Lavin v Toppi: is co-contribution from your co-surety a sure thing?

In Lavin & Anor v Toppi & Ors [2015] HCA 4 (Lavin), the High Court has clarified the principles governing the rights between co-sureties with joint and several liability in respect of a guaranteed debt.

The case is an important decision for:

  • lenders, as it highlights the need for a strategic approach in enforcing guarantees and structuring settlements when there is more than one surety guaranteeing a debt; and
  • co-sureties, as it reinforces the ability to claim contribution against co-sureties following settlement or discontinuance of enforcement proceedings by a creditor.

The facts

Ms Lavin and Ms Toppi were the directors and equal shareholders of Luxe Studios Pty Ltd (Luxe). In 2005, Luxe purchased a studio for the purpose of running a photography business. A leading Australian bank (the Bank) provided a $4.29 million facility to Luxe for the purchase. The Bank subsequently provided additional loans, bringing the Bank’s total exposure to $7,768,000.

The obligations under the consolidated facility agreement were guaranteed jointly and severally by Ms Lavin and Ms Toppi as co-sureties (among others, who stood behind Ms Lavin and Ms Toppi as related parties).

Luxe went into receivership in late 2009. Shortly thereafter, the photography studio was sold and the proceeds were applied to the consolidated facility. More than $4 million remained outstanding under the consolidated facility (Guaranteed Debt).

Following demands issued to Ms Lavin and Ms Toppi for payment of the Guaranteed Debt, the Bank commenced proceedings against them to enforce its rights of recovery under the respective guarantees.

Following a brief cross-claim, Ms Lavin settled with the Bank, agreeing to pay the Bank $1.35 million in respect of the Guaranteed Debt and approximately $1.73 million in respect of other personal loans. The enforcement proceedings against Ms Lavin were dismissed by consent. The Bank covenanted not to sue Ms Lavin in respect of all claims arising from her guarantee.

In early 2011, Ms Toppi and her husband sold their home and used the proceeds of sale to pay the balance of the Guaranteed Debt, which was then approximately $2.9 million.

The result was that Ms Toppi paid $1,547,322.08 more than Ms Lavin towards the Guaranteed Debt.

Proceedings

Ms Toppi commenced proceedings against Ms Lavin seeking a contribution of $773,661.04, being half the difference paid by the co-sureties.

Ms Toppi was successful at first instance and on appeal, with both courts finding that a creditor’s covenant not to sue a particular co-surety had no effect on the rights of contribution of the co-sureties among themselves.

Decision of the High Court

The High Court unanimously upheld the lower courts’ decisions and dismissed Ms Lavin’s further appeal.

In reaching its decision, the High Court reviewed the law on the right of contribution and co-ordinate liabilities and stated:

  • the right to contribution is founded in equity and… “natural justice” which ensures “that persons who are under co-ordinate liabilities… make good the one loss (eg sureties liable to make good a failure to pay the one debt) [and] share the burden pro rata.”;¹
  • from the point at which co-sureties become liable to pay pursuant to their respective guarantees, they are jointly and severally liable in respect of the same debt and are “bound, among themselves, to contribute equally” (emphasis added);²

The more important aspect of the Court’s decision is its clarification of the effect of a covenant not to sue on the guarantee, being that:

  • the covenant does not operate as a discharge of the guaranteed liability;
  • a liability under a guarantee will continue and all co-sureties will remain liable until the whole of the guaranteed debt is paid out; and
  • the covenant merely operates as a bar on the lender from further enforcing its rights and does not affect the fact of the sureties’ continuing obligations.

Further, the Court gave some guidance on when equitable contribution could be sought:

where actual overpayment had been made by a co-surety, as in the present case; or

where the creditor has commenced enforcement proceedings pursuant to the guarantees and a co-surety is able to prove its readiness, willingness and ability to pay an amount that would constitute an overpayment.

Lavan Legal comment

It is common practice for a covenant not to sue to be executed in a settlement of enforcement proceedings between an enforcing creditor and a surety. Typically, where there are multiple guarantees, a settlement amount will be lower than the quantum of guaranteed debt.

The utility of a covenant not to sue is that it resolves the enforcement proceedings against one co-surety while not discharging the outstanding guaranteed debt (as a release would), allowing for further enforcement against other co-sureties.

Although from the creditor’s point of view, a covenant not to sue concludes any enforcement proceedings against a co-surety, the co-sureties will still be liable to each other to the extent of any overpayment (by any other surety).

Ideally, creditors should ensure that all co-sureties are involved in negotiations and that any resultant agreement is drafted to determine the rights between each co-surety and the creditor as well as the rights between the co-sureties.

Practically speaking, attaining the consensus of all the co-sureties may be impossible in many situations due to the co-sureties’ differing financial or asset positions. In such circumstances it should be remembered that a creditor is always entitled to enforce against any co-surety (or all co-sureties) by virtue of their joint and several liability, leaving them to claim contribution from one other as they see fit.

For the purposes of enforcement strategy, negotiating with the more solvent co-surety in the first instance often presents a greater chance of a successful settlement, as:

they will not be exposed to a further contribution claim from the less solvent co-surety; and

they will have an indefeasible equitable right to contribution against the less solvent co-surety (assuming the settlement amount is greater than the proportionate liability of that co-surety).

Accordingly, Lavin provides no direct threat to the enforcement rights of creditors.



² Lavin, 32 (French CJ, Kiefel, Bell, Gageler and Keane JJ), quoting Albion Insurance Co Ltd v Government Insurance Office (NSW) (1969) 121 CLR 342,349-350 (Kitto J).

²Lavin, 36 (French CJ, Kiefel, Bell, Gageler and Keane JJ), quoting Burke v LFOT Pty Ltd (2002) 209 CLR 282, 292-293.