A bank guarantee is a pledge on the part of a bank to make someone’s debt good in
the event that he or she cannot pay it. Bank guarantees are essentially like agreements
to stand as a cosigner on a transaction; in the event that the original party cannot follow
through, the bank can be called upon to provide the payment. Many banks offer bank
guarantees as a service to their customers for the purpose of facilitating large business
operations and deals, and this particular banking tool is primarily used by big
customers such as corporations and governments.
From the perspective of a seller in such transactions, a bank guarantee is a letter of
surety. It means that if the buyer takes possession and fails to pay, the seller can still
recover the payment, from the buyer’s bank. Bank guarantees may be used in
situations where large amounts of financing are needed and it is not possible to obtain
a loan from one location, as for example when the World Bank provides a bank
guarantee for a development project, and for deals on a smaller scale.
In a direct guarantee, a bank directly guarantees someone, usually for a set amount
and within a set period of time. The guarantee may also be generated for a specific
transaction. Indirect guarantees are issued by one bank on behalf of another’s
customer, as for example when a foreign bank stands surety for someone by
arrangement through that person’s domestic and primary bank.
These guarantees are not handed out freely. Before a bank guarantee will be issued,
the bank conducts a thorough investigation. Banks have no interest in taking on
obligations for debts which they will probably have to pay, and thus people who are
serious credit risks cannot obtain a bank guarantee. The bank also pays for this
service. Fees vary, depending on the bank, and may be based on a percentage of the
overall amount being guaranteed.
The bank guarantee is one among many instruments which organizations can use to
obtain and secure financing in order to expand, complete projects, and perform other
tasks. It is not necessarily the best option, however. Before pursuing a bank guarantee,
people should sit down with financial advisors to discuss the array of options available
to them and to determine which would be most appropriate. Having a bank guarantee
is also no substitute for lacking the ability to cover the financing for a project.