SOUTH AUSTRALIA

THIRTY-NINTH REPORT

of the

LAW REFORM COMMITTEE

of

SOUTH AUSTRALIA

to

THE ATTORNEY-GENERAL

RELATING TO THE REFORM OF

TEE LAW OF SURETYSHIP
 The Law Reform Committee of South Australia was established by
Proclamation which appeared in the South Australian Government
Gazette of 19th September, 1968. The Members are:
THE HONOURABLE MR. JUSTICEZELLING,C.B.E., Chairman.
THE HONOURABLE IMR.JUSTICEJACOBS,Deputy Chairman.
THE HONOURABLE MR. JUSTICEKING, Deputy Chairman.
B. R. Cox, Q.C., S.G.
D. W. BOLLEN,Q.C.
J. I?. KEELER.
K. T. GRIFFIN.
The Secretary of the Committee is Miss J. L. Hill, c/o Supreme
Court, Adelaide, South Australia 5000.
THIRTY-NINTH REPORT OF THE LAW REFORM COMMITTEE
OF SOUTH AUSTRALIA RELATING TO THE REFORM OF
THE LAW OF SURETYSHIP

The Honourable Peter Duncan, M.P.,

Attorney-General of South Australia.

Sir,
Your predecessor referred to this Committee the consideration of the
reform of the law relating to suretyship. There are many men who
have found out by bitter experience the wisdom of the admonition of
that wisest of men, King So1omon"Be not thou one of them that
strike hands, or of them that are sureties for debts": Proverbs 22:26.
It is probably impossible to save fools entirely from their folly but it
is another thing, as Courts have done, to weigh heavily the law in
favour of creditors, particularly banks, with no thought of the competing
interests of the surety. The law has frequently made sureties liable in
circumstances which were totally unenvisaged when the contract of
suretyship was made and have stretched the law as far as possible in
favour of the creditor and ,against the surety. In our opinion it is high
time that the balance was redressed. We do not wish to impede
legitimate commercial transactions in which suretyship forms and has
for long formed as essential part, but we think that because a man
becomes surety for another, it is not necessary for the Courts to take
heed of another proverb of the same learned monarch and "answer a
fool according to his folly lest he be wise in his own conceit" (26:5).
For these reasons we have not essayed a general review of the law of
suretyship. We have preferred to deal with the cases in which, as the
law stands at present, the scales are not held evenly between the creditor
and the surety and have made suggestions for the reform of the law so
that it might operate more equitably between the parties.
As to the definition of "suretyship" itself, this is usually taken from
the speech of Lord Selborne in Lukeman v. Mount Stephen L.R. 7 E &
1. 17 at 24-25 where His Lordship says :-
"There can be no suretyship unless there be a principal debtor, '
who of course may be constituted in the course of the transaction
by matters ex posr facto, and need not be so at the time, but until
there is a principal debtor there can be no suretyship. Nor can a
man guarantee anybody else's debt unless there is a debt of some
other person to be guaranteed."
We have not in this report distinguished between indemnity and
guarantee. We have already in the Thirty-Fourth Report of this
Committee recommended the repeal of Section 4 of the Statute of
Frauds in relation to South Australia. It seems to us that in all
circumstances the same rule should apply whether the contract be
strictly one of guarantee, i.e. that recourse must first be had to the
principal debtor and then to the surety, or a contract of indemnity
where both are principal debtors and the amendments we recommend in
this report should apply equally to both classes of contract of
suretyship. For a good description of contracts of indemnity stricto sensu
see Bullen & Leake and Jacobs (as it now is) Precedents of Plmdings
12th Edition, pages 495-497.
 Turning now to the cases in which we think there should be
amendments of the law they are as follows:-
1. Guarantees given in relation to a customer's account with a bank.
This was the case which caused the original reference by your pre-
decessor as the law, as presently constituted, is so manifestly unjust to
the surety as to cry out for some redress for the surety. As the law
stands at present, a bank is not required to disclose to a surety matters
which any person entering into a contract of this kind would regard as
material in deciding whether or not to act as surety unless there are
"some unusual features in the particular case relating to the particular
account which is to be guaranteed": see the judgment of the High
Court of Australia in Goodwin v. The National Bank of Australasia
Limited (1968) 117 C.L.R. 173. In that case an eighty-two-year-old
woman was prepared to guarantee the account of her son and daughter-
in-law with the respondent bank. However a week before the execution
of the suretyship document the son had become surety to the bank for
the account of a third person named Ca\.endish. This was not disclosed
to this elderly woman and she became liable for a large sum of money
on an account of which she knew nothing and had been told nothing.
The contrary of the decision in Goodwin would appear to have been
decided by Gordon J. in the Full Court of this State in Chambers v.
Rankine 1910 S.A.L.R. 73. The other two Judges of the Court,
Way, C. J. and Homburg, J., construed the guarantee in question there
in a different manner and the point did not arise in their judgments.
Insofar as Gordon, J.'s judgment is to the contrary of Goodwin's case
it must be taken of course to be over-ruled sub silentio by the High
Court's decision in Goodwin even though Gordon J.'s judgment is good
sense and good commercial morality. The leading case is the decision
of the House of Lords in Hurnilton v. Wutson (1845) 12 Clark & Finelly
109; 8 E.R. 1339. The effect of their Lordships' decision in thst case
is that a surety should in effect administer a whole series of interrogator-
ies to a bank before entering into a contract of suretyship. How the
surety is supposed to draw this hypothetical set of interrogatories, when
the bank has all the knowledge and the surety has none, is a matter left
unexplained by the eminent gentlemen who constituted the tribunal in
question. Lord Campbell at pages 118-119 of the report in Clark &
Finelly (at page 1343 of the English Reports) shows clearly the policy
behind their Lordships' decision, which is that bankers would never get
sureties or would get them much more rarely, if they had to make full
disclosure before entering into contracts of suretyship. That might have
been a sufficient commercial morality in the luissez faire era of 1845.
It is an intolerable situation in 1976. We have no hesitation in
recommending that the law be altered and that the person seeking the
guarantee should be required by law to disclose to the surety all matters
material to the decision of the proposed guarantor as to whether or
not to enter into the proposed contract of suretyship before he enters into
it. This recommendation should apply to all contracts of suretyship
and not only those guaranteeing contracts made with banks.

The matter came to the attention of the then Attorney-General because

the Australian and New Zealand Bank Limited raised the same defence
in O'Brien v. The Australian & New Zealand Bank Limited (1971)
5 S.A.S.R. 347 at page 355. The defence did not prevail in that case
because an actual untruth was told when a question was asked, but it
is clear that even in this decade banks are still prepared to rely on the
sort of commercial morality which would have been, doubtful in 1845
and intolerable in our present consumer oriented society today.
 2. We havc not dealt in this paper with guarantees of contracts made
by infants although these are themselves unsatisfactory: see a note in
35 A.L.J. ut 357-8, articles by the then Mr. Else-Mitchell in 63 L.Q.R.
255 and by Stein in 90 L.Q.R. 258 and the decisions in Coutts &
Company v. Browne-Lecky [I9471 K.B. 104 and Yeoman Credit Ltd. v.
Lutter [I9611 1 W.L.R. 828, because we are dealing with the subject of
infants' contracts generally in another report which is yet to be
submitted to jou. If the topic of guarantees given by infants is not
dealt with in that report, we shall forward to you a supplementary
report to this Thirty-Ninth Report of the Committee to cover that
particular topic. We draw attention in this report to the defects in this
branch of the law in case you prefer to deal with this particular aspect
of it under suretyship and not under infants' contracts generally.

3. As the law stands at present a surety may restrict his liability under
the contract of suretyship to a certain fixed amount but the creditor can
still lend up to any amount and thereby bring into existence other debts
which will compete with that of the surety and may well force the
principal debtor into bankruptcy and therefore produce a liability on the
surety quite unintended by the surety. As was said by the Court of
Appeals of New- South Wales in Totul Oil Products (Australia) Pty.
Ltd. v. Robinson (1970) 1 N.S.W.L.R. 701 unless the terms of the
promise otherwise clearly show it, a guarantee for a stated amount
merely limits the maximum liability of the guarantor and does not make
the guarantor's liability conditional upon the principal debtor's liability
remaining beneath that sum. Yet that is a reason why the average man
puts in a limiting figure of that kind: to make sure that the principal
debtor cannot get credit beyond that figure. In fact the limitation is
nugatory. See also the decision of the Full Supreme Court of Queensland
in Queensland National Bank Ltd. v. Queensland Trustees Ltd. (1899)
9 Q.L.J. 282. The law should be amended to provide that where an
upper limit is specifically placed on a surety's liability in relation to a
particular creditor, and that creditor advances moneys to the debtor
beyond the limit of liability so imposed and accepted by the creditor
without first obtaining the consent of the surety, the surety's liability
should be diminished to the extent of those further advances.

4. So, too, as the law stands at present, a creditor can appropriate

moneys paid by the debtor so as to defeat rights of the surety: see the
judgment of the Privy Council in Fahey v. M . S. D. Spiers Limited
[I9751 1 N.Z.L.R. 240 and Rowlatt on the Luw of Principal and Surety
3rd Edition, pages 126-127. As is said in, Rowlatt at page 126:-
"If he (i.e. the debtor) makes no appropriation, the creditor can
either then or at any time afterwards appropriate the moneys he
pleases, even to a debt statute barred, though not a debt incurred
during infancy; and the payment will not be presumed, as in the
Civil law, to have been appropri$ated by the debtor to the more
burdensome debt."

Tn other words the matter of appropriation goes on solely as between

creditor and debtor. It is a matter of which the surety knows nothing
and yet it enures to the disadvantage of the surety. That the creditor
and debtor may so appropriate moneys as between themselves is well
established. That the creditor should be able to do so to the dis-
advantage of the surety where there is a surety and without informing
the surety thereof is wrong and that power should be taken away by
statute. The creditor can retain his power to appropriate payments as
he pleases, or he may secure himself by obtaining a surety to the debt,
but he should not be able to do both things. The unreasonableness in
any event of granting this power of appropriation to the creditor in
these circumstances is shown by Rowlatt (op. cit.) at page 134, quoting
with approval a decision of the Supreme Court of Massachusetts that
where money is obtained not by voluntary payment by the debtor but
by execution levied, the proceeds of the execution cannot be appropri-
ated by the creditor to those debts which are not guaranteed but must be
apportioned ratably between all the debts included in the judgment.
There should not be one rule for executions and another. for voluntary
payments. The rule propounded by the Supreme Court of Massachusetts
in relation to execution is equitable, reasonable and proper and it should
apply in both sets of circumstances.
Our recommendation is that the law should provide that irrespective
of any appropriation as between debtor and creditor all payments by
the debtor should operate to relieve the guarantor pro tanto of his
obligation to the creditor in the absence of agreement to the contrary
by the guarantor at the time of the appropriation.
5. Again, as the law now stands, the creditor can circumvent any
limitation imposed pursuant to the suretyship agreement simply by
entering into a new agreement with the debtor leaving the surety's
contract intact and without notifying the surety of what he is doing: see
the decision of the British Columbia Court of Appeal in Bank of Nova
Scotia v. Neil (1968) 69 D.L.R. 2d. 357. In that case the guarantee was
for two thousand dollars. The bank then went ahead and entered into
fresh agreements with the debtor, unknown to the surety, totalling eight
thousand dollars. They collected that latter amount in full and were
held to be still entitled to recover the two thousand dollars from the
surety. Again this result comes, to a certain extent, not only from the
freedom of agreement accorded to creditors but also to the rule as to
appropriation which we have dealt with under the preceding clause.
Norris, J. A., says at page 358 :
"Where the guarantee is a continuing one, the surety has no
right to control tho appropriation of payments in, so long as (in
this case) the banker deals with the accounts in the ordinary way
of business: Deeley v. Lloyds Bunk Limited [I9121 A.C. 756 at
768."
We do not regard that in the 1970's as an acceptable way of carrying on
business. It is a deceitful transaction carried on behind the back of the
surety.
6. Similarly where a surety has joined in a bond for a thousand
pounds and the creditor subsequently agrees with the debtor that the
debt shall be only five hundred pounds, that does not discharge the
surety and he is still liable for the full thousand pounds: see Croydon
Gas Cornpuny v. Dickinson (1876) 2 C.P.D. 46 at 51. It is only the
debtor's liability that the surety is guaranteeing and that should be the
limit of the surety's liability.
7. So, too, it is not necessary for a creditor to resort to securities for
the guaranteed debt received by the creditor from the principal debtor
before proceeding against the surety. The distance to which this has
been carried can well be seen in Halsbury 3rd Edition Volume 18
"Guarantee and Indemnity" page 450 note ( K ) where it is said-
 "Even where the guarantee expressly stipulated that, before the
surety could be called upon to pay, the creditor must have availed
himself to the utmost of any bona fide securities which he held on
the principal debtor, and it was proved that the creditor had
neglected to adopt means to enforce payment of a bill by a party
who was shown to be totally insolvent, it was held that the surety
was not relieved from liability. Musket v. Rogers ( 1839) 8 Scott 51.
A similar decision is Lancaster v. Harrison (1830) 6 Bing. 726."
In our opinion the law ought to be that if the creditor hlas securities
which will either extinguish or' reduce the amount of the surety's
liability, he should in all honesty be compelled to realise them before
proceeding against the surety. So too the creditor should owe a duty
to the guarantor to exercise due diligence in preserving and enforcing
securities applicable to the debt guaranteed: see Provincial Bank of
Canada v. Prince Edward Island Lending Authority (1975) 59 D.L.R.
3d. 446.

8. The next matter in which the law of suretyship is at present

defective is contained in Halsbury (up. cit.) at page 519-
"Paragraph 954. When the release of the principal debtor by the
creditor is accomplished by means of a fraud on the part of the
former the surety, if he has given no consideration, is not discharged
even though he is no party to the fraud, upon the general principal
(sic) that a volunteer cannot avail himself of what has been
obtained by the fraud of another."

The cases which are cited for this principle do not in fact bear it out,
as only one of the three cases really turns on the point and that is
Scholefield v. Templer decided at first instance by Page-Wood V.-C. (as
he then was) in 28 L.J. Ch. 452 and affirmed on appeal by the Lord
Chancellor and the Lords Justices in 4 DeG and J. 429; 45 E.R. 166.
However a perusal of the judgments on appeal show that the real
ground of that decision was not so much the volunteer principle referred
to in the text but rather that the surety concurred in the representations
on the faith of which the release was given and was therefore estopped.
There was a volunteer case on the other side of the line, a decision of
Lord Eldon in Ex parte Wilson 1 1 Ves. 410 where it is clear that that
eminent master of equity did not regard voluntariness as in itself an
answer in these circumstances. In any case the whole reference to
voluntariness is misplaced. The rule is "equity will not assist a
volunteer". The surety is not asking for equity to assist him. The surety
is saying "the principal obligation is gone, therefore on the principle
propounded by Scrutton, L. J. in Eldridge v. Morris and Taylor [I9311
2 K.B. 416 at 420: "If the debt of the principal is gone, the surety is
also discharged, my liability has gone. I am not seeking any help from
equity at all." It is therefore possible that the text of Halsbury is wrong
on the point but so that there can be no doubt for the future, it should
be enacted that if the principal's liability has gone by reason of fraud,
as to which fraud the surety was not a party neither did he make any
representation in relation to which he should be estopped, the surety is
discharged.

These deal with the specific instances in which the law ought to be
amended. It would, however, in our opinion, be a good amendment
to the law if in all cases a surety had to be given notice when the
7
principal debtor defaulted. It is necessary to give notice now in some
cases but not in others as is explained by the High Court of Australia
in The Commercial Bank of Australia Limited v. The Colonial Finance
Mortgage Investment & Guarantee Corporation Limited and Others
(1906) 4 C.L.R. 57. Indeed Halsbury (op. cit.) at page 449 states the
obligation to give notice in even less satisfactory terms than the High
Court did in The Comntercial Bank case: see paragraph 826. The
giving of notice to the surety immediately on the default of the debtor
would alert him to the situation as between himself and the prin,cipal
debtor. In many cases, he could call on the principal debtor to pay,
with some hope at that stage of getting payment by the debtor in whole
or in part and if he could do that then he would be able to help himself:
see the recent decision of Thomas v. The Nottingharn Incorporded
Football Club Limited 1972 Ch. 596 and an article in, 117 Sol. Jo. page
65.
However the major remedy which we recommend for improving the
law of suretyship in general, as distinct from the particular improvements
which we have recommended, is an enactment that no contract of
suretyship shall be valid unless the contract has first been explained to
the proposed surety by a solicitor independent of those acting for any
other party to the transaction. A contract of suretyship is in fact not a
simple contract at all, as most people blithely think when they are
entering into one. It is a very complex transaction and will remain so
even if the reforms which we have proposed become law, and the only
way to ensure that a man knows what he is entering into and does not go
blindfold into something which may bankrupt him, is to have the
contract properly explained to him by obtaining independent legal advice
before the contract is entered into at all.
However the Committee is of opinion that to add the cost of obtaining
the advice of an independent solicitor on to the general costs of the
transaction of quarantee would be oppressive in the case of small
contracts. We therefore recommend that it be enacted that the necessity
for independent advice shall not apply to contracts guaranteeing la total
amount of $1 000 or any less sum. In such cases there should be a
form of advice in writing, prescribed by regulation, which must be
handed to the guarantor prior to his entering into the guarantee as a
condition of the enforceability of the guarantee.
To prevent evasion of the general principle by splitting what is really
one contract of guarantee into several each of which does not exceed
$1 000, .a section should be inserted in the proposed legislation prohibiting
any such evasion. Where advice is required to be given by an
independent solicitor, it should be provided that the surety cannot by
contract deprive himself of this protection. Further the legislation I

should provide, as the Chief Justice. has pointed out in his valuable
memorandum on this paper that any provision of a contract of guarantee
to the effect that any variation of the contract between the creditor and
the debtor, or the giving of time or other indulgence to the debtor,
should not release the surety, should be void, either unconditionally or
unless the effect of the particular provision has been expressly drawn to
the attention of and explained to the surety. Roman law required
specific renunciation by name of protective legislation of this kind:
see for example Bunk of Africa Ltd. v. Cohen [I9091 2 Ch. 129.
We express our appreciation to the Chief Justice the Honourable
Dr. J. J. Bray for his commentary upon the draft report.
8
 We have the honour to be
HOWARD ZELLING
S. J. JACOBS
L. J. KING
B. R. Cox
D. W. BOLLEN
J. F. KEELER
K. T. GRIFFIN
Law Reform Committee of South Australia
18th November, 1976.

D. I. WDOLMAN, Government Printer. South Australia.