Lenders take note—a state court has held that in some circumstances a refinancing transaction can extinguish an original guarantee.

The Court of Appeals of Tennessee at Nashville concluded that the refinancing of a note extinguished the original obligations and substituted new obligations. As such, a guaranty existing under a note that is subsequently refinanced is extinguished. See Cumberland Bank v. G & S Implement Co., Inc., No. 23848-C (Tenn. Ct. App. Aug. 4, 2006). In its holding, the appellate court found that “refinancing” is a term of art meaning a “transaction that substitutes one debt for another.”

In March 1996, William G. Dickerson, II (“Dickerson”) purchased 50 percent of G&S Implement Co., Inc. (“G&S”) from Eddie Kingrey. Shortly thereafter, Cumberland Bank (the “Bank”) agreed to renew a G&S April 1995 Note. The 1996 Note was partially secured by Kingrey’s residence, and was personally guaranteed by Dickerson (the “Guaranty”). In December 1996, Dickerson exercised a revocation provision in the Guaranty. Subsequent to the Guaranty revocation, the Bank continued to advance funds to G&S.

On July 3, 1997, Kingrey and his wife filed individual chapter 11 bankruptcy petitions. Following a motion by the bank to dismiss the petitions, Kingrey and the Bank entered a settlement agreement in which Kingrey agreed to make certain payments to the Bank and to refinance and pay any outstanding debt to the Bank within 18 months. The court thereafter entered an order approving Kingrey’s chapter 11 bankruptcy plan (the “Order”).

The Order noted the agreement reached by Kingrey and the Bank, and stated that by the 19th month following the confirmation of their plan, the Kingreys “will have obtained refinancing and pay the unpaid balance, if any, of [the] secured portion of the claim of Cumberland Bank in full.” Kingrey thereafter commenced making the required payments to the Bank. On Nov. 30, 2000, the Kingreys and the Bank executed a new $170,835 note (the” 2000 Note”). The Kingreys began making regular, although frequently late, payments on the 2000 Note. On Feb. 13, 2003, the Bank filed suit against G&S, Kingrey and Dickerson alleging that the 1996 Note was in Default. Based on the Kingrey’s bankruptcy discharge, the suit proceeded solely against Dickerson as maker and guarantor.

The trial court entered a judgment in favor of the Bank and against Dickerson in the amount of $162,246.37. Dickerson appealed. The appellate court began by noting that under the terms of the 1996 Note, Dickerson had waived any suretyship defenses available under Article 3 of the

Tennessee UCC, but stated that Dickerson could still raise any available common law defenses.

Looking to common law, Dickerson claimed that the 2000 Note extinguished the 1996 Note, and, therefore, the obligations under the 1996 Note were extinguished. The Bank responded by raising two alternative arguments. First, the Bank argued the 1996 note matured in 2001, and Dickerson was obligated to satisfy any outstanding obligations. Alternatively, the Bank argued that the 2000 Note was a renewal of the 1996 Note. The appellate court noted, however that the 2000 Note did not mature until November 2005, and therefore could not have been in default. The court also found that the Order provided clear evidence of the purpose and effect of the 2000 Note and dictated the outcome of the appeal.

The Order required Kingrey to “obtain refinancing” of the 1996 Note in order to pay the 1996 Note “in full.” The appellate court held that “refinancing” is a term of art in the bankruptcy context, and connotes a “transaction that substitutes one debt for another.” Based on these findings, the court found that the 2000 Note was a new and distinct obligation, which replaced the 1996 Note. When the 1996 Note was refinanced and paid in full, Dickerson was discharged as both the maker and the guarantor.

Consequently, the appellate court found that Dickerson was not liable to the Bank. The court further stated that its legal analysis was buttressed by the fact that if the 2000 Note was a renewal and not a refinancing, Kingrey and the Bank would not have complied with the bankruptcy court Order. Renewing the 1996 Note would not have “paid off” the obligations, as was required by the Order. If the 2000 Note was a renewal of the previous obligations, the court would have to find that Kingrey and the Bank did not comply with a court Order. The appellate court stated that it presumed that parties followed court orders, and declined to find that the Bank and the Kingrey’s had not followed the bankruptcy court’s Order.