CHAPTER-2 THE INDIAN

CONTRACT ACT, 1872

UNIT-7 CONTRACT OF INDEMNITY AND GUARANTEE (specific types of contract)

Contract of indemnity-
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’.

Indemnity-
To compensate the party who has suffered some loss

Indemnifier-
The party who promises to save the other party from loss.

Indemnified/Indemnity holder-
The party who is promised to be saved against the loss.

EXAMPLE- X may agree to indemnify Y for any loss or damage that may occur if a tree on Y’s
neighbouring property blows over. If the tree then blows over and damages Y’s fence, X will be liable
for cost of fixing the fence.

*LOSS OCCASIONED BY AN ACCIDENT NOT CAUSED BY ANY PERSON, OR AN ACT OF GOD/NATURAL

EVENT, IS NOT COVERED.

#a contract of Fire Insurance or Marine Insurance is always a contract of indemnity. But there is no
contract of indemnity in case of contract of Life Insurance.

EXAMPLE- A asks B to beat C promising to indemnify him against the consequences. The promise of
A cannot be enforced. Suppose, B beats C and is fined Rs.1000, B cannot claim this amount from A
because the object of the agreement is unlawful.

Contract of Guarantee-
A contract of guarantee is a contract to perform the promise made or discharge the liability, of a
third person in case of his default.

Surety-
Person who gives the guarantee.

Principal debtor-
Person in respect of whose default the guarantee is given.

Creditor-
Person to whom the guarantee is given.

EXAMPLE- When A(surety) requests B(creditor) to lend Rs.10,000 to C(principal debtor) and
guarantees that C will repay the amount within the agreed time and that on C failing to do so, he(A)
will himself pay to B, there is a contract of guarantee.
Contract of guarantee includes 3 types of contract namely,
 Principal Contract- b/w principal debtor and creditor
 Secondary Contract- b/w creditor and surety
 Implied Contract- b/w surety and principal debtor

*A guarantee without consideration is void, but there is no need for a direct consideration b/w
the surety and the creditor. Past consideration is no consideration for the contract of guarantee.

TYPES OF GUARANTEE-
 Specific guarantee
 Continuing guarantee

Discharge of a surety- (free from obligations)

 By revocation of the Contract of Guarantee
1. Revocation of continuing guarantee by NOTICE- can be revoked any time by
surety by notice to the creditors. Once the guarantee is revoked, the surety is not liable for
any future transactions.
2. Revocation of continuing guarantee by SURETY’S DEATH- the surety’s estate
remains liable for the past transactions which have already taken place before the death of
the surety.
3. By NOVATION- surety under original contract is discharged if a fresh contract is entered
into either b/w the same parties or diff parties.

 By conduct of the creditor

1. By VARIANCE IN TERMS of contract- any variance in terms of contract b/w the
principal debtor and creditor without surety’s consent would discharge the surety in respect
of all transactions taking place subsequent to such variance.

EXAMPLE- A becomes surety to C for B’s conduct as a manager in C’s bank. Afterwards, B and C
contract, without A’s consent, that B’s salary shall be raised, and that he shall become liable for one-
fourth of the losses on overdrafts. B allows a customer to overdraw, and the bank loses a sum of
money. A is discharged from his suretyship by the variance made without his consent and is not
liable to make good this loss.

2. By RELEASE OR DISCHARGE of principal debtor- the surety is discharged if the

creditor,-
 Enters into a new contract with principal debtor
 Does any act or omission

EXAMPLE- A gives a guarantee to C for goods to be delivered to B. Later on, B contracts with C to
assign his property to C in lieu of the debt. B is discharged of his liability and A is discharged of his
liability.

3. Discharge of surety when creditor compounds with, give time to, or agrees
not to sue, principal debtor- a contract b/w the creditor and the principal debtor,
discharges the surety unless the surety assents to such contract.

Cases where surety not discharged-

i. When agreement made with third person to give time to principal debtor
ii. Creditor’s forbearance to sue does not discharge surety
iii. Discharge of surety by creditor’s act or omission impairing surety’s eventual remedy
  By the invalidation of the contract of guarantee
1. Guarantee obtained by MISREPRESENTATION- misrepresentation made by the
creditor, or with his knowledge and assent, concerning a material part of the transaction is
invalid.

EXAMPLE- C sells AC to P on misrepresenting that it is made of copper while it is made of

aluminium. S guarantees for the same as surety without the knowledge of fact that it is made of
aluminium. Here, S will not be liable.

2. Guarantee obtained by CONCEALMENT- any guarantee which the creditor has

obtained by means of keeping silence as to material circumstances is invalid.
3. Guarantee on contract that creditor SHALL NOT ACT on it UNTIL CO
SURETY- JOINS- where a person gives a guarantee upon a contract that the creditor shall
not act upon it until person has joined in it as a co-surety, the guarantee is not valid if that
other person does not join.

EXAMPLE- ‘S1’ guarantees ‘C’ for payment to be done by ‘P’ to ‘C’ on the condition that ‘S1’ will be
liable only if ‘S2’ joins him for such guarantee. ‘S2’ does not give his consent. Here, ‘S1’ will not be
liable.

Right of Surety-
Right against the principal debtor:
A. Rights of subrogation- where, a guaranteed debt has become due, or default of the
principal debtor to perform a guaranteed duty has taken place, the surety, upon payment or
performance of all that he is liable for, is invested with all the rights which the creditor had
against the principal debtor.

EXAMPLE- ‘RAJU’ has taken a housing loan from Canara Bank. ‘PAPPU’ has given guarantee for
repayment of such loan. Besides, there was a condition that is ‘RAJU’ does not repay the loan
within time, the bank can auction his property by giving 15 days’ notice to ‘RAJU’. On due date
‘RAJU’ does not repay, hence PAPPU being a surety has to pay the loan. Now ‘PAPPU’ can take
the house from bank and has a right to auction the house by giving 15 days’ notice to ‘RAJU’.

B. Implied promise to indemnify surety- there is implied promise b/w the principal
debtor and the surety. The surety is entitled to recover from the principal debtor whatever
sum he has rightfully paid under the guarantee, but not sums which he paid wrongfully.

EXAMPLE- B is indebted to C and A is surety for the debt. Upon default, C sues A. A defends the
suit on reasonable ground but is compelled to pay the amount. A is entitled to recover from B
the cost as well as the principal debt.

Right against the creditor

A. Surety’s right to benefit of creditor’s securities-

EXAMPLE- C advances to B, his tenant, Rs2, 00,000 on the guarantee of A. C has also a further
security for the Rs2, 00,000 by a mortgage of B’s furniture. C cancels the mortgage. B becomes
insolvent, and C sues A on his guarantee. A is discharged from liability to the amount of the
value of furniture.

B. Right to set off-

EXAMPLE- X took a loan of Rs50, 000 from Y which was guaranteed by Z. there was one another
contract b/w X and Y in which Y had to pay Rs10, 000 to. On default by X, Y filed suit against Z. now Z
is liable to pay Rs40, 000.

C. Right to share reduction-

EXAMPLE- X took a loan of Rs50, 000 from Y which was guaranteed by Z. X became insolvent and
only25% is realised from his property against liabilities. Now Y will receive Rs12, 500 from X and now
Z is liable to pay Rs37, 500.

Right against co-sureties

A. Co-sureties liable to contribute equally-

EXAMPLE- A, B and C are sureties to D for the sum of Rs3, 00,000 lent to E. E makes default in
payment. A, B and C are liable, as b/w themselves, to pay Rs1, 00,000 each.

B. Liability of co-sureties bound in diff sums-

EXAMPLE- A,B and C are sureties for D, enter into three several bonds, each in a diff penalty,
namely, A in the penalty of 1,00,000rs, B in that of 2,00,000rs, C in that of 4,00,000rs,
conditioned for D’s duly accounting to E. D makes default to the extent of 3,00,000rs. A, B and C
are each liable to pay 1, 00,000rs.