Chapter 7 is all about debtor-creditor relationships. In the first part of this chapter I’ll discuss the rights, duties, and liabilities of debtors, creditors, and guarantors. Here are today’s learning outcomes.
- Explain the rights, duties, and liabilities of debtors, creditors, and guarantors.
- Identify the rights, duties, or liabilities of a debtors, creditors, or guarantors given a specific scenario.
Before we begin let’s look at some key terms:
- Debtor – person or entity in debt or someone who has a financial obligation to a creditor.
- Creditor – person or entity to whom money is owed.
- Guarantor (surety) – person or entity that will pay the creditor if the debtor is unable to pay.
Duties of The Debtor
The duty of the debtor is easy – pay the debt as it becomes due. Beyond that there is not much to know about the debtor until it comes to bankruptcy (which will be covered in the next chapter).
Rights of The Creditor
The creditor has the right to collect payment on amounts that are due. If the debtor defaults on the debt then the creditor has several options:
- Attempt to collect the debt from the debtor.
- Attempt to collect against the guarantor.
- Attempt to collect collateral from the debtor or guarantor.
Duties of The Guarantor (Surety)
A guarantor has a duty to fulfill the original obligation of the debtor. If the debtor defaults then the creditor may come after the guarantor for partial or full payment of the debt.
Rights of The Guarantor
In the case of default of the original debtor the guarantor has several rights to protect themselves.
- Exoneration – the guarantor has the right to petition the court to order the creditor to exhaust all possible methods of recovery from the debtor.
- Reimbursement – the guarantor has the right to seek reimbursement from the original debtor if the guarantor had to pay partial or all of the debt on behalf of the debtor.
- Subrogation – once the guarantor satisfies the debt of the original debtor than the guarantor becomes the creditor. They then have the same rights as the creditor to collect from the debtor.
- Right to collect from other guarantors – if there are other guarantors and one guarantor has satisfied the balance on behalf of the debtor then that guarantor can go after the other guarantors for their portion of the debt.
Discharge Liabilities of Guarantor
There are instances where a guarantor is released of their liability to the creditor:
- Debtor pays the creditor in full.
- Guarantor files for bankruptcy protection.
- Contract wasn’t in writing (all contracts involving a guarantor must be in writing).
- If the creditor releases the debtor from their liability.
- Statute of limitation expires.
However, these are instances where liability is not released:
- Bankruptcy of original debtor.
- Incapacity of original debtor.
- Death of original debtor.
- Fraud or misrepresentation of the original debtor.
- Know the three main parties involved in a debtor-creditor relationship (debtor, creditors, and guarantors).
- Know the rights and duties of the creditors and debtors as well as the guarantors.
- Know when a guarantor is liable for the debts of the debtor and when their liability is released.
- Know the rights of the guarantor when the debtor defaults on the debt.