What is a contract of guarantee? Explain the differences between a contract of indemnity and contract of guarantee?
According to Section 126 of the Indian Contract Act, A contract of guarantee is a contract to perform the promise, or discharge the liability, of a third person in case of his default. Thus, a contract of guarantee is a contract to perform the promise of another person or discharge his liability in case of his default.
In a contract of guarantee, there are three parties:
- The person who gives the guarantee is called surety.
- The party in respect of whose default the guarantee is given is called principal debtor.
- The person to whom the guarantee is given is called creditor.
Essentials of a Contract of Guarantee:
Requirements of a valid contract: The essentials of a valid contract like competence of parties, free consent, consideration, etc., must be present to make the contract of guarantee enforceable by law.
The contract must be supported by consideration: A contract of guarantee must be supported by consideration. However, law presumes that consideration received by the principal debtor is sufficient consideration for surety.
There must be someone primarily liable: There must be a primary liability on someone other than the surety. There must be someone liable as a principal debtor and the surety undertakes to be liable on his default.
There should be no misrepresentation: The contract of guarantee is a contract of absolute good faith. Yet it is the duty of a party taking a guarantee to put the surety in possession of all the facts likely to affect the degree of his responsibility, and if he neglects to do so, it is his risk.
Writing not necessary: A contract of guarantee may be oral or in writing.
Concurrence: Such contract requires concurrence of all the three parties to it, i.e., the principal debtor, the creditor, and the surety.
Difference between a Contract Indemnity and a Contract Guarantee
Parties: In a contract of indemnity, there are two parties indemnifier and indemnity holder. In a contract of guarantee there are three parties the principal debtor, the creditor and the surety.
Number of contracts: In case of indemnity there is one contract only, i.e. between indemnifier and indemnity -holder but in guarantee there are three contracts -one between principal debtor and creditor, second between surety and creditor and third between surety and the principal debtor.
Liability: The nature of liability of indemnifier is primary and independent. The liability of surety is collateral or secondary, the primary liability is of the principal debtor.
Purpose: The purpose of contract of indemnity is to -provide for security against loss. The contract of guarantee is made to provide security to creditor against default by principal debtor.
Existing liability: In case of indemnity, there is no existing liability. It is only a contingency. But in contract of guarantee, the liability already subsists. There is an existing debt which is guaranteed by surety.
Interest: In case of indemnity, the promisor has some interest in the transaction. But in guarantee, the surety has no other interest.
Right to sue. In indemnity, the indemnifier can not sue third party for loss in his own name. He can sue in the name of the indemnity holder. But in case of guarantee, the surety can sue principal debtor in. his own name after discharging debtor’s liabilities.
Request: It is not necessary for indemnifier to act on request by indemnity holder. But surety should give guarantee at the request of the debtor.