Sometimes a family member or a friend ("Guarantor") is asked to sign a guarantee agreement, to enable a relative or friend ("Borrower") to obtain a mortgage, or personal or business loan, from a bank or other lender ("Lender"). A guarantee agreement is sometimes known as a surety agreement.

A guarantee agreement is not a statement declaring that a Guarantor is honourable and capable of repaying a loan; rather, it's a legal document that can cause financial hardship to a Guarantor.

A Lender usually requires a guarantee because it is unsure that a Borrower is capable of paying back a loan. In such circumstances, the Lender will not advance the loan without the comfort of a Guarantor, who should be alert to the reason the loan requires a guarantee agreement.

A guarantee agreement should be in writing and signed by the Guarantor but the Borrower need not be a party to it. If the guarantee agreement is not expressed to be a deed, usual contractual rules apply and so the Lender should give a consideration to the Guarantor in exchange for the Guarantor's signature.

A guarantee agreement is usually worded so that the Guarantor is liable to the Lender in the same way that the Borrower is liable.

In the event of Borrower default, the Lender may take action against the Guarantor without first taking action against the Borrower.

Worse than just guaranteeing the loan itself, the guarantee is often worded so that the Guarantor also agrees to pay the Lender for any loss that the Lender suffers by reason of the Borrower's default.

This is known as an indemnity and means the Guarantor may, in addition to the loan, have to pay the Lender for any costs the Lender incurs in trying to collect from the Borrower. Such costs might include those of the court, attorneys and any collection agent's charges. Interest will also usually be payable on the loan, costs and charges until the date the Guarantor pays the Lender.

If there is more than one Guarantor, the Lender is not obligated to require payment from all equally.

Somewhat unfairly, the Lender can require payment from only one Guarantor, or even all except one. A co-Guarantor can, however, demand fair payment from the other Guarantors.

Certain legal presumptions can assist a Guarantor. However, Lenders are wise to the presumptions and so the wording in guarantee agreements usually specifically excludes them.

While the best step may be to refuse to sign a guarantee agreement at all, particularly if there is no benefit to the Guarantor from the loan, a Guarantor who decides to sign might wish to ask the Borrower to save up a deposit first, so that the Lender has alternative security to a guarantee. He or she might also ask the Borrower what additional information can be provided to the Lender, so that the Lender can reconsider the need for a guarantee.

If a Guarantor decides to sign a guarantee agreement, he or she can limit liability as follows:

¦ limit the sum of money guaranteed to a specific amount, to include all Lender's interest, costs and other sums for which the Guarantor is liable and make sure he or she can afford to lose this sum of money;

¦ limit the guarantee to a specific period of time, within which a claim has to be brought by the Lender against the Guarantor, so that he or she knows when they are in the clear;

¦ make sure the Lender is not permitted to give the Borrower any allowances or remissions in time, or in reduced amounts;

¦ ask the Lender for the right to terminate the guarantee agreement after giving a certain period of notice to the Lender, for example four weeks;

¦ require that any variation to the terms of the loan are first approved by him or her, as Guarantor; and

¦ most importantly, obtain the advice of an attorney and ask the Borrower to pay for that advice.

The attorney advising the Guarantor should not be the attorney advising either the Borrower or the Lender and may be able to persuade the Lender to change the wording so that the guarantee agreement is fairer to the Guarantor.

Once the Guarantor repays the Lender the guaranteed sum, he or she is entitled to demand that the Borrower reimburse them for the sum paid.

This is because there is usually a restriction written into the guarantee agreement limiting the Guarantor's exposure. However, if the Borrower has defaulted, the reality is that the Borrower may be incapable of repaying the Guarantor.

In a worst case scenario a Guarantor could lose more than money; indeed, a Guarantor could lose their home and become bankrupt.

This article is not specific to any particular person or set of circumstances.

Readers should seek legal advice from an attorney expert in the area they are interested in, or concerned about.

Attorney Neil Molyneux is a member of the Property Practice Group of Appleby. A copy of this column is available on the firm's website: www.applebyglobal.com. This column should not be used as a substitute for professional legal advice. Before proceeding with any matters described herein, persons are advised to consult with a lawyer.