Opinion ID: 1664672
Heading Depth: 1
Heading Rank: 5

Heading: may a bank's letter which guarantees the payment of a customer's obligation be construed as a letter of credit?

Text: The trial court held that the letter from the Bank to Western was a letter of credit within the purview of SDCL ch. 57A-5 and that it was also a guarantee to Western to pay open account invoices up to $17,000. Western's pleadings, however, did not assert that the letter was a letter of credit and when Western proposed a Conclusion of Law to that effect, the Bank objected thereto. Western failed to amend its Complaint by motion and the Bank contends that the trial court erred because the issue was not raised in the pleadings nor tried by express or implied consent of the parties. SDCL 15-6-15(b) allows issues not raised by the pleadings to be tried by the express or implied consent of the parties. This Court, in American Property Services v. Barringer, 256 N.W.2d 887, 891 (S.D.1977), held: The test for allowing an adjudication of an issue under ... SDCL 15-6-15(b) tried by implied consent is whether the opposing party will be prejudiced by the implied amendment, i.e., did he have a fair opportunity to litigate the issue, and could he have offered any additional evidence if the case had been tried on the different issue. (Footnote omitted.) The Bank asserts that it did not have a fair opportunity to litigate the issue because it was not raised in the pleadings, not addressed in the trial briefs, and no evidence was presented on the issue. The Bank argues that it was not put on notice of the letter of credit issue because Western's Complaint consistently referred to it as a guaranty. The Bank cites Gross v. Gross, 355 N.W.2d 4, 8 (S.D.1984), which held: The purpose of pleadings is to establish the issues to be tried and to advise the opposing party of the allegations and evidence that must be met. It is argued by Bank that since Western failed to advance an alternative theory and failed to amend its pleadings to conform to the evidence, its action must be treated as based on a guaranty and not a letter of credit. The Bank also maintains that the issue was not tried by express or implied consent because neither litigant presented evidence concerning the letter as a letter of credit. In sum, the Bank advocates that the trial court erred in holding the letter to be a letter of credit because the issue was not raised in the pleadings; not tried by express or implied consent; and such an implied amendment would be prejudicial. Western, in contravention, argues that it was not required to allege that the obligation sued on was a letter of credit but need only file a pleading containing a short and plain statement of the claim showing that the pleader is entitled to relief, and ... a demand for judgment . . . . SDCL 15-6-8(a). Western maintains that it is obvious that the letter is a letter of credit and since it was attached to the petition and referred to as a letter of credit at Banker Wood's deposition and at a pretrial conference, the Bank cannot now claim to be taken by surprise. Western also claims that it is hard to imagine any additional evidence the Bank could have presented on the letter of credit issue, in light of counsel's and the court's examination of the Bank's president, Thompson. Western thus is contending that the trial court's ruling is not in error because the Bank had notice of the issue and therefore a fair opportunity to litigate the same and could not have offered any additional evidence on that issue. In Nelson v. Stadel, 75 S.D. 218, 221, 62 N.W.2d 766, 768 (1954), this Court affirmed the trial court's ruling on the validity of a quit-claim deed although the pleadings did not fully set forth the nature of the claim. The Court held the validity of the deed was within the issues presented, considered and decided by the court .... In the present case, the validity of the letter as creating liability by the Bank for East Side 1 Stop's debts to Western was within the purview of the issues presented, considered and decided by the court. We find no abuse of discretion in the trial court's holding that the issue was tried by the parties' express or implied consent. Bucher v. Staley, 297 N.W.2d 802 (S.D. 1980). We now address the trial court's holding that the letter in question was a letter of credit and also a letter of guaranty. The Bank contends that the determination of the letter as a guaranty within SDCL 56-1-1 or as a letter of credit within SDCL 57A-5-103(1)(a) must be made in light of the intention of the parties. The Bank points to Western's request for a guaranty, the letter's reference to a guaranty, and Western's demand for payment from the Bank only after the principal debtors failed to pay. The Bank also asserts that its failure to follow normal procedures for issuing a letter of credit supports its contention that the parties intended the Bank to be only secondarily liable and that the letter was therefore a letter of guaranty. Western advocates that the intentions of the parties are irrelevant because the letter falls within the definition of a letter of credit set forth in SDCL 57A-5-103(1)(a) and that the statute therefore controls. It is asserted that SDCL ch. 57A-5 does not require any particular form of phrasing or that the beneficiary must first look for payment from the issuer of the letter. The universally recognized distinction between a letter of credit and a guaranty is that the former creates a primary liability while the latter creates a secondary liability. See Prudential Ins. Co. of America v. Marquette Nat'l Bank of Minneapolis, 419 F.Supp. 734, 735 (D.Minn.1976); Barclays Bank D.C.O. v. Mercantile Nat'l Bank, 481 F.2d 1224, 1236 (5th Cir.1973), cert. dismissed, 414 U.S. 1139, 94 S.Ct. 888, 39 L.Ed.2d 96 (1974); First Nat'l Bank of Council Bluffs v. Rosebud Housing Authority, 291 N.W.2d 41, 46 (Iowa 1980); 50 Am.Jur.2d Letters of Credit § 5 (1970); 38 Am.Jur.2d Guaranty § 2 (1968). South Dakota law recognizes this distinction and defines a guaranty as a promise to answer for the debt, default, or miscarriage of another person. SDCL 56-1-1. Except as otherwise provided, a guaranty must be in writing and signed by the guarantor.... SDCL 56-1-4. Letters of credit are governed by SDCL ch. 57A-5 and are defined in SDCL 57A-5-103(1)(a) as an engagement by a bank or other person made at the request of a customer ... that the issuer will honor drafts or other demands for payment upon compliance with the conditions specified in the credit. A credit may be either revocable or irrevocable. The engagement may be either an agreement to honor or a statement that the bank or other person is authorized to honor. [N]o particular form of phrasing is required for a credit. A credit must be in writing and signed by the issuer.... SDCL 57A-5-104(1). This Court, in interpreting the predecessor of SDCL 56-1-1, held: [A guaranty] is a contract on the part of one person which is collateral to a primary or principal obligation on the part of another.... However, because the term guaranty or guarantee is not always employed in commerce in an unequivocal sense, the employment of that term is not conclusive of an intent to assume a mere collateral obligation, and it is permissible to read a writing in the light of all of the surrounding circumstances to determine whether an original and independent obligation, rather than a mere guaranty was intended. Miners & Merchants Savings Bank v. Comer, 82 S.D. 1, 3-4, 140 N.W.2d 390, 391 (1966) (citations omitted). A letter of credit and a guaranty are thus two separate and distinct legal instruments. [T]here is a vast difference between a guaranty and a letter of credit. J. Halls, The Uniform Commercial Code in Minnesota: Article 5Letters of Credit, 50 Minn.L.Rev. 453, 454 n. 3 (1966). A true letter of credit is not a guaranty. White & Summers, Handbook of the Law Under the Uniform Commercial Code § 18-2, at 713 (2nd ed. 1980). The former creates a primary responsibility to pay and the latter creates a responsibility to pay only if another does not. New York Life Ins. Co. v. Hartford Nat'l Bank & Trust Co., 173 Conn. 492, 498, 378 A.2d 562, 566 (1977); Walton v. Piqua State Bank, 204 Kan. 741, 749, 466 P.2d 316, 324-25 (1970); Dubuque Packing Co., Inc. v. Fitzgibbon, 599 P.2d 440, 441 (Okla.App. 1979). The trial court, however, ruled in Conclusion of Law XXXIII: That Exhibit # 1 was a letter of credit pursuant to SDCL Chapter 57A-5; and in Conclusion of Law XXXIV: That Exhibit # 1 was a guarantee to Plaintiff that, if open account invoices were not paid by Third-Party Defendants Diedtrich and Norman, Defendant would by [sic] the same up to $17,000.00. Said conclusions of law were theoretically in conflict as they could not coexist and thus are in error as a matter of law. We deem this instrument to be a letter of guaranty both by its express language and the conduct of the parties. Western first made a demand for payment of invoices on the Bank's customer; only after the Bank's customer failed to make the requested payment did Western then make a demand for payment on the Bank. A letter of credit contemplates presentment of a draft or other form of demand for payment to the Bank, who would be liable in the first instance. We note that Western asked for a guaranty and expressed the kind of language they wanted in the letter to Bank's official. The Bank promised to pay if Gordon Diedtrich or Keith Norman, in effect, did not pay. The Bank did not agree to pay in the first instance, but only guaranteed payment. This instrument, like the instrument construed in Wichita Eagle & Beacon Publishing Co., Inc. v. Pacific Nat'l Bank of San Francisco, 493 F.2d 1285, 1286 (9th Cir.1974), thus strays too far from the basic purpose of letters of credit, and based on the instrument and the intent of the parties as evidenced by their actions, we deem it to constitute a guaranty.