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Co-makers vs. guarantors: guarantors may be a better source for recovery of a deficiency after foreclosure

Co-makers vs. guarantors: guarantors may be a better source for recovery of a deficiency after foreclosure

When making a loan to a business entity, a lender will frequently also have one or more individuals personally obligated for the payment and performance of the loan. An individual becomes personally obligated in one of two ways: (1) the individual signs the note as a co-maker along with the borrower, or (2) the individual signs a personal guaranty. From a lender’s perspective, does it make a difference whether the individual is a co-maker or a guarantor? If the lender will have a deed of trust on Nebraska real estate as collateral for the loan, a guarantor might be a better source for recovery after a default according to a Nebraska Supreme Court decision.

In Nebraska, the borrower’s liability for a deficiency after foreclosure of real property is governed by the Nebraska Trust Deeds Act. Pursuant to the Trust Deeds Act, the borrower’s maximum deficiency liability equals the amount by which the total secured debt exceeds the greater of: (1) the fair market value of the real property, or (2) the sale price at foreclosure. For example let’s assume the borrower owes the lender $100,000, the fair market value of the real property securing the loan is $100,000, and the lender forecloses with a credit bid of $75,000. Under these circumstances, the borrower is not liable for any deficiency because the property’s fair market value equaled the debt amount. The lender’s credit bid of $75,000 does not affect the borrower’s deficiency because it was less than the property’s fair market value.

A co-maker’s obligations arise under the same note the borrower signs, and which the deed of trust secures (in most circumstances). As a result, the limitations on a borrower’s deficiency liability provided for under the Trust Deeds Act applies equally to co-makers.

An individual guarantor, on the other hand, does not enjoy the same limitations on deficiency liability as a borrower. In Mutual of Omaha Bank v. Murante, 285 Neb. 747 (2013), the Nebraska Supreme Court held that the statutory limitation on deficiency liability under the Trust Deeds Act does not apply to guarantors. The Murante Court found that the Trust Deeds Act only applies to actions for deficiencies on the obligation for which the deed of trust secured, which is most commonly the borrower’s promissory note. The Murante Court went on to find that a guaranty is a separate contract by which the guarantor promises to pay the lender if the borrower defaults. Unless a deed of trust is specifically given as security for a guaranty, the lender’s rights under the guaranty would not be subject to the Trust Deeds Act’s limitations on deficiency liability.

Using the example above where the lender is owed $100,000, the fair market value of the real property is $100,000, and the lender forecloses with a credit bid of $75,000, the guarantor’s liability is greater than the borrower or co-maker. Unlike the borrower or co-maker, the guarantor is liable for a deficiency in the amount of $25,000 because the total debt exceeds the sale price by $25,000. According to the Murante decision, a guarantor’s deficiency liability depends only on the foreclosure sale price, and the property’s fair market value is not relevant.

It should also be noted that different statutes of limitations apply to deficiency lawsuits against borrowers/co-makers and guarantors. According to the Trust Deeds Act, the lender must file its lawsuit against a borrower/co-maker to collect the deficiency within three months after the foreclosure sale. This three-month statute of limitations does not apply to lawsuits against guarantors. Instead, a five-year statute of limitations for lawsuits on written contacts applies to lawsuits against guarantors to collect the deficiency. Boxum v. Munce, 16 Neb. App. 731 (2008).

Other considerations also may exist in determining whether to structure a loan with a co-maker or a guarantor, and you may wish to contact your legal counsel if you have any questions or concerns.

By Brandon R. Tomjack of Baird Holm

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