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Contracts of Indemnity
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 25-Oct-2023

Tags: Bombay High Court

Indian Contract Act, 1872 (ICA)

Supreme Court

Introduction
The contract of indemnity and the
contract guarantee are the special
contracts under the Indian Contract Act,
1872. The contract of indemnity is the
contract where one person compensates
for the loss of the other.
Contract of guarantee is a contract
between three people where the third
person intervenes to pay the debt if the
debtor is at default in paying back.
The contract of guarantee and contract
of indemnity perform similar commercial
functions in providing compensation to
the creditor for the failure of a third party
to perform their obligation.
Chapter VIII of the Indian Contract Act,
1872 contains the legal provisions
governing a contract of indemnity and a
contract of guarantee in India.

Contract of Indemnity
The term indemnity is derived from the
Latin word “indemnis” which denotes
uninjured or suffering no damage or
loss. It is a sort of security or protection
against loss.
Indemnity is to indemnify one person by
bearing his losses incurred to him by the
conduct of promissory or by any other
party.
Section 124 of the Indian Contract Act,
1872 defines a contract of indemnity as a
contract wherein 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.
In an indemnity contract, there are only
two parties i.e.,
The Indemnifier: The promisor, who
agrees to make up the damage caused
to the other group.
The Indemnified: The person who is
assured of compensation for the
damage incurred (if any) is referred to
as the indemnity holder or the
indemnified.

Essentials in the Contract of Indemnity

Valid contract: An indemnity contract

must have all parts of a valid contract.
The Indian Contract Act of, 1872 applies
to indemnity contracts.
Loss protection: The indemnity contract is
for loss protection. The indemnifier is
bound to recover the losses.
Parties: The indemnity contract shall
have two parties. The indemnifier and the
holder.
Contracts: There is one contract only
between the holder and the indemnifier.
Express or implied: The indemnity
contract can either be spoken or written.
The parties can also imply it.

Types of Indemnity

Express Indemnity:
This is also known as written indemnity.
Under this, all the terms and conditions
of the indemnity are mentioned
specifically in the contract.
The rights and the liabilities of both
parties are clearly set out in the
agreement.
This type of agreement includes
insurance indemnity contracts,
construction contracts, agency
contracts, etc.
Implied Indemnity:
It refers to that indemnity wherein the
obligation arises from the facts and
the conduct of the parties involved. This
is not a written contract.
The core example of this type of
indemnity is the master-servant
relationship.
The master is liable to indemnify his
servant for the losses that he incurred
while working as per his instruction.

Rights of an Indemnity
Holder
Section 125 of Indian contract Act, 1872
deals with rights of an indemnity holder.
The promisee in a contract of indemnity,
acting within the scope of his authority, is
entitled to recover from the promisor:

All damages which he may be compelled

to pay in any suit in respect of any matter
to which the promise to indemnify
applies.
All costs which he may be compelled to
pay in any such suit if, in bringing or
defending it, he did not contravene the
orders of the promisor, and acted as it
would have been prudent for him to act in
the absence of any contract of
indemnity, or if the promisor authorized
him to bring or defend the suit;
All sums which he may have paid under
the terms of any compromise of any
such suit, if the compromise was not
contrary to the orders of the promisor,
and was one which it would have been
prudent for the promisee to make in the
absence of any contract of indemnity, or
if the promisor authorized him to
compromise the suit.

Rights of the Indemnifier

After the indemnity holder is paid for the
damage incurred, the compensator shall
have all the rights to all the methods and
services which can save the
compensator from the damage.
Indemnification can only be done if the
loss to the other party is incurred, or if it is
certain that the loss will be incurred.
The Indian Contract Act of, 1872 does not
provide for the time to commence the
liability of the indemnifier under the
contract.
In Gajanan Moreshwar vs. Moreshwar
Madan, (1942), the Bombay High Court
held that if the indemnified has incurred
liability and the liability is absolute, he is
entitled to call upon the indemnifier to
save him from the liability and pay it off.
In Lala Shanti Swarup vs Munshi Singh &
Others, (1967), the Supreme Court held
that a conveyance which contains a
covenant whereby the purchaser
promises to pay off encumbrances on
the sold property is nothing but an
implied contract of indemnity, whose
cause of action arises when actually
indemnified. (Mortgage decree being
passed does not amount to actual
indemnification).

Contract of Guarantee
Guarantee means to give surety or
assume responsibility. It is an agreement
to answer for the debt of another in case
he makes default.
Section 126 of the Indian Contract Act,
1872 provides that a "contract of
guarantee" is a contract to perform the
promise, or discharge the liability, of a
third person in case of his default.
Three parties are involved in the contract
of guarantee.
Surety: The person who gives the
guarantee is called the surety. The
liability of the surety is secondary, i.e.,
he has to pay only if the principal
debtor fails to discharge his obligation
to pay.
Principal debtor: The person in respect
of whose default the guarantee is given
is the principal debtor.
Creditor: The person to whom the
guarantee is given called the creditor.
A guarantee is either in the format of
writing or of oral.
This contract lets the principal debtor to
avail employment, loan or goods on
credit and the surety would ensure
repayment in case of any default in the
part of the debtor.
Example
Mohan takes loan of Rs. 5 lakhs from the
UCO Bank of Lucknow University Branch.
Sohan promises to UCO Bank that if
Mohan fails to rupee the loan timely
then, Mohan will pay. This is a contract
of guarantee and Mohan is Principal
debtor UCO Bank is creditor and Sohan
is surety.

Essentials of Contract of Guarantee

1. The contract can be either oral or in

writing. Nevertheless, the assurance
contract can only be in writing in English
law.
2. The guarantee contract presumes a
principal liability or a discharge duty on
the part of the principal debtor. Even if
there is no such principal liability, one
party agrees to pay another under such
situations, and the enforcement of this
obligation is not contingent on anyone
else's default, it is an indemnity contract.
3. Sufficient consideration is to support the
principal debtor. It is not necessary to
have clear consideration between the
creditor and the assurance that it is
appropriate that the creditor has done
anything for the good of the principal
debtor.
4. Assurance consent cannot be obtained
by misrepresentation or cover of any
material information relating to the
transaction.

Liability of Surety
Section 128 of the Indian Contracts Act,
1872 states the liability of the surety is
co-extensive with that of principal
debtor, unless it is otherwise provided by
the contract.

Surety's liability is the same as that of

the principal debtor. A creditor can move
directly against the surety. Without suing
the principal debtor, a creditor may sue
the surety directly. Surety is liable to
make payment immediately after the
default of any payment by the principal
debtor.
Primary responsibility for making
payment, however, is from the principal
debtor, and the responsibility of the
surety is secondary. In fact, if the principal
debtor cannot be held liable for any
payment due to any document error,
then surety is not responsible for such
payment as well.

Rights of Surety
A. Rights against the principal debtor

Right to give notice.

Rights of sub-rogation.
Right of indemnity.
Right to get securities.
Right to ask for relief.

B. Rights against the creditor

Right to get securities.

Right to ask for set-off.
Rights of sub-rogation.
Right to advice to sue principal debtor.
Right to insist on termination of
services.

C. Rights against co-sureties

Right to Ask for Contribution: Surety

can ask its co surety to add the sum
when the principal debtor defaults. If
they have issued commitments for
equal quantities, they would have to
make equivalent contributions.
Right to claim share in securities.

Continuing Guarantee

One form of guarantee that extends to a

series of transactions is a continuing
guarantee. A continuing guarantee
extends to all transactions that the
principal debtor enters into before the
surety revokes it.
A continuing guarantee for future
transactions may be withdrawn at any
time by notice to the creditors. However,
the responsibility of a surety for
transactions completed prior to such
revocation of guarantee is not
diminished.

Difference between Contract

of Indemnity and Contract of
Guarantee
Contract of Indemnity Contract of Guarantee
There are two parties in There are three parties
a contract of indemnity, in a contract of
namely the indemnifier guarantee, namely the
and the indemnity principal debtor, the
holder. creditor, and the surety.
There are three
contracts.
Between the
principal debtor
and the creditor
to fulfill the
liability and pay
dues
Between the
It consists of only one
creditor and
contract between the
indemnifier and the surety, where the
indemnity holder. The surety will pay off
indemnifier promises to dues if the
indemnify the
principal debtor
indemnified/indemnity
holder in event of a defaults
certain loss. Between the
principal debtor
and surety, where
the principal
debtor makes
good the losses
of the surety
incurred to fulfill
the guarantee

The liability of the surety

is a secondary one, i.e.,
his obligation to pay
arises only when the
principal debtor
The liability of the defaults. Liability in a
indemnifier is primary. contract of guarantee is
The liability in a contract continuing in the sense
of indemnity is that once the guarantee
contingent in the sense has been acted upon,
that it may or may not the liability of the surety
arise. automatically arises.
However, the said
liability remains in
suspended animation
until the debtor makes
default.
The liability of an
indemnifier is not Liability of surety is
conditional on the conditional on the
default of somebody default of the principal
else. For example, Mrinal debtor. For example, Anil
promises the buys goods from a seller
shopkeeper to pay, by and Mrinal tells the seller
telling him that, “Let Anil that if Anil doesn’t pay
have the goods, I will be you, I will. This is a
your paymaster”. This is contract of guarantee.
a contract of indemnity Thus, the liability of
as the promise to pay by Mrinal is conditional on
Mrinal is not conditional non-payment by Anil.
on default by Anil.
No requirement of the Principal debt is
principal debt necessary.
After the surety has
Once the indemnifier
made the payment, he
indemnifies the
steps into the shoes of
indemnity holder, he
the creditor and can
cannot recover that
recover the sums paid
amount from anybody
by him from the
else.
principal debtor.

Conclusion
Both the contract of indemnity and
contract of guarantee are similar in the
sense that they provide protection against
loss. However, as mentioned above, there is
an important distinction between the two.
Whether a contract is a contract of
indemnity or a contract of guarantee is a
question of construction in each case.

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