A bank guarantee is a promise by a bank to cover a customer's liabilities if the customer fails to meet them. It is a form of insurance for the beneficiary. The bank charges a fee for the guarantee, and the customer pledges collateral or other security. If the customer defaults, the bank pays the beneficiary, then pursues the customer for reimbursement.

Bank guarantees are common in international trade and construction. A construction company might provide a performance guarantee to a client, promising to complete the project or pay damages. An importer might provide a payment guarantee to a supplier, promising to pay for goods. The guarantee gives the beneficiary confidence that they will be paid even if the counterparty fails.

There are several types. A performance guarantee covers failure to perform a contract. A payment guarantee covers failure to pay. A bid bond guarantees that a bidder will honor their bid. An advance payment guarantee covers a down payment that must be returned if the contract is not fulfilled. Each has specific terms about when the bank must pay.

Bank guarantees are not the same as letters of credit. A letter of credit is a payment mechanism. A bank guarantee is a promise to pay if something goes wrong. The distinction matters in international trade, where both are used.