For the URDG 758 to apply they must be explicitly agreed to in connection with guarantees. 

A widely used and noteworthy form of guarantee is the standby letter of credit introduced by banks in the US to satisfy US banking law. In the same way as a guarantee, the standby letter of credit functions as a guarantee independently of the contract concluded between the seller and the buyer. In a manner of speaking, it is the counterpart to the European bank guarantee. The standby letter of credit secures all claims that are normally secured by a guarantee.

International Standby Practices (ISP 98)

The ISP 98 were developed by the ICC specifically for standby letters of credit. Before the ISP 98 took effect in 1998, standby letters of credit were issued subject to the Uniform Customs and Practice for Documentary Credits (UCP 600). For the ISP 98 to apply they must be explicitly agreed to in connection with standby letters of credit

Uniform Customs and Practice for Documentary Credits (UCP 600)

As global policies, the UCP 600 apply to all documentary credits. If applicable, they also govern all standby letters of credit, although this requires that the UCP are explicitly agreed on when issuing the standby letter of credit.

Surety Bond

A surety bond, pursuant to Art. 492 ff of the Swiss Code of Obligations, generally serves the sole purpose of protecting the claims of Swiss creditors. The surety bond is completely dependent on the principal debt relationship (accessoriness). The principal debtor may submit a written objection to the bank regarding the principal debt, stating the reasons for non-payment. The bank, in turn, is obliged to notify the beneficiary (creditor) of any entitlement to appeal on the part of the principal debtor (SCO, Art. 502). In practice, this means that a bank acting as a surety will generally meet a claim from the creditor only if expressly authorized to do so by the principal.

Distinction in Practice

If accessoriness is evident, it is a surety bond. In the absence of accessoriness, a guarantee has been agreed. In contrast to a surety, the guarantor may not raise any objections or defenses based on another debt obligation.

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