Bank guarantee or security bond
Mar 05, 2020What is the best option when leasing commercial properties?
It is now standard practice when acting for landlords in commercial leasing, to request some kind of security from the tenant, typically a bank guarantee or security deposit in the form of a cash bond, and where applicable personal guarantees. It is important to identify what the most appropriate form of security will be for the landlord, and what is going to provide the best protection for them in the event that the tenant defaults.
The majority of the time – the choice will be between a cash bond, or an unlimited bank guarantee favouring the landlord.
Unconditional Bank Guarantee
The bank guarantee is a commonly favoured option by landlords and arguably provides greater protection than a bond. As a third-party guarantee from a financial institution, an unconditional bank guarantee will enable the landlord to draw down on the guaranteed amount in the event of a dispute with the tenant. In the event that the tenant becomes insolvent, the landlord will still have the protection of the bank guarantee and will be able to rely upon the guarantee to recuperate losses arising from any of the tenant’s breaches (depending on the terms of the lease). However, it is important that before the landlord seeks to draw down on the guarantee, they are certain the tenant is in breach and that they can access the guaranteed funds. If the tenant is not in breach and the guaranteed amount is drawn upon by the landlord, they may be liable to compensate the tenant.
Cash Bond
A Cash Bond is an amount of money deposited with the landlord by the tenant. It is held on trust for the benefit of the tenant and therefore, in the event that the tenant becomes insolvent, the cash bond may be recovered by the person appointed to manage the tenant’s affairs (e.g. a liquidator). If this occurs, the landlord will find it difficult to claw back funds to compensate them for losses arising from the tenant’s breach. In the case of retail leases, the bond must be lodged with NSW Department of Fair Trading (“Fair Trading”) (or other regulatory bodies as may apply from state to state). There is much more procedure and process involved where a landlord attempts to call on the bond in a retail leasing scenario which should also be considered in the appropriateness of a bond over a guarantee.
Bond or Guarantee?
Neither the guarantee nor bond is without its failings – the bank guarantee can often take some time to obtain from a bank in the first instance, and often provides logistical headaches when the lease is renewed and a new guarantee is requested by the landlord. Similarly, where a bond needs to be lodged with Fair Trading, calling on the bond can be difficult, and where the tenant becomes insolvent, the bond may be taken as a preference payment by the appointed financial manager for the tenant. Ultimately it will be a matter of how much risk the landlord wants to take on but the bank guarantee will provide greater protection in the event of a Tenant default, or insolvency event.
Contact the Shire Legal team if you have any questions.
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