The Court of Appeal decision in Hong Leong Bank Berhad v Ong Moon Huat  1 LNS 1612 has clarified two important points under the new Insolvency Act 1967 on bankruptcy actions against guarantors.
The first issue is to clarify the protection for guarantors where all modes of execution and enforcement must be first exhausted against the principal debtor alone. The second issue is that when seeking leave to proceed against the guarantor, the judgment creditor can apply for leave to proceed either upon the issuance of the bankruptcy notice or even prior to that, up to and immediately prior to the filing of a creditor’s petition.
The grounds of judgment were in an abridged form and arose from two appeals relating to actions brought by Hong Leong Bank Berhad and Malayan Banking Berhad against separate judgment debtors. Two questions arose:
- Whether the word “debtor” in “to recover the debts owed to him by the debtor” in section 5(4) of the Insolvency Act 1967 refers to the guarantor or to the principal debtor alone; and
- When or at what point should an application for leave under section 5(3)(b) of the Insolvency Act 1967 be made?
Brief Background to the Law
The amendments to the bankruptcy law allowed greater protection to all guarantors.
Firstly, a creditor who wishes to take bankruptcy action against guarantors (aside from a social guarantor) would have to obtain leave from the court. Secondly, in order to meet the test for leave, the court must be satisfied that the creditor has exhausted all modes of execution and enforcement to recover debts owed to him by the debtor (section 5(4) of the Insolvency Act). Thirdly, modes of execution and enforcement include seizure and sale, judgment debtor summon, garnishment and bankruptcy or winding up proceedings against the borrower (section 5(6) of the Insolvency Act).
By reading those provisions, there may be uncertainty. In exhausting all modes of execution and enforcement, did it mean having to utilise all these modes against: (i) the guarantor; (ii) the borrower / principal debtor; or (iii) borrower as well as guarantor?
Especially for (iii), that would mean having to exhaust all other means against the borrower and then the guarantor. Bankruptcy would then be of absolute last resort. The Court of Appeal explained the interpretation of these provisions.
#1: Creditor Must Exhaust All Execution against the Principal Borrower
The Court of Appeal explained that there must be a purposive construction of this relevant section 5(4) of the Insolvency Act. The sections seeks to introduce protection for the guarantor against whom bankruptcy proceedings are to be brought. It is to remedy the mischief of judgment creditors proceeding against the guarantors directly in bankruptcy rather than executing and enforcing against the principal debtor. Section 5(4) must be read together with section 5(6), and with the latter section specifically referring to “against the borrower”.
Therefore, the only reasonable construction that can be accorded to the term “debtor” in section 5(4) must be a reference to principal debtor or the borrower. So a creditor must ensure that all modes of execution and enforcement are first exhausted against the principal borrower. After that, the creditor can apply for leave to proceed with bankruptcy against the guarantor.
#2: Application for Leave Upon Issuance of Bankruptcy Notice and Up to and Including to Filing of Creditor’s Petition
The Court of Appeal relied on the Federal Court decision in Hong Leong Bank v Khairulnizam bin Jamaludin  4 MLJ 302. It concerned the issue of a leave application to proceed against a social guarantor.
The Court of Appeal held that there was nothing in the Federal Court judgment that precluded a judgment creditor from filing a leave application at the point in time when the bankruptcy proceedings are initiated. The Federal Court had extended time for obtaining leave up to the point in time when a creditor’s petition is filed, at which point, it is necessary to stipulate that leave of court has been obtained. It was even open to a judgment creditor to simply file an affidavit in support at a later stage prior to the filing of the creditor’s petition which will require confirmation that all other avenues against the principal borrower have been exhausted.