CONTRACT OF INDEMNITY AND

GUARANTEE

Project submitted to:

Mr. Indra Nath Dey
(Faculty of Law)

Project submitted by
Siddharth Dewangan
Semester II; Section: B
Roll no. 163

14.10.2016

HIDAYATULLAH NATIONAL LAW UNIVERSITY

RAIPUR, C.G.

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ACKNOWLEDGEMENT
I feel highly elated to work on the topic Contract of Indemnity and Guarantee.
Thanks to the Almighty who gave me the strength to accomplish the project with sheer
hard work and honesty. This research venture has been made possible due to the
generous co-operation of various persons. To list them all is not practicable, even to
repay them in words is beyond the domain of my lexicon.
I express my deepest regard and gratitude for Mr. Indra Nath Dey, Faculty of Law.
His consistent supervision, constant inspiration and invaluable guidance have been of
immense help in understanding and carrying out the nuances of the project report
I take this opportunity to also thank the University and the Vice Chancellor for
providing extensive database resources in the Library and access to Internet.
Some printing errors might have crept in, which are deeply regretted. I would be
grateful to receive comments and suggestions to further improve this project report.

Siddharth Dewangan
Semester II
Roll no: 163

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CERTIFICATE OF DECLARATION

I hereby declare that the project work entitled Contract of Indemnity and Guarantee
submitted to HNLU, Raipur, is record of an original work done by me under the able guidance
of Mr. Indra Nath Dey, Faculty Member Law, HNLU Raipur.

SIDDHARTH DEWANGAN
ROLL NO.: 163
SEMESTER II
B.A.L.L.B (Hons.)

TABLE OF CONTENTS

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1. INTRODUCTION . 5
OBJECTIVE
RESEARCH METHODOLOGY
2. CONTRACT OF INDEMNITY .

3. CONTRACT OF GUARANTEE . 11
4. DIFFERENCE BETWEEN CONTRACT OF INDEMNITY AND
GUARANTREE ..17
5. BIBLIOGRAPHY/WEBLIOGRAPHY .... 18

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INTRODUCTION
Guarantees and indemnities are a common way in which creditors protect themselves from the
risk of debt default. Lenders will often seek a guarantee and indemnity if they have doubts
about a borrower's ability to fulfil its obligations under a loan agreement. Guarantors and
indemnifiers take on a serious financial risk in entering into such transactions, and it is
important that they are aware of all the implications.
Parties rarely stop to consider whether they should be seeking a guarantee or a guarantee and
indemnity, or even realise there is a distinction between the two.
Section 124 of the Contract Act, 1872 defines a contract of Indemnity as under:
"A contract by which one party promises to save the other from loss caused to him by the
contract of the promisor himself, or by the conduct of any other person." In simple words, an
indemnity is a promise to compensate for another's loss.
Section 126 of the Contract Act, 1872 defines a contract of guarantee as under:
A "contract of guarantee is a contract to perform the promise, or discharge the liability, of a
third person in case of his default. The person who gives the guarantee is called the surety",
the person in respect of whose default the guarantee is given is called the "principal debtor ",
and the person to whom the guarantee is given is called the "creditor ". A guarantee may be
either oral or written.

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OBJECTIVE
1. To have a detailed study of the contract of indemnity.
2. To have a detailed study of the contract of guarantee.
3. To understand the difference between the contract of indemnity and guarantee.

RESEARCH METHODOLOGY

The method of research adopted for the project is the analytical and descriptive method.
The texts that were used for the project include articles, research papers and news given in
various websites as well as online journals

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CONTRACT OF INDEMNITY
Indemnity is a widespread expression used not only in a contractual context. It can be
defined as a duty to make good any loss, damage or liability incurred by another, or
alternatively the right of an injured party to claim reimbursement for its loss, damage or
liability from a person who has such duty.1
If we see the literal meaning Indemnity means Security from the loss. This term was
generally used for insurance contracts. But it may be noted here that Life insurances is not a
contract of indemnity.
Its legal connotation is when one person promises to another to save him from the loss
incurring from his performing any duty.
An agreement of indemnity, as a concept developed under common law, is an agreement
wherein the promisor, promises to save the promisee harmless from loss caused by events or
accidents which do not or may not depend on the conduct of any person or from liability for
something done by the promisee at the request of the promisor.
In common law Indemnity was established in the case of Adamson v Jarvis.
The plaintiff an auctioneer sold certain cattle on the instruction of the defendant. It
subsequently turned out that the livestock didnt belong to the defendant, but to another
person, who made the auctioneer liable and the auctioneer in turn sued the defendant for the
loss he had thus suffered by acting on the defendants direction. The court laid down that the
plaintiff having acted on the request of the defendant was entitled to assume that, if, what he
did turned out to be wrongful, he would be indemnified by the defendant.
Thus Indemnity in English Law means a promise to save a person harmless from the
consequences of an act. The promise may be express or it may be implied from the
circumstances of the case.2
1 Blacks Law Dictionary
2 Avtar singh pg 571

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Whereas Section 124 of the Contract Act, 1872 defines a contract of Indemnity as "a contract
by which one party promises to save the other from loss caused to him by the contract of the
promisor himself, or by the conduct of any other person." In simple words, an indemnity is a
promise to compensate for another's loss.

PROVISION IN INDIA
As such the scope of Indemnity, as a concept developed under the common law, is much
wider in its scope and application than the scope of Indemnity as defined under Section 124 of
the Indian Contract Act 1872 Act. Indemnity, as developed in common law, includes losses
caused by events or accidents which may not depend on the conduct of any person and
therefore includes losses due to accident or events which have not been caused by the
indemnifier or any other person. Section 124 of the Act, in contrast, limits itself to losses
caused by the indemnifier or any other person. It does not, within its scope, include indemnity
to losses arising out of any natural event or any accident not caused by any person.
Thus the very process of definition is restricted to cases where there is a promise to indemnify
against loss caused by
(i)

by the promiser himself, or

(ii)

by any other person,

so the definition excludes from its purview cases of loss arising from

acidents like fire or perils of the sea. i.e. the loss must be covered by some human agency.
In the case of Gajanan Moreshwar Parelkar v Moreshwar Madan Mantri:
Section 124 of the Act, deals only with one particular kind of indemnity which arises from a
promise made by the indemnifier to save the indemnified from the loss caused to him by the
conduct of the indemnifier himself or by the conduct of any other person, but does not deal
with those classes of cases where the indemnity arises from loss caused by events or accidents
which do not or may not depend upon the conduct of the indemnifier or any other person, or
by reason of liability incurred by something done by the indemnified at the request of the

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indemnifier. Section 125 of the Act, deals only with the rights of the indemnity-holder in the
event of his being sued. It is by no means exhaustive of the rights of the indemnity-holder,
who has other rights besides those mentioned in the section. It was further discussed that an
indemnity might be worth very little indeed if the indemnified could not enforce his
indemnity till he had actually paid the loss. If a suit was filed against him, he had actually to
wait till a judgment was pronounced, and it was only after he had satisfied the judgment that
he could sue on his indemnity. It is clear that this might under certain circumstances throw an
intolerable burden upon the indemnity-holder. He might not be in a position to satisfy the
judgment and yet he could not avail himself of his indemnity till he had done so. Therefore
the Court of equity stepped in and mitigated the rigor of the common law and held that where
the indemnified has incurred a liability and that liability is absolute, he is entitled to call upon
the indemnifier to save him from that liability and to pay it off.
In the case of The New India Assurance Company Ltd. vs. The State Trading Corporation of
India Ltd. and Anr.
The Gujarat High Court relied upon the view taken in Gajanan Moreshwar Parelkar vs.
Moreshwar Madan Mantri and held that in view of Section 124 of the Contract Act, where the
defendants promise to indemnify is an absolute one; a suit can be filed immediately upon
failure of performance, irrespective of actual loss. In this judgment the Law Commission of
India accepted the view that, to indemnify does not mean to reimburse in respect of the money
paid, but, in accordance with its derivation, to save from loss in respect of the liability against
which the indemnity has been given.
The Law Commission of India in its 13th Report, 1958, has expressed the opinion that the
view expressed by Chagla J., is correct and should be adopted by the legislature. The Law
Commission recommended that as in English Law, the right of the indemnity-holder should
be more fully defined and the remedies of an indemnity-holder should be indicated even in
cases where he has not been sued.
Indian Contract Act does not specifically provide that there can be an implied contract of
indemnity. The Privy Council has, however, recognized an implied contract of indemnity
also.3 The Law Commission of India in its 13th Report, 1958 on the Indian Contract Act,
1872, has recommended the amendment of Section 124. According to its recommendation,
The definition of the Contract of Indemnity in Section 124 he expanded to include cases of
3 Secretary of State v. The Bank of India Ltd. AIR 1938 P.C 191

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loss caused by events which may or may not depend upon the conduct of any person. It
should also provide clearly that the promise may also be implied.
The basic difference between the indemnity in English law and Indian law is that, the English
law is wide enough to cover the losses by fire and sea peril whereas the Indian law doesnt
approve this. Moreover in the Indian law the loss should be caused by some human agency
i.e. the promisor himself or by the conduct of any other person. Whereas in English law loss
caused by a natural calamity and the promisor are considered but not by any third party.
A contract of indemnity is one of the species of contracts. The principals applicable to contracts in
general are also applicable to such contracts so much so that the rules such as free consent,
legality of object, etc., are equally applicable. Where the consent to an agreement is caused by
coercion, fraud, misrepresentation, the agreement is voidable at the option of the party whose
consent was so caused. As per the requirement of the Contract Act, the object of the agreement
must be lawful. An agreement, the object of which is opposed to the law or against the public
policy, is either unlawful or void depending upon the provision of the law to which it is subject.

RIGHTS OF THE INDEMNITY HOLDER (SECTION 125)

An indemnity holder (i.e. indemnified) acting within the scope of his authority is entitled to the

following rights
1. Right to recover damages he is entitled to recover all damages which he might
have been compelled to pay in any suit in respect of any matter covered by the
contract.
2. Right to recover costs He is entitled to recover all costs incidental to the institution
and defending of the suit.
3. Right to recover sums paid under compromise he is entitled to recover all
amounts which he had paid under the terms of the compromise of such suit. However,
the compensation must not be against the directions of the indemnifier. It must be
prudent and authorized by the indemnifier.

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CONTRACT OF GUARANTEE
Section 126 of the Indian Contract Act, 1872, defines a contract of guarantee as under:
A "contract of guarantee is a contract to perform the promise, or discharge the liability, of a
third person in case of his default. The person who gives the guarantee is called the "
surety";the person in respect of whose default the guarantee is given is called the " principal
debtor ", and the person to whom the guarantee is given is called the " creditor ". A guarantee
may be either oral or written.
The function of a contract of guarantee is to enable a person to get a loan, or goods on credit
or an employment. Guarantees are usually taken to provide a second pocket to pay if the first
should be empty
Consideration for guarantee.-Anything done, or any promise made, for the benefit of the
principal debtor, may be a sufficient consideration to the surety for giving the guarantee.
ESSENTIALS OF CONTRACT OF GUARANTEE:
1. The contract of guarantee must satisfy the requirements of a valid contract:
A contract of guarantee is a special kind of contract. As such, it must have all the essential
elements of a valid contract such as consideration, free consent, competence of the parties,
legality of object and consideration.
2. The contract of guarantee must be supported by consideration:
It is, however, not necessary that there should be direct consideration between the surety and
creditor. The law presumes that the consideration received by the principal debtor is the
sufficient consideration for the surety. Thus, something done for the benefit of the principal
debtor is the sufficient consideration for a contract of guarantee. And it is not necessary that
the surety himself must he benefited (Section 127).
3. The contract of guarantee must be made by the parties competent to contract:

DEWANGAN 12

We know that the competency of the parties is an important requirement of a valid contract.
As such, the parties to a contract of guarantee must also be competent to contract. However,
the incapacity of the principal debtor does not affect the validity of a contract of guarantee.
Thus, the requirement is that the creditor and the surety must be competent to enter into a
valid contract. A principal debtor may he a minor. In such cases, the surety is regarded as
principal debtor and is personally liable to pay the debt, though the principal debtor is not
liable. In such cases, the contract between the creditor and surety is treated as a primary and
independent, and not collateral. The surety is also liable if the guarantee is given knowing the
minority of the debtor.
4. There must be someone primarily liable:
It is an essential requirement of a contract of guarantee that there must be someone primarily
liable (i.e., liable as principal debtor) other than the surety. As a matter of fact, a contract of
guarantee presupposes the existence of a liability enforceable by law. If there is no such
primary liability, there can be no valid contract of guarantee. However, as slated above, the
guarantee given for minors debt is enforceable.
5. The promise to pay must be conditional:
It is another important essential element of a contract of guarantee. There must be a
conditional promise to be liable on the default of the principal debtor. In other words, the
liability of the surety should arise only when the principal debtor makes a default. Any
liability, which is incurred independently of the default of the principal debtor, is not within
the definition of guarantee.
6. There should be no misrepresentation:
It is also an essential element of a valid guarantee. The guarantee should not he obtained by
misrepresenting the facts to the surety. Though the contract of guarantee is not a contract
uberrimae fides (i.e., of absolute goods faith), and thus, does not require complete disclosure
of all the material facts by the principal debtor or creditor to the surety before .he enters into a
contract. But the facts, which are likely to affect the degree of suretys responsibility, must be
truly represented to him by the creditor. If the guarantee is obtained by the misrepresentation
of such material facts, it will be invalid. Thus, a guarantee is invalid, if the creditor obtains it
by misrepresentation of material facts. The guarantee will also be invalid, if, with the

DEWANGAN 13

knowledge and consent of the creditor, any material part of the transaction between the
creditor and his debtor is misrepresented to the surety (Section 142).

7. There should be no concealment of the facts.

The creditor should disclose to the surety the facts which are likely to affect the suretys
liability. The guarantee obtained by the concealment of such facts is invalid. Thus, the
guarantee is invalid if it is obtained by the creditor by the concealment of material facts
(Section 143).
8. The contract of guarantee may be oral or written.
A contract of guarantee may be either oral or in writing. [Section 126].

PROVISION IN INDIA
In Kashiba v Shreepath
One Lakshmi Bai entered into a bond to secure payment to the plaintiff of Rs. 1000 and
interest. At the time of the execution of the bond, she was a minor and her father joined in the
bond. The material terms of the contract by the father were: Should she (i.e., Lakshmi Bai)
fail to pay, I will pay the above-mentioned amount personally without pleading her excuse
and take back this bond. If it is not so paid, you should get it paid off from my income. The
question was whether the father was liable on this guarantee in view of Lakshmi Bai herself
not being liable because of her minority. In that case, the contract of the so called surety is not
collateral, but a principal, contract. It is a conditional promise founded upon valuable
consideration. It is like the case of a person, who to-appease the anger of a child, requests
another to lend a guinea to the child to play with, and promises if the child loses or does not
give back the coin, to make it good to the lender. The promise in such, circumstances is
clearly that of a principal, and not of surety, and the situation is not altered by its being called
a guarantee. On this reasoning, the learned Judge held that the surety and those claiming
under him were liable to the promisee of the bond.

DEWANGAN 14

In P.J Rajappan v Associate Industries (P) Ltd 4, it was held by the Kerala High Court that
since an oral guarantee is also valid, a person who otherwise appeared to be a guarantor was
held liable though his signature did not appeared on the guarantee papers.
In Punjab National Bank Limited vs Bikram Cotton Mills & Anr 5 it was held that though, the
bond, it is true, did not expressly recite that the Company was the principal debtor; it is also
true and the Company did not execute the bond. But a contract of guarantee may be wholly
written, may be wholly oral, or may be partly written and partly oral.
EXTENT OF SURETYS LIABILITY
It is co-extensive with that of the principal debtor, unless it is otherwise provided by the
contract. When there is a condition precedent to the suretys liability, he will not be liable
unless that condition is first fulfilled (when another person has to join as a co-surety).
The surety has no right to dictate terms to the creditor and ask him to pursue his remedies
against the principal in the first instance. The surety is a guarantor, and it is his business to see
that the principal pays, and not that of the creditor. Even if the decree is a composite one
against the principal debtor, mortgaged property & the guarantor, the creditor/decree holder
can proceed as he liked i.e. he could proceed against the guarantor if he so wished.
Continuing Guarantee: Covers a number of transactions over a period of time. The surety
undertakes to be answerable to the creditor for his dealings with the debtor for a certain time.
DISCHARGE OF SUERITY FROM LIABILITY
1. By revocation: Ordinarily a guarantee is not revocable when once it is acted upon.A
continuing guarantee may at any time be revoked by the surety, as to the future
transactions, by notice to the creditor.
2. By death of Surety: The death of the surety operates as a revocation of a continuing
guarantee so far as regards future transactions. The suretys heirs can be sued for liability
already incurred.

4 (1990) 1 KLJ 77
5 1970 SCR (2) 462

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3. By Variance: Any variance made without the suretys consent, in the terms of the contract
between the principal debtor and the creditor, discharges the surety as to transactions
subsequent to the variance.
While the general principal is that if the agreement of the surety is altered in a single line,
the surety in entitled to be discharged, but the law now accepts that where it is self evident
that the alteration is unsubstantial or for the benefit of the surety, he is not discharged from
his liability.
4. By release or discharge of Principal Debtor: The surety is discharged by any contract
between creditor and the principal debtor, by which the principal debtor is released, or by
any act or omission of the creditor, the legal consequence of which is the discharge of the
principal debtor.
Any release of the Principal Debtor is a release of the surety also. Where, however, the
Principal Debtor is discharged by operation of insolvency laws or, in case of a company,
by the process of liquidation that does not absolve the surety of his liability.
5. Act or Omission:When the act or omission on the part of the creditor is inconsistent with
the interest of the surety, and the same results in impairing suretys eventual remedy
against the principal debtor, the surety is discharged thereby.
6. Compromise, extension of time and promise not to sue: A contract between the creditor
and the principal debtor, by which the creditor makes a composition with, or promises to
give time to, or not to sue the principal debtor, discharges the surety, unless the surety
assents to such contract. (Mere forbearance to sue does not discharge the surety)
7. By Impairing suretys remedy: If the creditor does any act which is inconsistent with the
right of the surety, or omits to do any act which his duty to the surety requires him to do,
and the eventual remedy of the surety himself against the principal debtor is thereby
impaired, the surety is discharged.

RIGHTS OF SURETY
AGAINST THE PRINCIPAL DEBTOR
i.

Right of subrogation: The surety steps into the shoes of the creditor when he has
paid all that he is liable for, or performed all he is liable for

DEWANGAN 16

ii.

Right to Indemnity: In every contract of guarantee there is an implied promise by

the principal debtor to indemnify the surety. The right enables the surety to
recover from the principal debtor whatever sum he has rightfully paid under the
guarantee.

AGAINST THE CREDITOR

i.

Right to securities: The surety steps into the shoes of the creditor and gets the
right to have the securities, if any, which the creditor has against the principal
debtor, irrespective of the fact whether the surety knows of the existence of such
security or not.
If the creditor loses or without the consent of the surety, parts with such security,
the surety is discharged to the extent of the value of the security.

ii.

Right of set off: If the creditor sues the surety, the surety may have the benefit of
the set off, if any, that the principal debtor had against the creditor. He is entitled
to use the defences of the debtor against the creditor.

AGAINST CO SURETIES:
Release by the creditor of one of the co sureties does not discharge the others;
neither does it free the surety so released from his responsibility to the other
sureties.
The co sureties, in the absence of a contract to the contrary, are liable, as between
themselves, to pay each an equal share of the whole debt, or that part of it which
remains unpaid by the principal debtor.

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DIFFERENCE BETWEEN CONTRACT OF INDEMNITY AND

GUARANTEE
1. There are two parties in a contract of indemnity, the indemnifier and the indemnity
holder. There are three parties in a contract of guarantee, the creditor, the principal
debtor and the surety.
2. Contract of indemnity consists of only one contract under which the indemnifier
promises to indemnify the indemnified in the event of certain loss. There are three
contracts in a contract of guarantee. One contract is between the principal debtor and
the creditor in respect of a certain promise or obligation undertaken to be performed
by the principal debtor. By a second contract, the surety undertakes to perform the
same obligation which the principal debtor has undertaken, in case the principal debtor
makes a default. The third contract, which is an implied one, is between the principal
debtor and the surety. By this contract, the principal debtor is bound to indemnify the
surety for whatever sum the surety has rightfully paid under the guarantee. It means
that after the surety discharges his obligation, he is invested with all the rights which
the creditor had against the principal debtor.
3. The object of a contract of guarantee is the security of the creditor. It presupposes a
principal debtor and a certain debt or an obligation for which the principal debtor is
primarily liable. A contract of indemnity is made to protect the promise against some
likely loss.
4. In a contract of guarantee, the liability of the surety is only a secondary one. Suretys
liability arises only when the principal debtor makes a default. The liability of the
indemnifier in a contract of indemnity is a primary one. He undertakes to be liable
when the contemplated situation is here.

DEWANGAN 18

5. In a contract of guarantee, after the surety has discharged his liability and paid to the
creditor, he steps into the shoes of the creditor and he can realize the payment made by
him, from the principal debtor. In a contract of indemnity, the loss falls on the
indemnifier and therefore, after the indemnifier had indemnified the indemnity-holder,
he cannot recover the amount form anybody.

BIBLIOGRAPHY/WEBLIOGRPHY
Books:

Contract II(2014), Dr. R.K. Bangia, Allahabad Law Agency.

Contract and Specific Relief Act(2012), Avtar Singh, Central Law Publication.

http://indian-laws.blogspot.in/2011/12/indemnityandguarantee.html
http://blog.ipleaders.in/contractofindemnity/
http://jcil.lsyndicate.com/wpcontent/uploads/2016/03/contractofguarantee.html

Websites: