Credibility of a letter of guarantee

“The letter of guarantee safeguards the fulfilment of transactions”

A letter of guarantee constitutes a strong security of fulfilment of contractual obligations and gives credibility to the transactions. The letter of guarantee is not an ordinary guarantee given by one person to another on the basis of which a debtor’s obligations are guaranteed, but it is an irrevocable guarantee of a banking institution to pay the beneficiary according to its terms, regardless of any instructions or objections of the client not to pay.

The conditions usually set out in a letter of guarantee refer to the obligation to pay a certain amount to the beneficiary, if he submits to the bank a written first demand for payment stating that the event mentioned in the guarantee has occurred and that the agreed date has lapsed. The stricter the terms of the guarantee, the more important the content and the time of submission. If there are lapses the bank is not obliged to pay.

The issuing bank’s obligation to pay arises as soon as the beneficiary meets the conditions set by the guarantee, which is autonomous and is not affected by the agreement of the parties, the client on whose behalf it was issued and the beneficiary. The guarantee is considered cash and is an irrevocable confirmation that it will be paid on its terms, unless there is a strong reason not to redeem it, such as fraud.

In the context of a lease agreement of commercial premises, a bank guarantee was given by the tenant to the landlord. When the landlord submitted a demand for the payment of the guarantee, the tenant tried to prevent its payment and secured interim orders ordering the bank not to pay the amount to the beneficiary, but to the account of the Treasury of the Republic of Cyprus and in the event the amount of the guarantee was paid, to transfer it to the said account.

The landlord objected and the court annulled the interim orders. It referred to case law regarding bank guarantees, where, in England, the courts decided that only in exceptional cases would they intervene in the mechanism of irrevocable obligations undertaken by the banks, since bank guarantees are of vital importance to commerce. Only in clear cases of fraud would the court intervene.

The court is not concerned with the difficulties of the parties to enforce their claims, since they constitute commercial risks. Banks’ mechanisms and commitments are at a different level. They must be allowed to honour the guarantees without the intervention of the court, otherwise the trust in trade could be irreparably damaged.

When the landlord obtained a court order to have the amount transferred to his own account, the tenant applied to the supreme court seeking the issuance of a certiorari order to prevent him. The supreme court in its decision dated April 20 upheld the court’s decision to annul the interim orders and decided that the landlord’s application and the directions given by the court did not constitute an order within the meaning of article 32 of the Courts of Justice Law 14/60.

Rather, it was a consequence of the annulment decision for the implementation of the landlord’s demand for the redemption of the guarantee which he submitted before the issuance of the interim orders. The landlord, before claiming the amount, secured a letter from the issuing bank, which did not object to his demand. The court decided that there was no question of either hearing the tenant or fixing the order returnable by the issuing court. The bank was entitled to pay the amount of the bank guarantee to the landlord even without the directions of the court. Moreover, the tenant was heard during the hearing of his application for the interim orders which were annulled. There were no exceptional circumstances justifying the granting of leave to issue a certiorari order and the court dismissed the tenant’s application.

George Coucounis is a lawyer in Larnaca and the founder of George Coucounis Llc, [email protected]