An IOU Held Invalid: Why the Surety Owed Nothing on an RMB 600,000 Guarantee

The short answer

• A suretyship contract is an accessory contract. If the principal contract (the IOU) is invalid, the suretyship contract is invalid with it — a rule fixed in Article 682 of the Civil Code of the PRC.
• But “the security contract is invalid” does not mean a cent is never paid. Where the surety is at fault, the ceiling on compensation is one third of the part the debtor cannot satisfy; only where there is no fault at all does the surety pay nothing (Article 17(2) of the SPC Interpretation on the Security System).
• The loan contract here was invalid because the lender took a bank loan and on-lent it. The defect lay with the lender; the surety had only signed his name without knowing where the money came from, was found to be without fault, and paid nothing.
• An invalid loan contract does not mean the borrower can keep the money. The consequence of invalidity is restitution of property (Article 157 of the Civil Code): the RMB 600,000 principal must still be repaid, only no longer with interest calculated at the agreed rate.
• Before signing a guarantee, look at at least four things: which column you are signing, the form of suretyship, the suretyship period, and whether the principal contract has any defect affecting its validity. Since the Civil Code took effect, a form of suretyship that is not clearly stated is treated by default as general suretyship.

1. On an RMB 600,000 IOU, the surety signed a single name

As recounted in publicly available broadcast material: in 2023 Du (杜) borrowed RMB 600,000 from Xu (徐), and Zhao (赵) signed as surety, agreeing that if Du did not repay, Zhao would. Then the trouble surfaced — the money Xu lent out was borrowed from a bank. Du could not repay, and Xu sued Du and Zhao together, asking Zhao to pay the RMB 600,000 on Du’s behalf.

The court dismissed the claim against Zhao. The reasoning had two layers: the loan contract itself was invalid, so the suretyship contract fell with it; and the cause of that invalidity had nothing to do with Zhao, who was without fault and therefore did not even bear the post-invalidity liability to compensate. This was not luck; it is the rule.

2. Why the loan contract was held invalid

Article 13 of the Supreme People’s Court Provisions on Several Issues Concerning the Application of Law in the Trial of Private Lending Cases lists six situations in which such a contract is invalid. The first item is —

“obtaining loans from financial institutions and on-lending them.” (original text, excerpt)

In plain terms: taking money from a bank and passing it on to someone else at a higher interest rate to pocket the spread — the courts do not recognise such money-broking contracts. The same article also lists raising funds from employees, on-lending after illegally absorbing deposits, lending to an unspecified public without a lending licence, lending while knowing the money will fund illegal activity, and breaches of mandatory provisions or of public order and good morals.

The purpose of this rule is not to help borrowers dodge their debts, but to hold two lines: business and consumer loans from banks carry designated purposes, and on-lending them is arbitrage around regulation; and lending repeatedly to an unspecified public is a financial business that requires a licence. So even where the money really was borrowed and really was spent, the contract can still be invalid — the sanction falls not on “borrowing” but on “this money should not have been lent out in this way”.

3. The principal contract is invalid, so the guarantee falls with it

Article 682 of the Civil Code: “A suretyship contract is an accessory contract to the principal contract of the debt. Where the principal contract of the debt is invalid, the suretyship contract is invalid, unless otherwise provided by law.” (original text) Article 388 makes the same provision for security contracts such as mortgage and pledge.

The word “accessory” is the foundation of the whole security regime: suretyship liability presupposes the existence of the principal debt, and once the law denies that debt, there is nothing left to secure.

So in this case Zhao’s suretyship liability was not “waived by the court”; it never existed from the moment the loan contract was held invalid. That is different from “the suretyship period has expired” — which is a defence raised after liability has arisen.

4. When the surety still pays: the one-third ceiling

An invalid security contract does not mean walking away untouched. Article 17(2) of the Supreme People’s Court Interpretation on the Application of the Security System of the Civil Code provides:

“Where the invalidity of the principal contract causes the invalidity of a security contract provided by a third party, a surety without fault bears no liability to compensate; a surety at fault bears liability to compensate not exceeding one third of the part the debtor cannot satisfy.” (original text)

• No fault, no liability. Where the surety did not know, and ought not to have known, of any ground of invalidity in the principal contract — where he was simply brought in to sign — he pays nothing. Zhao is in this category: the money came from Xu’s bank loan, and only Xu knew where it came from.
• Fault, and one third. This is not the same thing as “bearing suretyship liability”: suretyship liability is full satisfaction (joint and several, or supplementary), whereas the liability here is a proportionate compensation in the nature of culpa in contrahendo, capped at one third of the part the debtor cannot satisfy — not one third of the whole debt.
• The part the debtor cannot satisfy. Enforcement goes against the debtor first, and only the shortfall is used to calculate the proportion; if the debtor owns a house and a car, the surety’s base figure is small.

What counts as fault? Three common forms: guaranteeing while knowing the funds came from a financial institution loan; guaranteeing while knowing the loan was for gambling or illegal business; and guaranteeing while knowing the borrower lacked the relevant civil capacity or that the contract plainly offended public order and good morals. Conversely, merely failing to review the principal contract generally does not amount to fault. By comparison, under paragraph 1 (principal contract valid, security contract itself invalid) the ceiling is one half of the part that cannot be satisfied.

5. The contract is invalid, but the RMB 600,000 principal still has to be repaid

Many people assume “invalid contract means no repayment”. That is the most common misunderstanding. Article 157 of the Civil Code: after a civil juristic act is invalid, property obtained by a party through that act shall be returned; where return is impossible, compensation shall be made at the property’s value; and the party at fault shall compensate the other party for the loss thereby caused. (original text, excerpt)

Applied to a loan, this comes down to three sentences: the principal must be repaid; the agreed interest and liquidated-damages clauses no longer apply, and the lender can generally claim only loss from the occupation of funds at the loan prime rate (LPR); and where both sides are at fault, each bears its corresponding share.

So in this case the RMB 600,000 Du owes Xu has not disappeared; it has merely changed its legal label — from “repayment of principal with interest” to “restitution of principal plus loss from the occupation of funds”. Xu can still enforce against Du’s house, car and wages; what he has lost is the route of falling back on Zhao.

One more point favours the surety: if he does pay, Article 18 of the SPC Interpretation on the Security System allows him to seek recourse against the debtor to the extent of the liability borne. As for how to prove a loan when there is only a transfer record and no IOU, see this article.

6. Before standing surety for anyone, check these four things

First, which column you signed. Witness, attestor, co-borrower, surety — the position changes the consequences completely. A co-borrower owes the entire repayment obligation and does not even get the protection of having the debtor pursued first; a witness only attests that the signing took place and bears no liability. The most common dispute is exactly this: someone is pulled in to “help by signing a name”, and signs in the surety column.

Second, what the form of suretyship says. Article 686 of the Civil Code provides that forms of suretyship include general suretyship and joint and several liability suretyship, and that “where the form of suretyship is not agreed or is not clearly agreed, suretyship liability shall be borne as general suretyship”. This is the reverse of the old Security Law, which defaulted to joint and several liability suretyship. A surety under general suretyship has the defence of prior recourse: before the dispute over the principal contract has been tried or arbitrated and enforcement against the debtor’s property has still failed to satisfy the debt, he may refuse to bear liability (Article 687). Whether the words “joint and several liability suretyship” appear makes an entirely different risk.

Third, how long the suretyship period runs. Article 692 of the Civil Code: the suretyship period is not subject to suspension, interruption or extension; where it is not agreed or not clearly agreed, it is six months from the date on which the performance period of the principal debt expires. Under Article 693, if the creditor neither sues the debtor nor applies for arbitration within the suretyship period, or does not assert liability against a joint and several liability surety, the surety no longer bears suretyship liability. This is the surety’s real shield of time.

Fourth, whether the principal contract has any defect affecting its validity. Ask three questions before signing: where does this money come from? what is it being borrowed for? why is the interest so high? If the funds come from a bank loan, if it looks like professional lending, or if you know the borrower is taking the money to gamble, the contract may be invalid altogether and your guarantee with it; if, conversely, you knew all this and signed anyway, you will be found at fault and will pay up to one third.

Note also that under Article 691 the scope of the guarantee by default covers the principal debt and interest, liquidated damages, compensation for damage and the costs of enforcing the claim — so the “RMB 600,000” you signed for could cost over RMB 700,000. To narrow it, the contract must expressly state that only the principal of a specified amount is guaranteed.

7. Two final points

The facts in this article are taken from a publicly available broadcast account; the names are pseudonyms, and neither the case number nor the deciding court is stated in the source, so this is not a citation of the outcome in that case. The rules set out here follow the current text of the Civil Code and its supporting judicial interpretations; in any individual case, whether the surety was at fault and why the principal contract was invalid will change the conclusion.

The two most common mistakes sureties make: signing without reading the content, and only afterwards discovering that they signed as a joint and several liability surety; and, once sued, complaining only that “I was just helping”, without raising in time that the principal contract is invalid or that the suretyship period has expired — both of which must be raised by the party himself, because the court will not look for them on your behalf.

If a guarantee is currently chasing you, or you are about to sign for a relative’s or friend’s borrowing, you are welcome to contact Wang Xin: phone 186-0113-9509, WeChat wang223040. Bring the contract, the transfer records and any collection records first, and then we can judge whether this guarantee still stands at all.

This is an English edition of Wang Xin’s original Chinese article, 借条被判无效，担保人还要替人还钱吗？60万的担保，法院判他一分不赔. It explains the law of the People’s Republic of China in general terms and is not legal advice for any particular case; outcomes depend on the specific facts and on how local authorities apply the rules.