Bank Guarantees Explained
A Bank Guarantee, which is transferred from one bank to another, must contain specific language in order to act as security in the event a borrower fails in their obligation to repay a lender. Whether a Bank Guarantee is a direct or indirect guarantee, as explained below, unlike other guarantees, the usage is specific to that of security. Transferring a guarantee is a relatively easy exercise and involves an Issuing Bank taking instructions from their client, (The Applicant or Provider), to transfer a Bank Guarantee to another bank (The Receiving Bank), in favour of their client, (The Beneficiary).
A documentary Letter of Credit (DLC), or a Standby Letter of Credit (SBLC), can sometimes be confused with a Bank Guarantee (BG), with regard to payment. In this respect a Bank Guaranty represents a SECURITY for payment, whereas a Standby Letter of Credit or a Documentary Letter of Credit represents a means of payment.
For those companies wishing to utilise a Bank Guarantee, it is important to note that legal issues governing Bank Guarantees differ from country to country and to this end, Bank Guarantees must be scrutinised on an individual basis. It is crucial therefore to understand that Bank Guarantees are governed by the laws of the country where the Issuing Bank is domiciled.
The basis on which a Bank Guarantee is transferred depends on whether the guarantee is a direct on indirect guarantee. The definition of an Indirect Bank Guarantee is where a correspondent bank receives an instruction from the Issuing Bank to issue and transfer a Bank Guarantee to another bank. A Direct Bank Guarantee is a simple instruction received by an Issuing Bank’s client to transfer a guarantee direct to another bank. As definitions of guarantees are being discussed it is prudent to note the difference between a Bank Guarantee and a Surety Bond or a Performance Guarantee. A Surety Bond or Performance Guarantee is somewhat akin to an insurance policy where payment will only be made once certain pre agreed conditions have been satisfied, whereas a Bank Guarantee is payable on DEMAND.
A Demand Bank Guarantee is specifically used to raise credit such as capital injections a line of credit or a straight loan and are commonly referred to as Credit Facility Guarantees. Companies who require new capital in the form of a line of credit or loan can make use of the Collateral Transfer Facility, which employs the use of Demand Bank Guarantees which have specific verbiage and are governed by ICC Uniform Rules for Demand Guarantees (URDG 760), and are payable on FIRST DEMAND.