Contract of Guarantee

Contract of Guarantee
Defined u/s 126 Its a contract to perform or discharge the liability of a third

person in case of his default. Meaning- when one party gives his surety to pay the loss in case of default made by the principal debtor i.e the suretys liability arises only when default made by the principal debtor. Examples: 1. A bank gives a loan of Rs 20 lacs to B on the guarantee of C. Thus, A is the creditor, B is the Principal Debtor and C is the Surety. 2. S requests C to lend Rs. 10000 to P.D and guarantees that if P.D fails to pay the amount, he will pay. Thus, S is the surety, C is the Creditor and P.D is the Principal Debtor.

 Number of Persons-There are total three persons entered in the

Contract of Guarantee

1. Surety- The person who gives the guarantee is called the surety. 2. Principal Debtor (PD)- The person in respect of whose default the guarantee is given is called the Principal Debtor. 3. Creditor- The person to whom the guarantee is given is called the Creditor.

Number of Contracts- There are three total contracts in COG

1. 2. 3.

Firstly, the PD himself makes a promise in favour of the creditor to perform a promise. Secondly, the Surety undertakes to be liable towards the creditor if the P.D makes a default. Thirdly, an implied promise by the PD in favour of the surety that in case the surety has to discharge the liability of the default of the PD, the PD shall indemnify the surety for the same.

Object of COG- is to provide additional security to the creditor in the

form of a promise by the surety to fulfil a certain obligation, in case the principal debtor fails to do that.

Essentials of Contract of Guarantee (COG)

1.Valid Contract- All the essentials of a valid contract must be present in the contract of guarantee. 2. Concurrence- of all parties 3. Principal Debt- There must be principal debt. 4. Primary Liability- The primary liability will be of the Principal Debtor. 5. Secondary Liability- The secondary liability will be of the Surety. 6. No Misrepresentation- The creditor should disclose all the facts which are likely to affect the suretys liability. 7. The contract may be either oral or in writing.

Difference between:

1. 2.

C of Indemnity (COI)
Defined u/s 124 Its a contract by which one party promises to save the other loss caused to him by the conduct of the Indemnifier or any other person. Example: A student signs an indemnity bond of Rs 10000 for an institute that if he breaks any belongings of the institute, deduct money from the deposit. A and B enter into a shop. A tells the shopkeeper, Let B have the goods, I will be your paymaster. There are only two parties i.e Indemnifier and Indemnified. There is only one contract between Indemnifier and Indemnified.

C of Guarantee (COG) Defined u/s 126 Its a contract to perform or discharge the liability of a third person in case of his default.
Example: A bank gives a loan of Rs 20 lacs to B on the guarantee of C. Thus, A is the creditor, B is the Principal Debtor and C is the Surety. A and B enter into a shop. A tells the shopkeeper that if A does not pay you, I will. There are three parties i.e Creditor, Principal Debtor and Surety. There are three contracts between: a) Creditor and Debtor, b) Creditor and Surety and c) Surety and Debtor

3.

4.

5. 6.

Contract of Indemnity (COI)

6. The liability of the Indemnifier is primary and independent. 7. The liability of the Indemnifer arises only on the loss suffered by the Indemnified. 8.The nature of the contract is for the reimbursement of the loss of the Indemnified. 9. The Indemnified is not entitled to sue 3rd party. 10. The scope of COI is Narrower because the Indemnified can sue only Indemnifier.

Contract of Guarantee (COG)

The liability of the Debtor is primary and the surety is secondary. The liability of the surety arises only when the debtor commits default in making payment to the creditor. The nature of the contract is for the safety and security of the creditor. The Creditor is entitled to sue the Debtor or Surety. The scope of COG is wider because the Creditor can sue both either debtor or surety.

Kinds of Guarantee
1.Specific GuaranteeWhen a guarantee extends to a single transaction or debt, it is called a specific or simple guarantee. It comes to an end when the guaranteed debt is duly discharged or the promise is duly performed.

2. Continuing Guarantee Defined (u/s 129) as a guarantee which extends to a series of transactions is called as continuing guarantee. The liability of the surety extends to all the transactions contemplated until the revocation of the guarantee. Example: S has given a guarantee to C to give his flat to one of his friend D on monthly rent of Rs. 20000. If in any month, D doesnt pay the rent, then the S will pay. This is a continuing guarantee.

Surety

Who is Surety? Its a person who comes forward to pay the amount in the event of the burrower failing to pay the amount. It means when the PD makes a default in making the payment, the liability of the surety arises. The cardinal rule is that the surety is liable for what the principal debtor is liable. It means that the liability of the surety can neither be more nor less than that of the PD, though by a special contract, it may be less than that of the PD, but never greater.

Nature and Extent of Suretys liability (S. 128)

1. Commencement of Suretys liability- The liability of surety arises immediately on default
made by the principal debtor. The creditor is not required to first give a notice or sue the principal debtor. 2.S. 128- Suretys liability is coextensive with the liability of principal debtor, unless it is otherwise provided by the contractIt means that his liability is exactly the same as that of the PD. It means that on a default made by the PD, the creditor can recover from the surety all what he could have recovered from the PD. Ex: if PD makes a default of Rs 1 lakh, then the creditor can recover from the surety the whole sum of Rs. 1 lakh alongwith interest due as well as the amount spent by him in recovering that amount. The surety is liable for all the debts (costs, interest, damages) payable by the principal debtor to the creditor. If the PDs liability is reduced, then the liability of the surety is also reduced accordingly. Case law: Narayan Singh v Chattarsingh- In this case, the liability of a farmer who was the PD was scaled down under the Rajasthan Relief Act, 1957 and held that the liability of the surety would also be reduced or extinguished by that amount.

3. Suretys liability may be limited- The surety may fix a limit on his liability upto which the guarantee shall remain effective. 4. Suretys liability may be continuous- The surety may agree to become liable for a series of transactions of continuous nature. 5. Creditor can sue the surety without exhausting remedies against the PD.- It means if the PD makes a default in making the payment, then the creditor can sue either the PD or the Surety or both of them.
Case law: Bank of Bihar v Damodar Prasad- In this case the Apex court held that the bank is at liberty to

Discharge of Surety from Liability

A Surety can be discharged in the following ways:1. By Notice (u/s 130)- A specific guarantee cannot be revoked by the surety if the liability has already accrued. But, a continuing guarantee may be revoked at anytime by giving a notice to the creditor. However, this revocation shall be effective only in respect of future transactions. 2. Death of Surety (u/s 131)- The death of the surety operates as a revocation of a continuing guarantee so far as regards future transactions. The liability of the previous transactions however remains. The deceased suretys estate will not be liable for any transactions entered into between the creditor and the principal debtor after the death of the surety, even if the creditor has no notice of the death. 3. By variance in the terms of the Contract (u/s 133)- A surety is liable for what he has undertaken in the contract. When the terms of the contract between the principal debtor and the creditor are varied without the suretys consent, the surety is discharged as to the transactions subsequent to the variance.

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By release or discharge of the principal debtor (u/s 134)- The surety is also discharged by any act or omission of the creditor, the legal consequence of which is discharge of the principal debtor. By compounding with the principal debtor (u/s 135)- 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. By creditors act or omission impairing suretys eventual remedy (u/s 139)- If the creditor does any act which is inconsistent with the rights of the surety, or omits to do some 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. By loss of security (u/s 141)-. If the creditor loses or without the consent of the surety, parts with any security given to him at the time of the contract of guarantee, the surety is discharged from liability to the extent of the value of security.

Rights of Surety
1.

Rights against Principal Debtor i) Right of Indemnity (u/s 145) - there is an implied promise by the principal debtor to indemnify the surety. The surety is entitled to claim all the sums from the principal debtor which he has rightfully paid to the creditor. ii) Right of Subrogation (u/s 140) - on payment of a debt, the surety shall be entitled to all the rights which the creditor could claim against the principal debtor. Rights against Creditor i) Right to claim securities (u/s 141) -The surety can claim all the securities which the creditor had at the time of the giving of guarantee. ii) Right to set off- any amount recoverable by the principal debtor or surety may be claimed as deduction. Rights against Co-sureties i) Right to contribution (u/s 146 and 147) - all the co-sureties shall contribute equally or in different sums. ii) Right to share benefit of securities- if one co-surety receives any security, all the other co-sureties are entitled to share the benefit of such security.

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