Contract of Indemnity

Contract of Indemnity is a contract, express or implied to keep a person, who has entered into or
who is about to enter into, a contract or incur any other liability, indemnified against loss,
independent of the question whether a third person makes a default
Indemnity is protection against possible damages. In its broadest sense, it means to compensate
for any loss that a person has incurred. The liability or the duty to pay arises out of different
reasons such as an agreement or from obligations arising out of the relations between the
concerned parties or by statute.
Indemnity is the promise to save a person from the consequences of an act, the promise may be
expressed or implied.
Definition of Contract of
Indemnity

Halsbury- Indemnity is a contract, express or implied to keep a person, who

has entered into or who is about to enter into, a contract or incur any other
liability, indemnified against loss, independent of the question whether a
third person makes a default.
Section 124 of the Indian Contract Act defines Contract of Indemnity as ‘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, is called a contract of indemnity.
The person who gives the indemnity is called the indemnifier and the person
for whose protection it is given is called the indemnity-holder or
the indemnified.
 Adamson v Jarvis
The defendant instructed the plaintiff, who was an auctioneer, to sell certain
cattle. After a while, it came upon the knowledge of the plaintiff that the
defendant did not own the livestock in the first place. The owner of the
livestock sued the plaintiff as he was the auctioneer and the plaintiff sued the
defendant for indemnity for the loss, he had suffered due to the defendant’s
actions.
The court was of the opinion that the plaintiff having acted on the request of
the defendant, was entitled to assume that, if what he did, learned to be
wrongful, he would be indemnified by the defendant.
Secretary of State v Bank of
India Ltd
Ms. Gangabai held a government promissory note for Rs. 5000. Her broker
Acharya forged her endorsement to his favour and endorsed it to the
respondents who applied to the Public Debt Officer to have it renewed.
Gangabai, when aware of this forgery, sued the appellant and recovered
damages. The appellant then brought action against the respondents to be
indemnified against the loss. The State was allowed to recover from the bank
on an implied promise of indemnity.
Starkey v. Bank of England
a bank was allowed to recover indemnity from an agent who presented a
transfer document on which one out three signatures were forged, even
though he was unaware of this fact.
Nature of Contract of
Indemnity

Contracts of insurance, indemnity and guarantee are contingent in nature. A

contingent contract is a contract to do or not to do something, if some event,
collateral to such contract, does or does not happen.
Contracts of guarantee and contracts of indemnity perform similar
commercial functions in providing compensation to the creditor for the failure
of a third party to perform his obligation. A contract of indemnity is an
agreement to be liable for the acts of another and one of its essential
features is that it exists only between two parties and no other party is
relevant to the subject matter of the contract. This is the primary difference
between a contract of indemnity and contract of guarantee.
Under indemnity, the indemnifier undertakes an independent obligation to
discharge the liability in any event and makes himself primarily liable
voluntarily.
All contacts of insurance are contracts of indemnity except life insurance but
it is not the same vice versa. Life insurance requires payment of premium
during one’s lifetime and in return the person shall receive the
reimbursement at the time of death or maturity. Since the existence of a
quantified loss is absent, which is an essential for a contract of indemnity, life
insurance does not categorize under indemnity contracts.
New India Assurance Co. Ltd v.
State Trading Corporation of
India
“Almost all insurance other than life and personal accident insurance are
contracts of indemnity. The insurer’s promise to indemnify is an absolute
one.”
The obligation of the liability may arise out of legal or equitable duty to
indemnify in a particular set of circumstances. Indemnity can also be a useful
remedy in cases of innocent misrepresentation. A third party cannot sue the
indemnifier based on the principle of privity of contract as was held
in National Petroleum Company v. Popat Lal Mulji in the High Court of
Bombay.
Extent of liability in Contract of
Indemnity

Section 125 lays down the extent of liability or the rights available to the
indemnity-holder. The promisor shall be liable in any event whether or not
the promisee makes default.
The promisee is entitled to recover damages that he was compelled to pay in
a suit for which he was being indemnified-
1.All damages which he may be compelled to pay in any suit in respect of any
matter to which the promise to indemnify applies
2.All costs which he may be compelled to pay in any 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 contact of
indemnity, or if the promisor authorized him to bring or defend the suit.
Adamson v. Jarvis where the court held that since the plaintiff acted
according to the defendant’s instructions and incurred a loss because of the
same, the plaintiff was entitled to compensation.
3.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.
Commencement of liability of the
indemnifier

The indemnifier shall not wait for the indemnity holder to claim the
reimbursement, he shall make it as soon as the liability occurs.
The New India Assurance Company Ltd. v The State Trading Corporation of
India Ltd and Another[15], and the aforementioned view was upheld, where the
bench opined that irrespective of whether a loss has been incurred, the
defendant is liable in case of breach of contract.
“Indemnity is not necessarily given by repayment after payment. Indemnity requires that the party to be
indemnified shall never be called for payment.”
Thus, the liability commences the minute loss in the form of liability becomes absolute.
The liability of indemnifier arises when indemnified suffers a loss,
Rights of Indemnifier

Right to Control and Settle Claims

One of the key rights of an indemnifier is the right to control and settle any claims or lawsuits
arising from the events or actions for which the indemnity is provided. The indemnifier has the
authority to take necessary steps to defend against such claims, including hiring legal counsel,
negotiating settlements, or initiating legal proceedings. The indemnifier also has the right to
decide whether to contest or settle a claim, subject to the terms and conditions of the indemnity
agreement.
Right to Defend Legal Proceedings
The indemnifier has the right to defend any legal proceedings arising from the events or actions
covered by the indemnity. This includes the right to represent themselves or appoint legal counsel
to defend against any claims or lawsuits filed against the indemnified.
The indemnifier has the authority to take necessary legal actions to protect their interests and fulfil
their obligations under the indemnity agreement.
Right to Demand Contribution
In cases where there are multiple indemnifiers, the indemnifier who has compensated the
indemnity holder may have the right to demand a contribution from the other indemnifiers. This
right arises when two or more parties share the responsibility of indemnifying the same loss or
damage. The indemnifier who has paid the indemnity may seek proportionate contribution from
the other co-indemnifiers, based on their respective obligations under the indemnity agreement.
Right to Terminate the Indemnity Agreement
In certain circumstances, the indemnifier may have the right to terminate the indemnity
agreement. This may happen when the events or actions for which the indemnity was provided
cease to exist, or when the indemnifier and indemnity holder mutually agree to terminate the
agreement.
Rights of Indemnity Holder

To establish a valid contract of indemnity, certain conditions must be met:

•The consideration for the contract must be lawful.
•The object of the contract must be lawful.
•The indemnity holder must suffer a loss.
•The contract is dependent on a particular event.
•The indemnity may be expressed or implied depending on the circumstances.
•All other requirements of a valid contract must be fulfilled.
Rights of Indemnity Holder

•Right to recover damages (Section 125(1)): The indemnity holder has the right to claim
reimbursement for the damages suffered.
•Right to recover costs incurred (Section 125(2)): The indemnity holder is entitled to recover
the costs incurred in relation to the legal proceedings associated with the matter.
•Right to recover sums paid during compromise (Section 125(3)): The indemnity holder has
the right to seek reimbursement for any amounts paid as part of a compromise to settle the
dispute.
Indemnity Holder’s Right to Recover
Damages

The primary purpose of a contract of indemnity is to compensate the indemnity holder for losses
resulting from the occurrence of a specified event. The indemnifier or a third party can trigger
this event.
For instance, let’s consider a scenario where two individuals, A and B, enter into a contract of
indemnity. In this agreement, A agrees to indemnify B against potential losses that may arise if a
ship used for transporting goods sinks due to human error. If, in this situation, the ship indeed
sinks due to human error, A becomes liable to compensate B for the damages incurred. B has the
right to recover these damages from A.
Right of Indemnity Holder to Recover Costs Incurred

The indemnity holder possesses the rights to recover all costs associated with a
suit of indemnity from the indemnifier, as it is their entitlement. The fundamental
purpose of a contract of indemnity is to alleviate the losses incurred by the
indemnity holder. If costs arise in relation to a suit concerning the matter covered
by the indemnity, the indemnifier is responsible for bearing those costs.
For example, let’s consider a contract between two individuals, A and B, where A
indemnifies B for losses incurred due to a specific shipment of goods. If a legal
suit arises regarding the event that caused the loss, such as an accident, the
outcome of that case may have significant implications. In this scenario, the
costs incurred in relation to the suit would be recoverable from the indemnifier,
as the right to recover such costs is conferred upon the indemnity holder by
Section 125 of the Indian Contract Act, 1872. However, it is crucial for the
indemnity holder to adhere to the directives of the indemnifier and act as they
would have in the absence of the indemnity when bringing up or defending the
suit.
Right of Indemnity Holder to Recover Sums Paid under
Compromise

The indemnity holder also possesses the right to recover any sums paid as part of a compromise
in a suit, provided that the compromise did not violate specific directions given by the
indemnifier. The indemnity holder needs to act in a manner consistent with how they would have
acted in the absence of the indemnity or in accordance with the authorization given by the
indemnifier to compromise the suit.

For instance, let’s consider a situation where A and B enter into a contract, with A indemnifying
B for the completion of a task assigned to B by a third party. If B fails to fulfil the task and the
third party initiates legal proceedings, but eventually both parties decide to reach a compromise
where B agrees to pay a certain amount, then that sum paid under the compromise is recoverable
from A.
Gajanan Moreshwar Parelkar v. Moreshwar Madan
Mantri (1942)

The plaintiff obtained a long-term lease of a piece of land from the Bombay Municipal
Corporation, which he later transferred to M. Madan for a limited period. M. Madan began
construction on the land and obtained supplies from K.D. Mohan Das.
However, M. Madan was unable to pay for the supplies and requested the plaintiff to create a
mortgage deed in favour of K.D. Mohan Das. The plaintiff agreed and placed a charge on his
possessions, including an agreed-upon interest rate and a specified date for the repayment of the
principal amount and interest by M. Madan.
Despite several requests, M. Madan failed to pay anything to K.D. Mohan Das and did not have
the mortgage deed released as agreed upon. Consequently, the plaintiff, G. Moreshwar, filed a
lawsuit against M. Madan seeking indemnity.
The court in this case determined that if the indemnity holder has incurred a
definite and absolute liability, they have the right to seek indemnification from
the indemnifier. As a result, the defendant was held liable to indemnify the
plaintiff for all the liabilities arising from the mortgage and the deed of further
charges.
The Secretary of State v. the Bank of India Limited
(1938)

In The Secretary of State v. the Bank of India Limited (1938), the case revolved
around a promissory note that had a false endorsement. The broker issued this note,
and the bank, acting in good faith, applied for and obtained a renewal of the note
from the Public Debt Office. However, the real owner of the promissory note sued
the Secretary of State for conversion, and in response, the Secretary of State sued
the Bank of India Limited, claiming implied indemnity.
The judgment, in this case, was based on the precedent set in the case of Dugdale
v. Lovering (1875). In that case, it was established that when a person performs an
act at the request of another. That act is not inherently tortious or known to be so
by the person performing it, if the act subsequently causes harm to a third party, the
person who performed the act is entitled to indemnification from the person who
made the request.
Applying the principle from Dugdale v. Lovering, the court in The Secretary of
State v. the Bank of India Limited held that if an act performed at the request of
another, which is not inherently wrongful, causes harm to a third party, the
person who performed the act is entitled to indemnity from the party who made
the request. Therefore, in this case, the bank was entitled to seek indemnification
from the Secretary of State for any liabilities arising from the false endorsement
on the promissory note.
What is Contract of
Guarantee?

Section 126 of The Indian Contract Act, 1872 defines a guarantee as 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‘.
What this means is that a guarantee is a contract wherein the case that the principal debtor, who
is the first source of liability fails to pay the debt to the creditor, the third person known as the
surety who is the next source of liability will discharge the liability.
This can be better understood through the following illustration:
Assuming party A and party B enter into a contract with Party C as the surety. Now according to
this contract of guarantee Party B has to pay Party A a sum of Rs. 1000, but fails to do so for any
variety of reasons. Now Party C will now be liable to discharge the 1000 Rs. to Party A.
Essentials for Contract of
Guarantee

1. Agreement by all Parties

All three parties who are the creditor, principal debtor and surety must agree to the terms
of the contract.
2.Liability
In all contracts of guarantee, the creditor can only ask the surety to discharge the liability
after the principal debtor has not discharged his promise i.e. the liability.
3. Existence of debt
No contract of guarantee can exist without a debt for consideration which is accepted by
the law. Additionally, if the debt is barred by a time limit or has become void, the surety will
not be liable.
4. Consideration
This means that any benefit received by the principal debtor can be considered as a
suitable consideration.
5. Two forms of a guarantee contract
Contracts of guarantee can be of two forms, either verbal or written
6. Essentials of a Valid Contract
This means that just like any other contract, a contract of guarantees
requires certain common essentials of a contract such as acceptance,
intention to contract, acceptance, ability to contract, the l
egality of the contract, creation of a legal relationship, lawful object if any,
legal consideration, free and fair consent, performance standards, legal
formalities etc.
7. All facts must be brought to light
The creditor must inform the surety of all the facts that affect his liability.
Concealment of any facts will invalidate the contract. This is highlighted in
section 143 of the Indian Contracts Act, 1872
8.No misrepresentation of facts
The guarantee should not be obtained through misrepresenting facts to the
surety. Though not all facts need to be mentioned to him, any facts that
affect the surety’s extent in the liability must be brought to his notice
accurately. This can be seen in Section 142 of The Indian Contracts Act.
Continuing Guarantee

As per the Section 129 of the Indian Contracts Act,1872 a continuing

guarantee can be defined as “A guarantee which extends to a series of
transactions.”
This contract will continue to exist for all transactions until revoked for future
transactions by the surety upon informing the creditor.
This can be better understood using the following illustration:
•Party A agrees to be a surety for a contract between B ’the creditor’ and C
’the principle liability’ for a particular transaction or a particular distinct
series of transactions as per the contract. If C fails to pay B for any one of
those contracts, A is liable to pay for it. Once these transactions are over
then A can either inform B and leave the contract for future transactions or
choose to remain as the surety between transactions for B and C.
•A, in consideration that B will hire C in amassing the rentsof B zamindari,
guarantee B to be accountable, to the quality of Rs. 5,000, for due series and
fee via C of these rents. This is a preserving with assure.
Contracts of indemnity can be further understood by comparing it to the
other types of contracts of guarantee, specific contracts of guarantee.
Unlike specific contracts of guarantee which can only last for one transaction
or event, guarantees of continuity last for the specified amount of
transactions as mentioned in the contract.
Revocation of Continuing
Gurantee

a.By notice (section 130):- a surety may at any time revoke continuing
guarantee as to future transactions by giving notice to the creditor.
b.By death (section 131):_ the death of the surety operates as a revocation
of a continuing guarantee, so far as regards future transactions are
concerned. After death, the estate of the surety is liable for discharge of all
obligations created prior to his death.
c.By charge in variance terms by principal debtor to the surety
(section 133):_ a continuing guarantee may also be revoke by the same
modes by which a surety is discharged. Any variance made without the
surety’s consent, in the terms of the contract between the principal debtor
and the creditor, discharged the surety as to transactions subsequent to the
variances. Any variance made without the surety consent in the terms of the
consent between the principal debtor and the creditor, discharged the surety
as to transactions subsequent to the variance.
Nature of surety’s liability in Guarantee Contract

Along the lines of the definition given in section 128 of The Indian contracts
act the liability of the surety’s is defined as coextensive with that of the
principal debtor unless provided otherwise by the contract.
What this means is that unless the contract specifically mentions that the
surety will have only a certain liability or a defined liability, the surety will
have to pay the same amount that the principal debtor would need to pay to
the creditor.
For example, the contract could mention that the surety needs to pay for any
interest due, or further charges apart from the original amount, then the
surety is liable to pay for that as well.
But, if not mentioned he will only have to pay the corresponding amount the principal debtor would have
had to pay.
This principle can be seen laid down in the case of Maharaja of Benares v. Har Narain Singh[i],1 where the
plaintiffs ‘the creditor in this case’ had asked for interest on the liabilities owed by the principal debtor to
the defendants’ the surety’. In the contract of guarantee, there was no mention of any interest on the rent
for the principle liability nor the surety, thereby the court declared that the liability of the surety is
coextensive to the principal debtor and since there was no specific mention of interest for the surety in the
contract, it was not payable.
Apart from the nature of co extensiveness, we can see as mentioned earlier that the nature of the surety’s
liability is only secondary in nature unlike the primary nature of the principal debtor’s liability.
Rights of Surety, Position of
Surety In The Eye of The Law
a) Rights Against the Principal Debtor
i) The right of subrogation:
Once the surety has discharged the liability of the principal debtor to the creditor on non-
payment by the principal debtor, the surety can now be treated as the new creditor. What this
means is in a similar fashion to the original creditor the surety can claim the amount he paid
to the creditor along with the corresponding interests, costs, etc, if any.
ii) The right of Indemnity:
Along with the duty of the surety to discharge the liabilities of the principal debtor incase of
non-payment, he in turn receives the right to be indemnified by that amount from the principal
debtor. Therefore he is entitled to receive the sum he paid to the creditor back from the
principal debtor.
iii) The right to security:
This right enables the surety to avail every remedy the creditor has against the principal
debtor, including enforcing security.
b) Rights against the creditor
i) Right to securities given by the principal debtor
As per Section 41 of the Indian Contracts Act, A surety is entitled to the
benefit of every security which the creditor has against the principal debtor
at the time when the contract of suretyship is entered into, whether the
surety knows of the existence of such security or not; and 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.
This means that if the creditor loses whatever security the principal debtor
may have given him, whether or not the surety knew of its existence, his
liability is discharged to the value of the security lost.
ii) Right to set off:
This means that the surety has the right to set off, or in other terms, any
amount which the principal debtor had previously paid to the creditor, will be
subtracted to get the new liability of the surety.
The rights of the creditor in respect to co sureties will be shortly explained in
the paragraph of co surety and manner of sharing liabilities and rights. It too
is one of the rights given to the surety.