Do guarantees of commercial loans fall within the NCCC once monetary judgment is obtained?

Consider the situation that:

  1. A company has obtained a loan for a commercial purpose with an individual guarantor (un-coded loan);
  2. The company defaulted on the loan;
  3. The lender has obtained judgment against the individual guarantor;
  4. The individual guarantor is now seeking finance to discharge their obligations under the guarantee.

Will the new loan be caught by the National Consumer Credit Code (NCCC)?

The NCCC applies to guarantees under a credit contract where the guarantor is an individual or strata corporation (see s8 NCCC). The characterisation of the purpose of the guarantee takes its characterisation from the purpose of the original loan and whether the original loan falls within the NCCC.

The question turns to whether the characterisation of the guarantor may change on the happening of an event, for example an exercise of a lender’s rights under the guarantee to call in the guarantee and indemnity.

Section 5(1) of the NCCC states:

Provisions of credit to which this Code applies:

  1. (1) This Code applies to the provision of credit (and to the credit contract and related matters) if when the credit contract is entered into or (in the case of pre-contractual obligations) is proposed to be entered into:

    1. The debtor is a natural person or a strata corporation; and

    2. The credit is provided or intended to be provided wholly or predominantly:

      1. For personal, domestic or household purpose; or
  2. (2) For the purpose of his section, the predominant purpose for which credit is provided is:

    1. The purpose for which more than half of the credit is intended to be used; or

    2. If the credit is intended to be used to obtain goods or services for use for different purposes, the purpose for which the goods or services are intended to be most used.

“Debtor” in s204 of the NCCC: “means a person (other than a guarantor) who is liable to pay for (or to repay) credit, and includes a prospective debtor“. Accordingly a guarantor does not fall within s5(1)(a). (see Bank of Western Australia v Wong [2012] SASC 124 at [15].)

For present purposes a guarantor may fall within s5(1)(b)(i) as credit for a ‘personal’ purpose.

Section 13(1) contains a presumption that the NCCC, if so asserted, applies. Section 13(1) states:

In any proceedings (whether brought under the Code or not) in which a party claims that a credit contract, mortgage or guarantee is one to which the Code applies, it is presumed to be such unless the contrary is established.

The expression of contrary intention must be “plainly and unambiguously expressed”. (Re Adelphi Hotel (Brighton) Co Ltd [1953] 1 WLR 955 at 961, per Vaisey J.)

The presumption is rebuttable if the lender obtains a properly worded and duly signed Declaration, see section 13(2). In Knowles v Victorian Mortgage Investments Limited [2011] VSC 611 at [27] the Court held that a declaration that was not in the prescribed wording would be ineffective. The provisions of the NCCC (s13(3))

states that the declaration is ineffective if the lender knew or had reason to believe or would have known or had reason to believe if the lender had made reasonable enquiries about the purpose for which the credit was provided or intended to be provided.

In Knowles v Victorian Mortgage Investments Limited [2011] VSC 611 at [38] – [47] the Court reviewed a line of authorities that considered the test to be applied for the meaning of ‘purpose’ and upon who the onus rests. The Court in Knowles concluded that the test in Linkenholt Pty Ltd v Quirk [2000] VSC 1266 at [98] per Gillard J prevailed and should be viewed from the perspective of the borrower. Gillard J in Linkenholt at [98] stated:

“In my opinion, it is appropriate to consider what the money was used for in order to determine the purpose of the provision of credit. In considering the question it is important to consider the substance of the transaction in the context of its performance.”

Characterisation of the loan and guarantee

In Fast Funds Pty Ltd v Coppolla; Coppolla v Hall [2010] NSWSC 470 Fast Funds argued that the loan was for “business or investment” purposes and fell outside the purview of the NCCC. The relevance of that argument was the second loan paid out the first loan and a third loan partially paid out the second loan. The characterisation of the first loan had a direct bearing on the characterisation of the subsequent loans.

From [172] onwards the Court gave reasons from findings of fact that the original loan was for a domestic residence [183] and [203] and therefore was for personal, domestic or household purpose. However Mr Coppola did not plead nor argue relief under the NCCC or Contracts Review Act for the first loan. Relief was sought against the second and third loans. At [240] the Court found that the distribution of funds for the second loan was predominantly to discharge the first loan (a Code loan) and a mortgage over the residential home (a Code loan). The Court found that the second loan was too a Code loan. A similar finding about the third loan at [277].

What can be taken from Fast Funds is that the purpose of subsequent loans will derive their characterisation from the purpose of prior loans (and legal obligations ie the guarantee) that are discharged by the subsequent loan in combination with the purpose of the residual funds available under the subsequent loan. Whether a subsequent loan can change its purpose will be dependant on the rebuttable presumption in s11 and the predominant purpose of the funds as applied.

In the matter of Knowles v Victorian Mortgage Investments Limited [2011] VSC 611, however, the Judge concluded that the characterisation of a guarantee can change. At [53] – [55] the Court accepted the borrowers submission that the nature of the proceedings out of which the judgment debt arose was irrelevant to the characterisation of the loan. The Court relied on the rationale that upon judgment the cause of action in respect of which judgment is given merges in the judgment. That is, it does not matter if the loan being enforced is a commercial loan, once judgment is obtained against the individual guarantor the judgment debt becomes a personal debt.

Lenders should therefore avoid refinancing for the purposes of paying out obligations under a guarantee where there has been a judgment debt if they wish to avoid the application of the NCCC.

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