What is contract of Guarantee under the Indian Contract Act, 1872
Contract of Indemnity:-
An indemnity contract is a legal arrangement between two parties in which one another party for a party agrees to pay loss or harm that meets certain requirements and conditions unless other Circumstances are specified. It is a form of contingent contract which characterized by all essential elements of a valid contract.
Contingent contract is a contract to do something if some event, collateral to such contract, does or does not happen.
Example: A contracts to pay to B. Rs 10,000 if B’s house a burnt.
According to Section-124 of the Indian Contract Act, 1872 – “ A contract by which one party promises to save the other from loss caused to him by the conduct of the promisor himself or by the conduct of any other person, is called a contract of indemnity.”
Amit contacts with Rajesh that he will indemnify Rajesh against the consequences of proceeding which Rahul may take against. If rajesh has to pay 20,000 as a consequence of such proceedings ,Amit will have to pay that amount because he has promised to indemnify Rajesh. The liability of the indemnifier is primary and independent.
Important: Indemnity clauses can be complicated to negotiate and can lead to increased costs of services because of the increased risk of the
Indemnifier: The promisor, who promises to make good the loss caused to the other party is called as Indemnifier.
Indemnified: The person who is assured to be Compensated for the loss caused (if any) as indemnified or Indemnity holder.
The mode of the contract of indemnity can be express or implied, i.e. if a person explicitly promises to save the other from losses, the mode of the contract will be express, where as if the contract is signifed from the conditions of the case, then the mode of the contract will be implied.
ESSENTIALS OF CONTRACT OF INDEMNITY :-
- Parties To A Contract – There must be two parties namely, promisor or indemnifier and the promise or indemnified or indemnity holder.
- Protection of Loss – A contract of indemnity is entered into for the purpose of protecting the promise from the loss. The loss may be caused due to the conduct of the promisor or any other person.
- Express Or Implied – The contrast indemnity may be express (i.e. made by words spoken or written) or implied (i.e. inferred from the conduct of the parties or circumstances of the particular case).
- An essential of a valid Contract – A contract of Indemnity is a special kind of contract. The principles of the general law of contract contained in Section 1 to 75 of the Indian Contract Act, 1872 are applicable to them. Therefore, it must possess all the essentials of a valid contract.
GajananMoreshwar vs. MoreshwarMadanMantri –
When KD Mohandass asked for payment of of the material, M Madan refused to pay the amount and requested G Moreshwar toprepare a mortgage deed in favour of K D Mohandass. The interest rate was decided & G Moreshwar but a charge over his possession. According to deed, a date was decided for the return of theprincipal amount. On the date M Madan did not pay anything to K D Mohandas and K D Moreswar had to pay some amount interest to KD Mohandas. After many requests, M Madan did not pay anything. So, G Moreshwar decided to sue M Madan for the same.
Held- In this matter, the court held that if indemnity holder has raised any of that responsibility and the nature of that responsibility is absolute then indemnity holder can ask the indemnifier to fulfil that responsibility or pay the amount. It is not necessary that a promise should pay the loss incurred.
Black law dictionary defines the termgurantee as the assurance that a legal contract will be duly enforced. A contfact of guarantee is governed by Indian Contract Act, 1872 and included 3 parties in which one of the parties acts as the surety in case the defaulting party fails to fulfilhis obligations. Contracts of gurantee are mostly requriedin cases when a party requires a loan or employment. The guarantor in such contracts assures the creditor that the person in need may be trusted and in case of any default, he shall undertake the responsibility to pay.Thus we can say contract of guarantee is invisible security given to the creditor.
Section 126 of the Indian contract act defines a contract of guaranteeas a contract to perform the promise or discharge the liability of the defaulting party in case he fails to fulfil his promise.
Thus here we can infer that there are 3 parties To the contract:
- Principal debtor – The one who borrows or is liable to pay and on whose default guarantee is given.
- Creditor- The party who has given something of value to borrow and stands to receive the payment for such a thing and to whom the guarantee is given.
- Surety / Guarantor – The person who gives the guarantee to pay in case of default of the principal debt.
Essentials of a Contract of Guarantee –
- Must be made with the agreement of all 3 parties- All the three parties to the contract i.e. principal debtor, the creditor and the surety must agree to make such a contract with the agreement of each other. The Surety takes his responsibility to be liable for the debt of the principle debtor only on the request of the principal debtor. Hence communication either expresses or implied by the principal debtor to the surety is necessary. The Communication of the surety with the creditor to enter into a contract of guarantee without the knowledge of the principal debtor will constitute a contract of guarantee.
- Consideration-According to Section 127 of the act anything is done or any promise made for the benefit of the principle debtor is consideration to the surety for giving guarantee. The consideration must be fresh considerationgiven by the creditor and not a past consideration. It is not necessary that the guarantor must receive any consideration and sometimes even tolerance on the part of the creditor in case of default is also enough consideration.
Case State Bank of India v. Premco Saw Mill (1983)
The State Bank gave notice to the debtor-defended and also threatened legal action against her , but her husband agreed to Surety and undertook to pay the liability and also executed a promissory note in favour of the State Bank and Bank refrained from threatened action. It was held that such patience and acceptance on the bank’s part constituted good consideration for surety.
- Liability – In a contract of guarantee, the liability of a Surety is secondary. This means that since the primary contract was between the creditor and principal debtor, so the liability of principal debtor is primary.It is only on the default of the principal debtor that the surely liable to repay.
- Presupposes the existence of a debt – The main function is to Secure the payment of the debt taken by the principal debtor. If no such debt exists then there is nothing left for surety to secure. Hence in cases when the debt is time barred or void no liability of surety arises.
- Must contain all the essentials of vaild contract- Since a contract of guarantee is a type of contract all the essentials of a valid contract will apply contracts of guarantee as well. Thus all the essential requirements of a valid contract such as – free consent, valid consideration, offer and acceptance, intention to create a legal relationship etc. are required to be fulfilled.
- No Concealment of facts – The creditor should disclose to the surety the facts that are likely to affect the surety’s liability. The guarantee obtained by concealment of such facts is invalid. Thus the guarantee is invalid if creditor obtains it by the concealment of material facts.
- No Misrepresentation- The guarantee should not be obtained by misrepresenting the facts to the surety Though the contract of guarantee is not a Contract ofUberrima fides i.e. of absolute good faith to affect and thus, does not require complete disclosure of all the material facts by the principal debtor or creditors to the surety before he enters into a contract. But the facts, that are likely to affect the extent of surety’s responsibility, must be truly represented.
Kinds of Guarantee-
Contracts of guarantees may be classified into 2types : Specific guarantee and continuing guarantee.
When a guarantee is given in respect of a Single debt or specific transactionand is to come to an end when the guaranteed debt is paid or the promise is duly performed, it is called a specific or simple guarantee. However, a guarantee which extends to aseries of transactions is called a continuing guarantee (Section- 129). The surety’s liability, in this case, would continue till all the transactions are completed or till guarantor revokes the guarantee as to the future transactions.
Continuing Guarantee –
A continuing guarantee is defined under Section-129 of the Indian Contract Act, 1872. A continuing guarantee is a type of guaranteewhich applies to a series of transactions. It applies to all the transactions entered into by the principal debtor until it is revoked by the surely. Therefore Bankers always prefer to have a continuing guarantee so that the guarantor’s liability is not limited to the original advances and would also extend to all subsequent debts. It applies to a series of separable, distinct transactions. Therefore when a guarantee is given an entire consideration it cannot be termed a continuing guarantee.
K gave his house to S on a on a lease for 10 years on a specified lease rent. P guaranteed that would fulfil his obligations. After 7 years S stopped paying the lease rent P then gave a notice revoking his guarantee for remaining three years. P would not be able to revoke the guarantee because the lease for 10 years in an entire indivisible consideration and cannot be classified as a series of transaction and hence is not a continuing guarantee.
Revocation of Continuing Guarantee –
Continuing Guarantee can be revoked for future transactions. In that case, the surety shall be liable for those transactions which have already taken place .It can be revoked in the following ways-
- By giving a notice – Section-130 Continuing guarantees can be revoked by giving notice to the creditor but this applies only to future transactions just by giving a notice the surety cannot waive off his responsibility and still remains liable for all the transactions that have been placed before the notice was given by him. If the contract of guarantee includes a clause that of the a notice of a certain period of time is required before the contract can be revoked then theSurety must comply with the same.
A guarantees to B to the extent &Rs. 10,000 that C shall bay for all the goods bought by him during the next three months. B sells goods worth Rs. 6,000 to C. A gives notice of revocation, C is liable for Rs. 6000. If any goods are sold to C after the notice of revocation , A shall not be liable for that.
- By Death of Surety- Section-131Thedeath of surety operates as a revocation of This legal [the continuing guarantee in respect to the transactions taking place after the death of surely due to the absence of a contract. However representatives will continue to be transections entered into before his death”. The estate of deceased surety is, however, liable for those transactions which had already taken place during the lifetime of the deceased. Surety’s estate will not be liable for the transactions. I taking after the death of surely even if the Creditor had no knowledge of surety’s death.
Period of Limitation-
The period of limitation of enforcing a guarantee is 3 years from the date on which the letter of guarantee was executed. State Bank of India v. Nagesh Hariyappa Nayak And Ors, against the advancement a loan to a company, the guarantee deed was executed by the directors and subsequently a letter acknowledging the loan was issued by same directors on behalf of the company. It was held that the letters did not have the effect of extending the period of limitation. Recovery Proceeding instituted after 3 years from the date of the deed of guarantee were liable to be quashed.
A contract in which one party promises to another that he will compensate him for any loss suffered by him for any loss suffered by him by the act of the promisor or the 3rd party.
A contact in which a party promises to another party that he will perform the contact or compensate the loss, in case of the default of person it is the contact of guarantee.
|2) DEFINED In:-
The contract of indemnity is defined u/s. 124 of Indian Contact Act, 1872.
|2) DEFINED IN:-
The contract of guarantee is defined u/s. 126 of Indian Contact Act, 1872.
The number of parties is Two i.e. indemnifier and indemnified.
The number of parties Three i.e. creditor, surety and principal debtor.
|4) NUMBER OF CONTRACTS:-
There is only one contract.
|4) NUMBER OF CONTRACTS:-
There are three contracts creditor – surety – principal debtor , principal debtor – creditor.
|5) DEGREE OF LIABILITY OF PROMISOR:-
The dgree of liability of the promisor is primary.
|5) DEGREE OF LIABILITY OF PROMISOR:-
The dgree of liability of promissor is secondary and dgree of liability of surety is secondary.
The purpose of contract of indemnity is to compensate for the loss.
The purpose of contract of guarantee is to give assurance to the promise.
|7) MATURITY OF LIABILITY:-
The liability mature when the contingency occurs.
|7) MATURITY OF LIABILITY:-
In this, liability already exists.
|8) RIGHT TO SUE:-
In indemnity the indemnifier cannot sue the 3rd party for loss in his own party name He can sue in the name of the indemnity holder.
|8) RIGHT TO SUE:-
But in case of guarantee, the surely can sue the principal debtor in his own name after discharging debtors liabilities.
It is not necessary for indemnifier to act on request by indemnity holder.
But the surety should give guarantee at the request of the debtor.
These both contracts are contracts of contingency In indemnity, the promisor cannot she the 3rd party. but in the case of guarantee the promisor can do so because after discharging the creditor’s debt gets the position of the creditor.