Understanding the Contract of Guarantee: Rights of Surety and Discharge Mechanisms, Assignments of Contract Law

Download Understanding the Contract of Guarantee: Rights of Surety and Discharge Mechanisms and more Assignments Contract Law in PDF only on Docsity! Page 1 of 11 Unit-1B: Contract of Guarantee Y# Q# Quest 2019/J 2 Explain the rights of the surety 2019/J 3 ‘A’ advances to ‘B’, a minor Rs.1000 on the guarantee of ‘C’ .On demand for repayment ‘B’ refuses to repay on ground of his minority. Can ‘A’ recover the amount from ‘C’? 2019/J 4 Write a short note on: Continuing contract of guarantee 2019/D 2 What is contract of Guarantee? Explain various mode of discharge of surety from his liability. 2019/D 3 Write short notes on “Rights of the surety” 2019/D 4 “A” guarantees payment to “B” of the price of five sacks of flour to be delivered by “B” to “C” and to be paid for in a month. “B” delivers five sacks to “C”. “C” pays for them. Afterwards “B” delivers four sacks to “C”, which “C” does not pay for. Is “A” liable for the same? Decide Topic covered for the above questions 1).Contract of Guarantee-Definition  General 2).Parties of Contract of Guarantee  General 2.1).Surety 2.2).Principal debtor 2.3).Creditor 3).A Surety and his liability  General 4).Rights of Surety  2019J2, 2019/D3 4.1).Rights against the Creditor 4.1.1). Right to Claim Securities (Sec-141) 4.1.2). Right to Request/Before the Payment of the Debt Guaranteed 4.1.3). Rights in Case of Fidelity Guarantee (Sec-129) 4.1.4). Right of Equities 4.1.5). Right of Set-off (or) Doctrine of Equitable Set-Off 4.2).Rights against the Principal Debtor 4.2.1). Right of subrogation/Rights on payment or performance (Sec-140) 4.2.2). Rights to indemnity (Sec-145) 4.2.3). Right to be Relieved Earlier 4.3).Rights against the co-sureties 4.3.1). Effect of releasing a surety (Sec-138) 4.3.2). Right to contribution (Sec-146) 4.3.3). Right to recover (Sec-147) 5).Mode of discharge of surety from his liability  2019D2 5.1).By Revocation 5.2).By Death 5.3).By Variance in the terms of the contract 5.4).By Release/discharge of principal debtor (Sec-134 of I.C.A) 5.5).By Creditor not to sue principal debtor (Sec-135 I.C.A) 5.6).By Creditor's act/omission impairing surety's eventual remedy 5.7).By Loss of Security by the Creditor (Sec-141) 5.8).By Invalidation of Contract 5.9).By Novation 6).Continuing guarantee (Surety)  2019J4 6.1). Continuing guarantee-Meaning 6.2). Features of continuing guarantee 6.3). Revocation of continuing guarantee 6.4). Modes of Revocation of Continuing Guarantee 6.5).Case laws Page 2 of 11 1).Contract of Guarantee-Definition  General As per section 126 of ICA, 1872, A “contract of guarantee” is a contract to perform the promise, or discharge the liability, of a third person in case of his default. A guarantee may be either oral or written. A contract of guarantee has three parties 2).Parties of Contract of Guarantee  General 2.1).Surety: The person who gives guarantee is called “surety”. Surety is also known as guarantor. As per section 127 of ICA, 1872, A surety in consideration of contract of guarantee Anything done, or any promise made, for the benefit of the principal debtor, may be a sufficient consideration to the surety for giving the guarantee to the creditor. Example: Bharat asks Anil to sell goods to him on credit and deliver them. Anil agrees to it on a condition that Charu will guarantee the payment of the price of the goods. Charu guarantees the payment in consideration of Anil’s promise to deliver the goods. This is sufficient consideration for Charu’s or Surety’s promise. 2.2).Principal debtor: The person for whom guarantee is given called “Principal debtor”. 2.3).Creditor: The person to whom the guarantee is given is called the creditor. 3).A Surety and his liability  General As per section 128 of ICA, 1872, The Liability of the surety is co-extensive with that of the principal debtor, unless it is otherwise provided by the contract. The provision that the surety`s liability is co-extensive with that of the principal means that the principal debtor means that his liability is exactly the same as that of the principal debtor. It means that on default having been made by the principal debtor, the creditor can recover from the surety all what he could have recovered from the principal debtor.If the principal debtor`s liability is reduced, e.g., after the creditor has recovered a part of the sum due from him out of his property, the liability of surety is reduced accordingly. <Narayan Singh vs Chhatarsingh And Anr. on 15 February, 1973> The liability of the principal debtor is held to be enforceable on the ground of the contract being illegal; there is no question of surety being liable. <Harigopal Agrawal v. State Bank Of Inida, A.I.R 1956> If the principal debtor happens to be minor and the agreement made by him is void, the surety too cannot be made liable in respect of the same because the liability of surety is co-extensive with that of the principal debtor. <Kelappan Nambair v.kunhi Raman, A.I.R 1957> A surety in continuing guarantee As per section 129 of ICA, 1872, A guarantee which extends to a series of transactions, is called a "continuing guarantee". Example: Surety guarantees repayment of loan of 5000 which principal debtor may take frm creditor frm creditor, or he may undertake to be answerable for conduct of principal debtor in respect of series of transactions. 4).Rights of Surety 2019J2 4.1). Rights against the Creditor 4.1.1).Right to Claim Securities 4.1.2).Right to Request/Before the Payment of the Debt Guaranteed 4.1.3).Rights in Case of Fidelity Guarantee 4.1.4).Right of Equities 4.1.5).Right of Set-off Page 5 of 11 4.3). Rights against the co-sureties In a contract of guarantee if there are more than one surety, they are called co-sureties. Co-sureties are equally liable Creditor can sue one or all. If only one surety is sued and he has to paid the debt then he may demand co- sureties to contribute. These co-sureties have right against each other also which are as follows: 4.3.1).Effect of releasing a surety 4.3.2).Right to contribution 4.3.3).Right to recover 4.3.1).Effect of releasing a surety: According to section 138 of ICA If there are co-sureties a release by the creditor of one of them does not discharge the others, neither does it free the surety so released from his responsibility to the other. The creditor may at his will releases any of the co-sureties from his liability. But it does not mean that the other co-sureties are his discharge from his duty towards the creditor and the principal debtor. However, the released co-surety will remain liable to the others for contribution in the event of default. <Sri Chand v Jagdish Parshad Kishan Chand, AIR 1966> <Rajamma v C. Puttachari, 2005> 4.3.2).Right to contribution: As per section 146 of ICA 1872, Co-sureties are liable to contribute equally. where two or more persons are co-sureties for the same debt or duty, either jointly or severally, and whether under the same or different contract, and whether with or without the knowledge of each other the co-sureties, in the absence of any contract to the contrary, are liable, as between themselves, to pay each an equal share of the whole debt, or of that part of it which remains unpaid by the principal debtor. Illustrations: (a) A, B and C are sureties to D for the sum of 3,000 rupees lent to E. E makes default in payment. A, B and C are liable, as between themselves, to pay 1,000 rupees each. (b) A, B and C are sureties to D for the sum of 1,000 rupees lent to E, and there is a contract between A, B and C that A is to be responsible to the extent of one-quarter, B to the extent of one-quarter, and C to the extent of one- half. E makes default in payment. As between the sureties, A is liable to pay 250 rupees, B 250 rupees, and C 500 rupees. 4.3.3).Right to recover As per section 147 of ICA 1872, Co-sureties who are bound in the different sums are liable to pay equally as far as the limits of their respective obligations permit. In this type of contract it does not mean that creditor`s right to recover the money is affected. In this contract also creditor can recover the money from any of the surety in spite of the fact that he knows about this contract between the sureties. But it does not mean that co-sureties right is infringed in this case later on he can recover his money from the other co-sureties. Source-2: If the co-sureties are bound in different sums, they are liable to pay equally but not more than the maximum amount guaranteed by each one of them. Example: A, B and C are sureties for D, enter into three several bonds, each in a different penalty, such as A in the penalty of Rs.5,000, B in that of Rs.10,000, C in that of Rs.20,000, conditioned for D’s duly accounting to E. D failed to the extent of Rs.15,000, A, B and C are each liable to pay Rs.5,000 each. Page 6 of 11 5).Mode of discharge of surety from his liability  2019D2 https://www.toppr.com/guides/business-laws-cs/indian-contract-act-1872/rights-and-discharge-of-surety/ Surety is said to be discharged when his liability comes to end. Section 130 to 142 of the Indian Contract Act, 1872 deals with the Provision of "Discharge of Surety" Following are the modes of Discharge of Surety's Liability 5.1).By Revocation (Sec-130 of ICA) 5.2).By Death (Sec-131 of ICA) 5.3).By Variance in the terms of the contract (Sec-133 of ICA) 5.4).By release/discharge of principal debtor (Sec-134 of ICA) 5.5).By Creditor not to sue principal debtor (Sec-135 of ICA) 5.6).By creditor's act/omission impairing surety's eventual remedy (Sec-139 of ICA) 5.7).By loss of Security by the Creditor (Sec-141 of ICA) 5.8).By Invalidation of Contract 5.9).By Novation 5.1).By Revocation (Sec-130 of ICA): As per section 130 of ICA, 1872, A continuing guarantee may at any time be revoked by the surety, as to future transactions, by notice to the creditor. Illustrations: (a) “A”, in consideration of “B”’s discounting, at, “A”’s request, bills of exchange for “C”, guarantees to “B”, for twelve months, the due payment of all such bills to the extent of 5,000 rupees. “B” discounts bills for “C” to the extent of 2,000 rupees. Afterwards, at the end of three months, “A” revokes the guarantee. This revocation discharges “A” from all liability to “B” for any subsequent discount. But “A” is liable to B for the 2,000 rupees, on default of “C”. (b) “A” guarantees to “B”, to the extent of 10,000 rupees, that “C” shall pay all the bills that “B” shall draw upon him. “B” draws upon “C”, “C” accepts the bill. “A” gives notice of revocation. “C” dishonors the bill at maturity. “A” is liable upon his guarantee. 5.2).By Death (Sec-131 of ICA): As per section 131 of ICA, 1872, The death of the surety operates, in the absence of any contract to the contrary, as a revocation of a continuing guarantee, so far as regards future transactions 5.3).By Variance in the terms of the contract (Sec-133 of ICA): As per section 133 of ICA, 1872, Any variance made without the surety’s consent, in the terms of the contract between the principal debtor and the creditor, discharges the surety as to transactions subsequent to the variance. It means Surety is not liable for the altered contract. Illustrations: (a).A becomes surety to C for B’s conduct as 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 over-draw, 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. (b).A guarantees C against the misconduct of B in an office to which B is appointed by C, and of which the duties are defined by an Act of the Legislature. By a subsequent Act, the nature of the office is materially altered. Afterwards, B misconducts himself. A is discharged by the change from future liability under his guarantee, though the misconduct of B is in respect of a duty not affected by the later Act. (c).C agrees to appoint B as his clerk to sell goods at a yearly salary, upon A’s becoming surety to C for B’s duly accounting for money received by him as such clerk. Afterwards, without A’s knowledge or consent, C and B agree that B should be paid by a commission on the goods sold by him and not by a fixed salary. A is not liable for the subsequent misconduct of B. Page 7 of 11 (d).A gives to C a continuing guarantee to the extent of 3,000 rupees for any oil supplied by C to B on credit. Afterwards B becomes embarrassed, and, without the knowledge of A, B and C contract that C shall continue to supply B with oil for ready money, and that the payments shall be applied to the then, existing debts between B and C. A is not liable on his guarantee for any goods supplied after this new arrangement. (e).C contracts to lend B 5,000 rupees on the 1st March. ‘A’ guarantees repayment. C pays the 5,000 rupees to B on the 1st January; A is discharged from his liability, as the contract has been varied, inasmuch as C might sue B for the money before the first of March. 5.4).By release/discharge of principal debtor (Sec-134 of ICA): As per section 134 of ICA, 1872, The surety is discharged by any contract between the creditor and the principal debtor, by which the principal debtor is released, or by any act or omission of the creditor, the legal consequence of which is the discharge of the principal debtor. Illustrations: (a).A gives a guarantee to C for goods to be supplied by C to B. C supplies goods to B, and afterwards, B becomes embarrassed and contracts with his creditors (including C) to assign to them his property in consideration of their releasing him from their demands. Here B is released from his debt by the contract with C, and A is discharged from his Suretyship. (b).A contracts with B to grow a crop of indigo on A’s land and to deliver it to B at a fixed rate, and C guarantees A’s performance of this contract. B diverts a stream of water which is necessary for irrigation of A’s land, and thereby prevents him from raising the indigo. C is no longer liable on his guarantee. (c).A contracts with B for a fixed price to build a house for B within a stipulated time. B supplying the necessary timber. C guarantees A’s performance of the contract. B omits to supply the timber. C is discharged from his Suretyship. 5.5).By Creditor not to sue principal debtor (Sec-135 of ICA): As per section 135 of ICA, 1872, A contract between the creditor and the principal debtor, by which the creditor make a composition with, or promises to give time, or not to sue, the principal debtor, discharges the surety, unless the surety assents to such contract. 5.6).By creditor's act/omission impairing surety's eventual remedy (Sec-139 of ICA): As per section 139 of ICA, 1872, If the creditor does any act which is inconsistent with the right of the surety, or omits to do any 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. Illustrations: (a).B contracts to build a ship for C for a given sum, to be paid by instalments as the work reaches certain stages. A becomes surety to C for B’s due performance of the contract. C, without the knowledge of A, prepays to B the last two instalments. A is discharged by this prepayment. (b).C lends money to B on the security of a joint and several promissory note made in C’s favour by B, and by A as surety for B, together with a bill of sale of B’s furniture, which gives power to C to sell the furniture, and apply the proceeds in discharge of the note. Subsequently, C sells the furniture, but, owing to his misconduct and wilful negligence, only a small price is realised. A is discharged from liability on the note. (c).A puts M as apprentice to B, and gives a guarantee to B for M’s fidelity. B promises on his part that he will at least once a month, see M make up the cash. B omits to see this done as promised, and M embezzles. A is not liable to B on his guarantee. 5.7).By loss of Security by the Creditor (Sec-141 of ICA): As per section 141 of ICA, 1872, 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 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 existence of such security or not; and if the creditor loses, or Page 10 of 11 ‘A’ advances to ‘B’, a minor Rs.1000 on the guarantee of ‘C’ .On demand for repayment ‘B’ refuses to repay on the ground of his minority. Can ‘A’ recover the amount from ‘C’? 1).Answer: No. ‘A’ cannot recover the amount from ‘C’ 2).Explanation: 1).As per section 128 along with section 11 of ICA 1872, The minor’s obligation under the contract is void and hence the surety for the minor’s obligation is not liable. The principle of co - extensiveness does not make the surety for a minor liable due to the principal obligation of the minor being void. The dictum is that guarantee being a collateral or secondary obligation cannot be enforced when the principal obligation is void 2).Rules relating to agreement with minor parties are explained in below Indian Acts, The Indian Contract Act, 1872 The Indian Evidence Act, 1872 The Indian Majority Act, 1875 The Indian Partnership Act, 1932 Based on above acts, we must keep in mind the following rules, A). A contract with a minor is void and, hence, no obligations can ever arise on him there under. B).The minor party cannot ratify contract upon attaining majority unless a law specifically allows this. C).No court can allow specific performance of a contract with minors because it is void altogether. D).The Partnership Act also prohibits minors from becoming partners in a firm. They can, however, receive the benefits of partnership and ratify the same upon attaining majority. E).The rule of estoppels under evidence law does not apply to minors under contractual obligations. In other words, even if a minor forms a contract claiming majority age, legal obligations cannot arise against him. F).Parents or guardians of minors can name them in contracts only if it benefits them. But even in this case, the minor cannot be personally liable. 3).Case laws: a).<Mohiribibi v Dharmodas> Section 11 of the ICA,1872 provides that a minor is not competent to contract. b).<Kashiba v Shripat,1895>:Bombay High Court It was held that the surety to a bond passed (executed) by a minor was liable. When the original agreement is void e.g. a contract by minor, the surety is liable as a principal debtor. This case laid down the principle that the surety for a minor’s contract is liable while the minor being principal debtor is not liable. c).<Kelappan Nambiar v Kunhiraman,1956>:d Madras High Court The Bench held that in the absence of special circumstances like fraudulent representation, or in the absence of other features from which a court can infer a contract to be one of indemnity the liability of the surety is only ancillary and rests only on a valid obligation on the part of the party whose debt or obligation is guaranteed. Where the liability of the principal is held unenforceable, there is no question of the surety being made liable. This case establishes that a surety for a minor’s contract is not liable since the principal obligation of the minor is void. Minor’s contract is the foundation for the surety to guarantee the obligation. When the foundation is itself a nullity the surety’s ancillary contract of guarantee is also a nullity. The case also laid down that the contract of guarantee is collateral to the main contract of the principal debtor with the creditor. When the main contract is void the collateral contract is also void. Since the liability of the surety is secondary, not primary, it does not arise at all when no liability can ever be fastened on the principal debtor because ofhis minority at the time of entering into the contract d).<Kashiba v Shripat,1895> v/s. <Kelappan Nambiar v Kunhiraman,1956> It is apparent that the decisions of Bombay High Court and Madras High Court are in conflict with each other. Bombay High Court decision is more relevant to Indian commercial law. The legal provisions relating to personal disabilities are intended for the protection of the person affected by that disability. It follows that others cannot share in this protection. To this extent the rule that the contract of guarantee is accessory to the main contract is inoperative. The guarantee is given for the purpose of protecting the creditor just against the possibility of the debtor pleading his incapacity, like minority. Page 11 of 11 “A” guarantees payment to “B” of the price of five sacks of flour to be delivered by “B” to “C” and to be paid for in a month. “B” delivers five sacks to “C”. “C” pays for them. Afterwards “B” delivers four sacks to “C”, which “C” does not pay for. Is “A” liable for the same? Decide 1).Answer: No. ‘A’ is not liable for ‘B’. The guarantee given by “A” was not a continuing guarantee, and accordingly, he is not liable for the price of the four sacks 2).Explanation: As per section 129 of ICA, 1872, A guarantee which extends to a series of transactions is called a "continuing guarantee". Illustrations: (a) A, in consideration that B will employ C in collecting the rents of B’s zamindari, promises B to be responsible, to the amount of 5,000 rupees, for the due collection and payment by C of those rents. This is a continuing guarantee. (b) A guarantees payment to B, a tea-dealer, to the amount of £ 100, for any tea he may from time to time supply to C. B supplies C with tea of above the value of £ 100, and C pays B for it. Afterwards, B supplies C with tea of the value of £ 200. C fails to pay. The guarantee given by A was a continuing guarantee, and he is accordingly liable to B to the extent of £ 100. (c) A guarantees payment to B of the price of five sacks of flour to be delivered by B to C and to be paid for in a month. B delivers five sacks to C. C pays for them. Afterwards B delivers four sacks to C, which C does not pay for. The guarantee given by A was not a continuing guarantee, and accordingly, he is not liable for the price of the four sacks