Implications of Guarantees and Re-domiciliation of Companies under UAE Law: The Role of Guarantor Consent in Debt Novation and Understanding Guarantees

In the UAE, guarantees play a crucial role in ensuring the fulfilment of obligations between parties. As businesses expand and restructure, understanding the legal framework surrounding guarantees and the impact of company re-domiciliation is essential. This article explores the significance of guarantees under UAE law, their relationship with debt novation, and the implications of re-domiciling companies from mainland UAE to financial free zones like ADGM (Abu Dhabi Global Market) and DIFC (Dubai International Financial Centre).

1. Understanding Guarantees Under UAE Law

A guarantee in UAE law is defined as an agreement in which a guarantor assumes responsibility for the debtor’s obligations. This secondary liability is contingent upon the debtor’s failure to fulfil the primary debt. The terms of the guarantee such as the scope and duration are typically defined in the contract. 

Key Provisions on Guarantees:

Article 1056 of the UAE Civil Code: A guarantee attaches a guarantor’s liability to the debtor’s debt. This liability is secondary and depends on the existence of the primary debt. The guarantee is extinguished when the primary debt is fulfilled, modified, or renewed.

Article 1099 of the UAE Civil Code: This provision outlines the termination of guarantees, including:

• Payment of Debt: Guarantee is terminated upon full payment of the underlying debt.
• Perishing of the Security: If the collateral securing the debt is destroyed due to force majeure.
• Termination of the Contract: The guarantee ends when the underlying contract is terminated.
• Death of the Debtor: The death of the debtor can also terminate the guarantee, unless stipulated otherwise.

These provisions underscore that the guarantee is directly tied to the debtor's obligation, and changes to the primary debt or debtor may extinguish the guarantee.

2. Civil vs. Commercial Guarantees: Legal Distinctions and Implications

The UAE Civil Code distinguishes between civil and commercial guarantees, with distinct legal implications.

• Civil Guarantees: Generally tied to personal obligations and subject to different enforcement procedures and limitation periods.
• Commercial Guarantees: Associated with business transactions, they often involve longer enforcement periods and are subject to commercial regulations.

Case Law:

• Dubai Court of Cassation (Case No. 267/2018): The court clarified that the nature of the underlying debt (civil or commercial) determines the nature of the guarantee. If the debt is commercial, the guarantee acquires a commercial character, subject to different rules on enforcement.

This distinction is crucial for understanding how guarantees are treated depending on the nature of the underlying transaction.

3. The Transfer of Debt and the Impact on Guarantees 

Under Article 1119 of the UAE Civil Code, the transfer of a debt to a new debtor does not automatically extend the guarantee to the new debtor. The guarantor’s consent is required to maintain the guarantee’s validity for the new obligation. This ensures that the guarantor's liability is not extended to a new party without their explicit agreement.

Key Takeaways:

• Debt Novation: The novation process, which replaces the original debt with a new one, extinguishes the original debt and its associated guarantees. For the guarantee to apply to the new debt, the guarantor’s consent must be obtained.
• Legal Protections: This provision protects guarantors from being automatically liable for a new debtor’s obligations without their approval.

4. Re-domiciliation of Companies: Legal Considerations

Re-domiciliation refers to the process of relocating a company's legal seat from one jurisdiction to another. In the UAE, re-domiciliation often involves a company moving from mainland UAE to a financial free zone, such as ADGM or DIFC. This process can have significant legal implications for guarantees and liabilities.

Challenges of Re-domiciliation Under UAE Law:

• Mainland to Free Zone Transition: Under UAE mainland law, companies cannot simply "transfer" to a free zone. Instead, they must dissolve their mainland entity and incorporate a new legal entity in the free zone.
• New Legal Entity: The newly established entity in the free zone is treated as a separate legal person from the original mainland company, meaning that any guarantees linked to the original mainland company are generally extinguished.

Transfer of Assets and Liabilities:

• When re-domiciling, a company must novate its agreements, transferring its assets, liabilities, and obligations to the new entity.
• Impact on Guarantees: If the original company had third-party guarantees, these guarantees typically do not transfer automatically. New guarantees must be executed to secure the obligations of the newly incorporated entity.

5. The Role of Guarantor Consent in Debt Novation

Debt novation is a legal process where an original debt is replaced with a new one, extinguishing the original obligation. The crucial question is whether the guarantees associated with the original debt remain valid for the new debt.

Impact on Guarantees:

• No Automatic Transfer: Guarantees are not automatically transferred to a new debtor under novation unless the guarantor consents.
• Guarantor’s Consent: For the guarantee to remain valid after novation, the guarantor's explicit consent is required. Without consent, the guarantor is not liable for the new debtor’s obligations.

This principle is supported by scholars like Dr. Abdelrazak Al Sanhouri and Dr. Suleiman Morcos, who emphasise the necessity of obtaining the guarantor's agreement for the guarantee to extend to a new debt. In his writings, Dr. Al Sanhouri explains that novation involves the replacement of the original obligation by a new one. For the guarantee to remain valid after novation, the guarantor’s consent is required. This principle is reflected in Article 358 of the Egyptian Civil Code, which is mirrored in the UAE Civil Code, requiring the guarantor’s agreement for the guarantee to transfer to the new obligation. Similarly, Dr. Morcos emphasises that novation extinguishes the original debt and its guarantees unless the parties agree otherwise. The UAE Civil Code requires that the guarantor’s consent be explicitly obtained for the guarantee to apply to the new debt.

Article 1119 of the UAE Civil Code:

This article further reinforces the requirement for the guarantor’s consent in the case of debt transfer. It explicitly states that while guarantees are retained in case of a debt transfer, the guarantor must agree to the transfer of the debt and its associated guarantee.

6. Practical Implications for Businesses and Creditors

Understanding the nuances of debt novation, guarantor consent, and the re-domiciliation process is vital for businesses, creditors, and legal practitioners operating in the UAE.

Recommendations for Businesses:

When Re-domiciling: Companies re-domiciling from mainland UAE to financial free zones like ADGM or DIFC should:

• Ensure that any guarantees tied to the original mainland entity are novated to the new company.
• Obtain explicit consent from guarantors to extend their liability to the new entity’s obligations.
• Consult with legal experts to ensure the proper transfer of assets and liabilities.

In Debt Novation: When novating a debt, businesses should:

• Clearly document the guarantor’s consent to the transfer of guarantees.
• Review the terms of existing guarantees to avoid disputes regarding their applicability to new obligations.

Consult Legal Advisors: Given the complexity of these processes, it is crucial to engage legal professionals to ensure compliance with UAE law and avoid unintended consequences, such as the invalidation of guarantees.

7. Conclusion: Navigating Guarantees, Novation, and Re-domiciliation

The relationship between guarantees, debt novation, and re-domiciliation is complex under UAE law. Key considerations include obtaining the guarantor's consent for the continuation of guarantees in the event of debt transfer or company re-domiciliation. Without this consent, creditors may lose their security, and guarantors may avoid liability.

For businesses, particularly those considering re-domiciliation or involved in debt restructuring, understanding these legal nuances is essential. By ensuring that guarantees are properly novated and that all necessary legal steps are taken, businesses can preserve creditor security and protect the interests of all parties involved.

This article is intended to raise awareness of the legal framework governing guarantees and novation in the UAE. For further advice or assistance, please write to us or get in touch via our website.