Easing the burden

Easing the burden

Amended law for loan guarantees may need further rejig as analysts and banks voice their concerns

Mr Prasert has learned his lesson well. After being forced by the bank to sell his house and car to settle his friend's accumulated debt, he vows he will never again agree to be a loan guarantor for anyone, or even sign a bank document, without seeking legal advice.

Several years back Ms Porn asked Mr Prasert to be a guarantor for a 5-million-baht mortgage from a bank. Mr Prasert thought about it for a second, then agreed. After all, she was an old friend.

A few years later he was bewildered when the bank called stating it was taking legal proceedings against him because Ms Porn stopped paying for her mortgage. This meant his property, including a house and a car, was likely to be seized and sold on the market to settle Ms Porn's debt.

"The bank said I would still have to repay the remaining debt if the proceeds from the house and car sales were less than the amount owed. I was in shock," he recounted.

"That was the last time I would assist anyone seeking financial help."

The case is not unusual. Typically all commercial banks aim to maximise their security to ensure loans will get repaid.

A guarantor and mortgagor are tools the banks employ to give them peace of mind. It is common practice for banks to require a guarantee before extending a loan. And often the loan is drafted on terms and conditions highly favourable to the banks.

However, recently the government decided to amend the law related to guarantees, suretyships and third-party mortgages in the Civil and Commercial Code. 

Lawyers say this amendment will protect the rights of individual guarantors and mortgagors, who are often punished by banks' artful guarantee contracts. 

"The purpose of the amendment is not to stop the guarantee but to make it clearer," said Christopher Osborne, partner at legal consultant Watson Farley & Williams (Thailand) Ltd.

Some analysts have expressed concern that the new code could cause banks to be more cautious in extending loans, requiring higher collateral.

Bankers are worried the amended code would affect the business sector, specifically exports and international borrowing, as the amendment would limit guarantors' obligations and the credibility of borrowers alone may be insufficient for lenders to extend loans and credit. 

Further tinkering to the amendment is expected to make it more suitable for different segments of borrowers. The amendment was gazetted on Nov 13 and will take effect on Feb 11.

Existing vs new laws  

The new law will require a guarantee to specify clearly a guarantor's obligation — the duration and amount of the obligation. This will limit the guarantor's liability, unlike now when a lender can require a guarantor to agree on unlimited liability through "all money" guarantees, which usually results in the guarantor becoming liable for new loans taken out by a borrower.

"When you sign a guarantee now, you don't know your liability. It could be much more than you think or much longer than you expect," said Mr Osborne.

Under the new law, if a guarantor provides a guarantee for a car worth 2 million baht over a five-year period, 2 million baht for five years is the limit. Any attempt to make a guarantor liable for more or longer than this without his or her consent will be unenforceable.

In the case of a debt default, the new law requires banks put all their efforts into pursuing the borrower before starting to proceed against the guarantor, unlike now.

"If the guarantor is jointly liable with the borrower, banks can now immediately go after the guarantor without pursuing the borrower," he said, which they do because the guarantor has a stronger financial status than the borrower.

The new law states banks can no longer require a guarantor to be jointly liable with the borrower or else the guarantee contract is void. If a borrower is in default, the bank is also required to notify the guarantor within 60 days.

Lenders' adjustments

Kritsada Jinavijarana, director-general of the Fiscal Policy Office, believes banks and financial institutions need to adjust after the new law is effective.

Corporate borrowers often employed nominees in seeking loans with financial institutions, making the institutions prioritise the guarantors and view them as co-debtors, he says.

"Because guarantors are no longer co-debtors, this will make financial institutions worried about granting loans," said Mr Kritsada.

It is likely financial institutions will require co-debtors instead of guarantors as they do now.

"And if the guarantor refuses to become a co-debtor, the loan application might be rejected," said Mr Kritsada.

The new law also states that, in the case of debt restructuring, a lender is required to notify the guarantor. If the guarantor does not consent to the restructuring, then the guarantor will not be obliged by the guarantee.

Impact of the amendment

Boontuck Wungcharoen, chairman of the Thai Bankers' Association (TBA), agrees the new law will make guarantees more transparent and fair while protecting the rights of guarantors. But he is worried about lending and financial transactions in which commercial banks and state are guarantors.

"Since the guarantor's obligation will be limited and reduced, financial transactions including export credit guarantees and international borrowing could be affected as guarantors' credibility may not meet international financial institution's requirements," he said.

The TBA recently urged an amendment to the new code to be in line with international practices.

"Particularly if the guarantors are government or commercial banks, their liability should be the same as co-borrowers, similar to the way it was before," said Mr Boontuck.

Kitipong Urapeepatanapong, chairman and head of the tax practice group at Baker & McKenzie, shares a similar opinion, saying the revised law is likely to crimp corporate financing. Borrowers, including small and medium-sized enterprises, could find it harder to get loans because of higher collateral requirements, he said.

"It's more practical to apply the new laws only on individual loans and individual guarantees, while corporate finance and corporate guarantees should be enforced according to existing laws, unless the parties can agree otherwise," said Mr Kitipong.

He says the government is reconsidering the amendment and adjustment is expected.

Literacy matters

Mr Osborne says banks and financial institutions will need to focus on the ability of borrowers to repay their debts, rather than placing liability on guarantors.

The new law also requires financial institutions to have a new guarantee for every new loan taken out by the same borrower. In the past one guarantee was good for several new loans taken out by the borrower.

"This will increase the bank's administrative costs, which are likely to be passed on to the borrower," he said.

Mr Osborne believes improving borrowers' literacy is key. He says most borrowers do not understand guarantee contracts well enough and do not realise what they are signing up for.

He urges guarantors to seek legal advice before signing any documents, noting in some countries the guarantee is void without legal oversight.

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