07 September 2004
The Code of Banking Practice. Dealing with guarantors - requirements from 1 June 2004
The Code of Banking Practice ("CoBP") is a voluntary code of conduct which sets the standards of good banking practice to be followed by banks when dealing with persons who are or who may become customers or guarantors.
The CoBP imposes an obligation on a signatory bank to exercise the care and skill of a diligent and prudent banker in deciding the customer's ability to repay the credit.
In August 2003 a review of the COBP was completed and a new CoBP was issued. In May 2004, an amended CoBP was issued with the aim of ensuring that the disclosures and practices better suit prospective guarantors. The changes took effect on 1 June, 2004 but some aspects of them are deferred until 2005.
The focus of this note is the revised CoBP's requirements in relation the disclosures that need to be made before a guarantee is taken. These are to be found in clause 28 of the CoBP.
Note: The CoBP is itself a detailed and prescriptive document. This note is only an information summary and reference should always be made to the CoBP's provisions and any applicable internal procedures.
Application of the COBP
The CoBP applies in respect of "small business" (as defined) customers (corporate or individuals and their individual guarantors. The CoBP does not apply to corporate guarantors.
The CoBP does not replace the Credit Code in any sense. For individual and strata body borrowers a Bank therefore needs to assess the potential impact of the Consumer Credit Code.
Effect of the COBP
Although the CoBP is "voluntary" in the sense that banks could choose whether or not to adopt it, once adopted, the CoBP does have legal implications.
Banks state to their customers that they will comply with the CoBP and these representations are contained (as the CoBP requires) in the guarantee documents. The Code therefore has contractual effect as between bank and borrowers and guarantors.
Failure to comply with the CoBP in certain respects may invalidate a guarantee. Publicised breaches of the Code would have a negative impact on a bank's reputation.
Disclosure - the key requirement
Banks are required to disclose a wide range of information to prospective guarantors. This is aimed at enabling the guarantor to make an informed decision whether to accept the risks associated with giving the guarantee. Specifically, banks are required to provide prospective guarantors with sufficient impartial information in order to effectively decide whether to guarantee a particular transaction.
These disclosure requirements are in addition to requirements set out in the Consumer Credit Code.
Main changes from 1 June 2004
The main important changes to the CoBP from 1 June 2004 are as follows:
- The guarantor may be given a list of related securities rather than copies of each related security.
- In addition to the existing concession for sole director guarantors, other director guarantors can "opt out" of receiving some items in their disclosure.
- Additional information needs to be provided to the guarantors, for example, excess/overdrawing, letter of demand and dishonour information.
Required disclosure from 1 June 2004
The following documents must be provided to the guarantor prior to the Bank taking a guarantee. These obligations only apply for new guarantees, whether the facility is existing or new.
- Related credit contracts / Security documents. A copy of the letter of offer relating to the facility which will be guaranteed by the guarantor. The guarantors must also be provided with details of any conditions in an earlier version of that letter of offer that were satisfied before the final letter of offer. The guarantors must also be given a list of all securities relating to the facility. This includes mortgages, guarantees and charges supporting the facility to be guaranteed. If there is a guarantee for an existing facility, then all security previously taken also needs to be included in the disclosure. The bank must provide a copy of the actual security document if this is requested.
- Finance and Credit Application. A copy of the finance application by the borrowers is to be provided to the guarantor.
- Copies of any financial accounts and other statements of the financial position of the borrower (profit and loss statements, asset statements etc) given to the bank in the previous 2 years.
- Credit Reports. Copies of credit reports relating to the facilities to be guaranteed from a credit reporting agency. These could be in the form of Dunn & Bradstreet CRAAs or any other supplier. If it is a new guarantee for an existing facility, copies of all previous CRAA checks should be included in the disclosure packs.
- Current contracts for insurance over security property or consumer credit insurance held by the bank relating to the facilities to be guaranteed.
- Statement of account relating to the facility to be guaranteed (only for existing facilities).
- Unsatisfied notices of demand on the facility to be guaranteed which the Bank served on the borrower within two years of the disclosure date.
- Information about any excesses or overdrawings of at least $100 for any facility the borrower has or has had with the Bank within the previous 6 months. From 1 February, 2005 this has to include details of the extent of each overdrawing or excesses;
- Information about dishonours on any product the borrower has or has had with the Bank over the twelve month period prior to the disclosure. From 1 June 2005 this period becomes 2 years;
- Information about notices of demand on any product the borrower has or has had with the Bank over the twelve month period prior to the disclosure. From
1 June 2005 this period becomes 2 years; and
- A copy of account statements for periods in which the disclosed dishonour has occurred or the disclosed letters of demand were issued.
The bank also has to give other information reasonably requested by the guarantor (but not the bank's internal opinions).
Communication and timing
Disclosure Packs are to be provided to the guarantor directly and not given to the borrowers (or their agent) to deliver to the guarantors. They can be given to a legal practitioner or financial adviser for the guarantor.
The bank must also give the guarantor until the next day review the information before the Bank takes the guarantee from the guarantor. This period may be abridged if independent legal advice is received.
The guarantee must not be signed in the presence of the debtor if the bank attends on signing.
The bank must also inform the guarantors if the bank will cancel (or will not provide) the borrower's facility if the guarantor does not give the guarantee.
Concessions for director guarantors
In addition to the existing concession for sole directors and commercial asset financing guarantors, director guarantors other than sole director guarantors have the opportunity to "opt out" of receiving the disclosures. Disclosures that cannot be waived include:
- notices of demand;
- dishonours; and
- notices of excesses and overdrawings.
Also, director guarantors must be informed of their rights to receive the documents and certain other disclosures must be made. The bank must not attempt to induce opting out.
Forms of guarantee
The CoBP generally prohibits reliance on "all moneys" guarantees.
Specific forms of guarantee document are required to comply with the CoBP. For example the CoBP requires warnings on the signature page.
So even if the Credit Code does not apply, the CoBP may make the Bank's normal commercial guarantee document inapplicable.
Finally it is worth noting that the CoBP will generally not permit use of joint accounts as a means of avoiding these requirements.