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RIGHTS OF SURETY

RAM MANOHAR LOHIA NATIONAL LAW UNIVERSITY

LAW OF CONTRACTS PROJECT

ON

RIGHTS OF SURETY

SUBMITTED TO

DR. VISALAKSHI VEGESNA

BY

SHIVANSHU SINGH

SEMESTER III

ENROLMENT NO. 160101140


RIGHTS OF SURETY

Acknowledgement
I take this opportunity to express my profound gratitude and deep regards to my guide Dr.
Visalakshi vegesna for her exemplary guidance, monitoring and constant encouragement
throughout the course of this project. The blessing, help and guidance given by her from time to
time shall carry me a long way in the journey of knowledge on which I am about to embark.

I also take this opportunity to express a deep sense of gratitude to the staff of the library for their
cordial support, valuable information and guidance, which helped me in completing this task
through various stages.

I am obliged to staff members of NLU, Lucknow for the valuable information provided by them
in their respective fields. I am grateful for their cooperation during my venture.

Through the medium of this project in the subject of Specific Contracts, I have tried my best in
giving the reader a full analysis of a Rights of surety, their various aspects & relevant cases. I
sincerely hope that after going through my work on this topic, one will be enlightened on the
subject.

Lastly, I thank my friends for their constant encouragement without which this Herculean task
would not be possible.

SHIVANSHU SINGH
RIGHTS OF SURETY

CONTENTS

INTRODUCTION

DEFINATION OF GUARNTEE

RIGHTS OF SURETY

WHEN SURETY IS DISCHRGED FROM

LIABILITY

CASE LAWS

BIBLIOGRAPHY
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INTRODUCTION
I. CONTRACT OF GUARANTEE:

A Contract to perform the promise, or discharge the liability, of a third person in case of his
default is called Contract of Guarantee. A guarantee may be either oral or written.

The person who gives the guarantee is called the Surety


The person on whose default the guarantee is given is called the Principal Debtor
The person to whom the guarantee is given is called the Creditor

Section 126 in the Indian Contract Act, 1872 encapsulates the concepts of guarantee, surety,
Principal-debtor, and creditor as follows:

A contract of guarantee is a contract to perform the promise or to 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 called the principle-debtor, and the person
to whom the guarantee is given is called the creditor. A guarantee may be oral or written.

The guarantee is a promise to answer for the payment of some debt, or the performance of some
duty, in case of the failure of another party, who is in the first instance, liable to such payment or
performance.1 Important concepts to be highlighted while studying guarantee are as follows:

A. CONCEPT OF CONTINUING GUARANTEE:

A Guarantee which extends to a series of transactions is called a continuing guarantee.

1
Re Conley Trustee v. Barclays Bank Limited, (1939) 2 All ER 127.
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A continuing guarantee may at any time be revoked by the surety, as to future transactions,
by notice to the creditor.
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.
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Definition of Guarantee

Contract of guarantee is defined in section 126 of Indian contract act.

Contract of guarantee , surety, principal debtor and creditor a contract of guarantee is


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 guarantee
is given is called creditor a guarantee may be either oral or written.2

For example: A takes a loan from a bank A promises to the bank to repay the loan B also makes
the promise to the bank saying that if A does not repay the loan then I will pay .in this case A is a
principal debtor who undertakes to repay the loan B Is the surety, whos liability is secondary
because he promises to perform the same duty in case there is default on the on part of A. the
bank in whos favors the promise has been made is the creditor.

The object of a contract of guarantee is to provide additional security to the creditor in the form
of the promise by the surety to fulfill a certain obligation in case the principal debtor fail to do
that in every contract of guarantee there are three parties the creditor the principal debtor and the
surety there are three contracts in contract of guarantee .firstly the principal debtor himself
makes a promise in favors of creditor to perform a promise, secondly the surety undertakes to be
liable towards to the creditor if the principal debtor makes a default.3 Thirdly an implied promise
by the principal debtor in favor of the surety that in case the surety has to discharge the liability
of the default of the principal debtor, the principal debtor shall indemnify the surety 4 . The
contract of guarantee is no doubt tripartite in nature5 but it is not necessary or essential that the
principal debtor must expressly be a party to that document. In a contract of guarantee, the
principal debtor may be a party to the contract by implication. Thus, there is a possibility that a
person may become a surety without the knowledge and consent of the principal debtor. The

2
Contract act section 126
3
Ibid1
4
Section 145also see NS bank Vs Union of India, AIR 1991 AP 153,at 158
5
Mahabir shum sher vs Lloyds bank, air 1969 cal 371
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function of contract of guarantee is to enable a person to get a loan, or goods on credit, on an
employment. Some person comes forward and tells the lender, or the supplier or the employer
that he (the person in need) may be trusted and in case of any default .for e.g. in old case of
Birkmy vs Darnell6 the court said

if two comes to a shop and one buys, and other to give him credit, promises the seller, if he
does not pay you, I will pay.

This type of collateral undertaking to be liable for the default of another is called a contract of
guarantee. In English law a guarantee is defined as a promise to answer for the debt, default or
miscarriage of another7

Essentials of Guarantee

1. The contract may be either oral or in writing

According to sec 126, a guarantee may be either oral or written. On this point, the position in
India is different from that in England. According to English law, for a valid contract of
guarantee, it is necessary that it should be in writing and signed by party to be charged therewith.
In English law under the provisions of statutes of fraud a guarantee is not enforceable unless it is
in writing and signed by the party to be charged 8

2. There should be a principal debt

A contract of guarantee pre supposes a principal debt or an obligation to be discharged by the


principal debtor. The surety undertakes to be liable only if the principal debtor fails to discharge
his obligation. If there is no such principal debt, but there is a promise by one party in favor of
another for compensating in a certain situation, and the performance of this promise is not

6
(1709) 91 ER 27:1 Salk 27.
7
S.4, statute of frauds 1677, 29 II. C 3
8
S.chattantha karayalar vs central bank.
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dependent upon the default of somebody else, it is a contract of indemnity. The purpose of a
guarantee being to secure a payment of debt, the existence of a recoverable debt is necessary. 9

3. Consideration

Like every other contract, a contract of guarantee should also be supported by some
consideration. A guarantee without consideration is void 10 . For suretys promise, it is not
necessary that there should be a direct consideration between the creditor and surety; it is enough
that the creditor had done something for the benefit of the principal debtor. Benefit to the
principal debtor constitutes a sufficient consideration to the surety for giving the guarantee. This
is clear from sec 127 which read as under
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.
Illustrations

(a) B requests A to sell and deliver to him goods on credit. A agrees to do so , provided C promises
will guarantee the payment of the prices of the goods .C promises to guarrntee the payment in
consideration of As promise to deliver the goods . this is a sufficient consideration for Cs
promise

4. Consent of the surety should not have been obtained by misrepresentation or concealment
The creditor should not obtain guarantee either by any misrepresentation or concealment of any
material facts concerning the transaction. If the guarantee has been obtained that way, the
guarantee is invalid. The position is explained by section 142 and 143 which are as under

142. Guarantee obtained by misrepresentation invalid.-Any guarantee which has been


obtained by means of misrepresentation made by the creditor , or with his knowledge ans
assent, concerning a material part of the transaction, is invalid.

9
Mountstephens vs lakeman, 1871 lr 7 QB 196, 2012 Ex, affirmed ,LR 7 HL 17.
10
Janak paul vs dhokal mall kidarbux ,(1935) 156 IC 200,
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143. Guarantee obtained by concealment invalid.- Any guarantee which the creditor has
obtained by means by means of keeping silence as to material circumstances is invalid

Illustrations

(a) A engages B as a clerk to collect money. B fails to account for some of his receipts and A in
consequence calls upon him to furnish security for his duly accounting gives his guarantee for
Bs duly accounting . A does not acquaint C with Bs previous conduct. B afterwards makes
default.

(b) The guarantee is invalid , A guarantee to C payment for iron to be supplied by him to B to the
amount of 2000 tons. B and C have privately agreed that B should pay five rs erton beyond the
market price, such excess to be applied in liquidation of an old debt. This agreement is concealed
from A is not liable as a surety.

(c) According to the above stated provision, obtaining a persons consent to act a surety either by
misrepresentation, or by keeping silence as regards material circumstances, renders such a
contract invalid. Keeping silence as regards material circumstances, which could affect the
suretys mind to stand as surety or not, would render the guarantee void. Thus if a cashier has
been found guilty of embezzlement, but this fact is not disclosed when a surety has been made to
guarantee the future conduct of the cashier, the surety will not be liable as such, under these
circumstances. Similarly, if a surety is made to guarantee an employees existing and future
liabilities, without being informed that the said employee is already indebted to an extent more
that of the guarantee, the guarantee is invalid.11

Liability of surety: its nature and extent

According to section 128 , the liability of the surety is coextensive with that of that of the
principal debtor, unless it is otherwise providedby the contract

11
Lee vs jones, (1863) 17 CBNS 482 (Ex Ch)
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The provisions that the suretys liability is coextensive with that of the principal debtor mean that
his liability is exactly the same as that of the principal debtor. For instance, the principal debtor
makes a default in the payment of the debt Rs 10000. The creditor may recover from the surety
the sum of 10000 plus the interest becoming due thereon as well as the amount spent by him in
recovering that amount. This may be further explained by the e.g. A guaranteed to B the payment
of bill of exchange by C, the acceptor. A is liable not only for the amount of the bill but also for
any interest and charges which may have become due on it. If the principal debtors liability is
reduced, e.g. after the creditor has recovered the part of the sum due from him out of his
property, the liability of the surety is also reduced accordingly. 12 In Narayan singh vs
chattarsingh 13 it has been held that if the principal debtors liability is scaled down in an
amendment decree or otherwise extinguished in whole or in part by a statute, the liability of the
surety pro tanto bereduced or extinguished. If the principal debtor happens to be a minor and the
agreement is made by him is void, the surety too cannot be made liable in respect of the same
because the liability of the surety is coextensive with that of principal debtor. It has been held in
an English case14 , that the guarantee of the loan or an overdraft to an infant is void, because the
loan to infant is itself is void ab initio.

12
Harigopal aggarwal vs state bank of india a.i.r. 1956mad 211
13
A.I.R. 1973 raj 347
14
Coutts & co vs browne lecky ,(1947) k.b. 104
RIGHTS OF SURETY

RIGHTS OF THE SURETY


Now we move on to discuss the rights of the surety. As you know when we have explained that
there are three parties in a contract and there are three contracts. So the parties are the debtor,
creditor and the surety. So the surety has got some right against creditor. Surety has got rights
against debtor. But sometime in a contract of guarantee, the surety is not all alone. There are
more than one surety or there are more than two sureties. Then sometime one surety can exercise
his rights against the other co sureties. So the point of the co sureties will also be touched. So the
suretys rights against the creditor, rights against debtor and rights against co sureties will be
discussed now.

Suretys Rights Against Debtor

First of all we discuss the right of the surety against debtor. The rights of the surety against
debtor are and that first right is the right of subrogation. Now what is the meaning of the
right of subrogation? Right of subrogation says that when a surety makes the payment to the
creditor and creditor is out of the scene now, therefore now surety will deal with the debtor in a
manner as if he is a creditor. The surety after making the payment to the creditor will step into
the shoes of the creditor. Because after making the payment to the creditor, the creditor is out of
the scene now. Surety have given the guarantee to the creditor and creditor after getting the
payment is out of scene and now the surety will step into the shoes. He will occupy the same
position which was available with the creditor. He will step into the shoes of the creditor and will
deal with the debtor as if he is a creditor. So his role will change he will not remain simply as a
surety. He will become now creditor for the debtor. So stepping into the shoes of somebody is a
right of the subrogation. So now surety has got a right to recover the amount which he has paid
to the creditor. It may include the principal amount, it may include the interest and it may include
the cost also.

After discussing the right of subrogation we move on to discuss another right of the surety and
that is right to indemnifier. As you know when we have discussed the contract of indemnity,
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the contract of indemnity stands for, to make good the loss. In the contract of indemnity we have
studied that indemnifier will compensate the indemnity holder in case the indemnity holder
suffers from some loss. So, indemnity stands for compensating the loss, making good to the loss.
If we apply the same concept which we have studied in the contract of indemnity, in the contract
of guarantee then we find that the surety has got a right to indemnify himself if, because of the
fault of the debtor, if the surety has suffered from some loss or if he has been damaged because
of the non fulfilment of the words or non fulfilment of his promise and the surety has received
some dent or he has suffered from some loss so making good to the loss, the contract of
indemnity will be applying here will apply here and surety has got a right to get indemnity
against the debtor. He will be compensated by the debtor. Right to be relief from the liability, is
another right available to the surety. Surety can go to the debtor and can say to him that he
should fulfil or he should perform the contract and that is on the due date he should make the
payment to the creditor. These are the rights of surety against debtor.

Rights of a Surety Against Creditor

Now we move on to discuss the rights of the surety against creditor, because there is a
contract between the creditor and the surety also. So when surety has got a right against the
debtor he has got certain rights against the creditor also. The first and the foremost right is that
he can claim certain securities from the creditor. At the time of entering into the contract of
guarantee, if debtor has given certain securities to the creditor to get the loan he has pledge
certain things with the creditor. Though pledge words which I am using I will explain it,
elaborate it when we will talk about the contract of bailment and the pledge. But here the pledge
means for the security of the loan if the debtor has kept certain securities with the creditor and
when surety is making a payment to the creditor, creditor at the time of getting the payment
when he is getting the payment the automatically, it gives a rise to the sureties right and that is
surety can say to the creditor that those securities which were kept with him is to be released now
because he is getting the complete loan so his right is to claim those securities which were kept
by the debtor with the creditor at the time of getting the loan. Because creditor is being
compensated or creditor is being given the full payment by the surety and surety have got a right
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to get back those securities. Right to set off, right to set off is another right available with the
surety against creditor, set off says the counter claim. In the contract of guarantee if the debtor
has or debtor owes some money to the creditor also. Though creditors have give money to the
debtor but debtor also owes some money to the creditor. In that case at the time of making the
payment the surety has got a right to claim the set off. Let us take an example, A is a person he
has borrowed rupees 5,000/- from the B and C has given the surety in this contract. But A is also
in demand or A also owes some money of rupees one thousand from the B, meaning thereby
when the loan was granted by the B to the A rupees 5,000/- were given to him. But A also owes
some money to the B that is A also wants some money or A has given the loan to the B of rupees
1,000/- and suppose on the due date A becomes a defaulter. Now surety has to make the payment
now in this case the surety has got a right to set off that is the surety at the time of making the
payment of 1,000/- rupees will ask the creditor that he should deduct the rupees 1,000/- out of
that payment. This is known as the right to set off.

Another right available with the surety against creditor is that he can share the reduction. Here
the meaning of share of reduction is that after getting the loan if the debtor becomes insolvent.
We presume it that again and again I would not like to explain that contract, that how contract
took place and how the contract was entered into, we presume that all the essentials were present
in the contract and loan was sanctioned. Now directly I am coming to the point that guarantee
was given in a contract by the C, A has got the loan B has sanctioned the loan, C has given the
guarantee. And in this case, suppose A becomes an insolvent and as you know when a person
become insolvent his property goes in the hands of official receiver and assigner. When the
property of the A went into the hands or goes in the hands of the official receiver assignee and
list of the creditor is prepared. In the list of the creditor the name of the B will stand and B will
receive something in proportion from the assets of the A. Now surety at the time of making the
payment to the creditor will ask to the creditor that whatever the amount he has received
according to the proportion of the distribution of the assets of the A, that amount should also be
deducted. So this is known as right to share reduction.
For example, A was given the loan by the B of rupees 10,000/-, C who is a surety in a contract
gave a guarantee. A became insolvent and when his property and assets was realised, when it
was distributed by the official receiver and assignee, B got 1,000/- rupees. Now surety who is C
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in this case when he will make a payment to the B of rupees 10,000/-will ask the B to deduct the
rupees 1,000/- which he have received from the official receiver and assignee. This right is the
right available with the surety and it is known as a right to share reduction.

Rights of a Surety Against Co-Sureties

Now we move on to discuss the right of the surety against co sureties. When we say co sureties it
means in a contract of guarantee there are more than one surety. Sometime in the contract, it
happens that one person does not want to take the complete liability in terms of the surety in a
contract. There has to be a more than or sometime there are more than one surety in that case
what are rights available with the surety. Right of the surety in this case will be that he has got a
right to contribute. Rights of contribution stands for that suppose on the due date or in a contract
of guarantee one surety is making the complete payment on behalf of the other co sureties. Then,
he has got a right to claim the contribution from the other co sureties.

Let us take an example. A is a person and he has been sanction the loan by the B of rupees
10,000/- the guarantee was given by the C and D. They have decided to share the equal amount
of rupees 5,000/- each. If the A become a defaulter on a due date, let us extend this example and
presume that A on a due date becomes a defaulter and he doesnt make the payment to the B of
rupees 10,000/- and suppose in this case C makes the full payment to the B and that is of rupees
10,000/- than C has got a right against the D to recover the 5,000/- rupees. Here the D has to give
the contribution which he agreed to give in the contract of guarantee and that is rupees 5,000/-
will be given by the D to the C because C has made the full payment so C has got a right against
another co surety that is D.

Another right of surety is right to share the benefit of securities as we mention when we were
having, we were discussing the rights of the surety against creditor, we mention that sometime
the securities were kept by the debtor with creditor and the creditor is bound to return those
securities to the surety when he is being compensated by the surety. Suppose there are more than
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one surety in the case, Than whatever the securities the sureties are getting they have got a right
to share those securities in an equal amount or in equal ratio or in the agreed ratio. For example,
A at the time of getting the loan of rupees 10,000/-, kept the securities of rupees 2,000/- with B.
And C and D have given the guarantee. Now on the due date A becomes a defaulter and C and D
has made the payment of rupees 10,000/- to the B and has got the securities of 2,000/- rupees.
Now in this case the co sureties will distribute those securities of 2,000/- amount themselves in
either in equal ratio or whatever the ratio they had decided. So with this, we end our discussion
on the rights of securities and I sum up by saying the surety has got a right against debtor, the
surety has got a right against creditor and surety has got a right against the co sureties.

When Surety is Discharged from Liability

Now we move on to discuss a very sensitive point or a very sensitive issue in the contract of
guarantee. And we will take up what are the points or what are the situations when surety is
completely discharged from the liability.

The position of the surety is a very delicate in the contract of guarantee. Therefore, the law says
there are certain circumstances in which the surety will be completely free from his liability and
the first and foremost point is that surety will be free from the responsibility by giving a notice to
the creditor. Now this right is available with the surety only in case of continuing guarantee. And
in my previous discussion, I mention that continuous guarantee is a guarantee which is given for
series of transaction. Now surety can revocate his liability by giving a notice of revocation to the
creditor. Another point when the surety will be free from responsibility is by death of the surety.
As you know death itself is a notice, so surety will be free if he dies, but he will be free from the
transaction or from the liability, which occur after his death, the another point when the surety
will be free from the liability is the variance in terms of contract.

When we say the variance in terms of contract means, if debtor and the creditor after entering
into a contract change the contract without the consent of the surety, I would like to emphasise
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this point by saying again and again that suretys liability is very delicate in the contract of
guarantee. If anything is done by the debtor and the creditor in the contract of guarantee and
without the consent of the surety, please underline this point without the consent of the surety,
surety will be free from responsibility. Now in this contract, when I was mentioning there are
variance in the contract of guarantee, debtor and the creditor enters into the contract and the
surety has given the guarantee and without the knowledge of the surety, without the consent of
the surety if later on they change the terms and condition of the contract, surety will be free from
responsibility.

For example, A and B enter into the contract A is a debtor B is a creditor, enters into a contract
in which the B is giving the loan of rupees 10,000/- to the A and C is a person who is a surety to
the B, for the loan which is sanctioned to the A. Later on A and B convert the rupees 10,000/-
into rupees 1 lakhs or they make an agreement in which without the knowledge of the surety,
they do not inform the surety and enters into a contract and make it one lakh rupees, they add one
more zero in front of the 10,000/- rupees and without the knowledge of the surety, the surety will
be free from responsibility. As I mention without the consent if anything is taking place between
debtor and the creditor, surety will be free from the responsibility. And another point when the
surety will be free from the responsibility is when creditor discharges the debtor from the
liability. If he releases the debtor from the liability, the liability of the surety will arise at the
default of the debtor and if the creditor says to the debtor that he is free from liability, then surety
will be automatically will be free from the liability. Because the creditor has not gone to the
debtor and he has not made a default he has released him, the surety will be automatically free
from the liability. Another point is the point of composition. It says that if the debtor and the
creditor enter into a composition, composition meaning thereby they enter into the contract
change the main contract and make an amicable settlement between the two. And that too
without the consent of the surety, surety will be free from the liability.
Let us take an example, A has been sanction the loan of rupees 10,000/- by the B and C is a
person who has given the surety. Later on B says to the A, that you dont pay me the 10,000/-
rupees, pay me only 2,000/- rupees and here the surety has not given the consent or his consent
was not sort, surety will be free from the liability. Another point which is related is that by
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impairing suretys remedy. Impairing suretys remedy means if creditor does something which
diminishes the right of the surety, which reduces right of the surety, in that case surety will also
be free from the liability. Surety is discharged from the liability when creditor looses the
securities kept with him by the debtor. Sometime in the contract of guarantee, it happens that
debtor keeps certain securities with the creditor at the time of getting the loan and surety has got
the knowledge of that, on the due date, if the debtor becomes a defaulter, then surety will be free
from the responsibility, if creditor looses those securities.

Let us take an example, A is debtor and has got the loan from the B of rupees 10,000/- at the
time of getting the loan he has kept the securities of rupees 2000/- with the creditor and on a due
date, if the debtor become a defaulter and C who is a surety in this contract returns the money to
the creditor, in that case he can demand those securities which were kept by the debtor with him.
But if on the due date, at the time of getting payment from the surety, creditor says that he has
lost the securities, say in this case when the loan was given of rupees 10,000/-. A has kept the
securities of rupees 2,000/- now creditor says that he has lost the securities of rupees 2,000/-
without the consent of the surety, if he loses it, then surety will be free from his responsibility.
Another point is when the surety will be free from the responsibility is when creditor gives more
time to the debtor. Now giving a more time is included in the contract in which the debtor and
the creditor has made a variance in terms and condition. And if without the consultant of the
surety, the time was extended, the surety will be free from responsibility. And in the last, the
surety was kept in the dark and he was concealed about certain points, the surety was not aware
about certain facts which were very prominent in the contract of guarantee and the contract was
entered into by the debtor and the creditor. They enter into the contract with the each other by
misrepresenting the fact to the surety, and then surety will also be free. Surety will be free from
responsibility if there is a misrepresentations in the contract of guarantee, surety will be free
from the responsibility if there is concealment of certain facts.
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CASE LAWS

GREEV vs. KETTLE

Key Words: mutual mistake in guarantee, estoppel, rectification

Facts:

Defendant Company (S), in consideration of Plaintiff Companys (C) giving credit to principle
debtor (D), guaranteed the payment of debt, which was stated in deed to be secured by validly
issued shares in Company. Though both S and C believed this fact to be true but later on when
D failed to clear the debt, it was found that the shares were never issued. On suing S by C for
paying off the guaranteed amount, S alleged that he wasnt bound by the contract.

Held:

The Court observed that since S never undertook (or consented to, according to S.13 of ICA) the
liability to guarantee the payment of an unsecured debt, such that both S as well as C were at the
mutual mistake of fact essential to the formation of a contract (that the shares were validly issued
when no such shares were issued) hence the contract of guarantee was void ab intio on account
of S.20 of ICA.

As to the contention of the plaintiff that the defendant was estopped from denying the debt to be
secured, the Court observed when a recital is intended to be a statement which all the parties
to the deed have mutually agreed to admit as true, it is an estoppel upon all. But, when it is
intended to be the statement of one party only, the estoppel is confined to that party, and the
intention is to be gathered from construing the instrument. Holding the recital, in preset case,
to be a statement as to matters which would normally be within the knowledge of plaintiff and
not within the knowledge of defendant, namely, that plaintiff had made a loan to debtor and had
obtained from him the stated security; estoppel didnt bind the defendant.

Furthermore, the Court observed that in Equity, where there are proper grounds for rectifying
a deed, e.g., because it is based upon a common mistake of fact, then to the extent of the
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rectification there can plainly be no estoppel based on the original form of the instrument.
Since in the present case, the deed, having been tainted with mutual mistake as to existence of
the fact essential to the formation of contract, could have been rectified at a later stage by
deletion of section dealing with security, there can simply be no estoppel as to the fact of
existence of security.

Therefore, the defendant was held to be not bound by the guarantee.

Amrit Lal Goverdhan Lalan v. State Bank of Travancore and Ors.

1968 SCR (3) 724

(ss.133, 135, 139 and 141 of Indian Contract Act, Suretyship, Subrogation)

FACTS:

Respondents 3 to 6, as partners of Respondent 2 firm (R2), entered into an agreement with a


Bank (R1) to open a cash credit account to the extent of Rs. 100,000 to be secured by goods to be
pledged with the Bank. The agreement provided that the borrowers shall be responsible for the
quantity and quality of goods pledged. The appellant (A) became surety for the borrowers w.r.t
the account upto Rs.100,000 and allowed the Bank to recover, notwithstanding any other security
the Bank may hold. The stock pledged was initially valued at about Rs. 99,991 but after
verification shortage of goods to the value of Rs. 35,690 was found. It was alleged that R2-R6
must have taken away the goods. They were granted time to make up the deficit but they failed
to do so. After adjusting the money realized on the sale of the goods pledged and other
adjustments, a sum of Rs. 40,933.58 was found due to the Bank from R2-R6. The Bank filed a
suit against them and A.

HELD:

Trial Court: suit decreed.

High Court: decree confirmed


RIGHTS OF SURETY
SUPREME COURT:

Contentions (Appellant, A)

1. Certain entries in the account books of the Bank showed that the maximum limit of credit
was reduced to Rs. 50,000 and again raised to Rs. 100,000 without consulting the
appellant, therefore there was variation in the terms of the contract without the suretys
(appellants) consent and, under s. 133 of the Indian Contract Act the liability of the
appellant was discharged.

2. Under s. 135 of the Act, the conduct of the Bank in giving time to R2-R6 to make up the
deficit in the quantity of goods absolved A of all liability.

3. Under s. 141 of the Act, since a portion of the security was parted with or lost by the
creditor without suretys consent, the liability of A was discharged to the extent of the
value of the security so lost.

RAMASWAMI, J.

1. (w.r.t 1st contention of A) The entries in the books of account were mere internal
instructionsnot legally binding on the respondents, and in view of the formal record in
the original agreement and letter of guarantee, there could not have been a variation in the
terms without a proper written agreement. Therefore, there was no variance in the terms
of the contract and the provisions of s. 133 of the Act were not attracted.

2. (w.r.t 2nd contention of A) The act of the Bank in giving time to the principal debtor to
make up the quantity of goods pledged is not tantamount to giving of time to the principal
debtor for making payment of the money, within the meaning of the section 135 and
hence it is not attracted. What really constitutes a promise to give time within the
meaning of s. 135 of the Act is the extension of the period at which, the principal debtor
was by the original contract obliged to pay the creditor, by substituting a new and valid
contract between them, or, whenever the taking of a new security from the principal
debtor operates as giving time.
RIGHTS OF SURETY
3. (w.r.t 3rd contention of A) Under s. 140 of the Contract Act the surety is, on payment of
the amount due by the principal debtor, entitled to be put in the same position in which
the creditor stood in relation to the principal debtor. Under s. 141 of the Act the surety
has a right to the securities held by the creditor at the date when he became surety. The
shortage was brought about by the negligence of the Bank and to that extent it must be
deemed to be a loss by the Bank of the security. Contention accepted.

State of Madhya Pradesh v. Kaluram

1967 SCR (1) 266

(Suretyship, Section 139 and 141 of Indian Contract Act, Subrogation)

FACTS

At an auction for sale of felled trees, Jagatram (J) was awarded the sale, on payment of a security
and subsequent payment of installments. He executed a contract in favour of the Governor of
M.P. which specified, (among other terms), that the contractor had to furnish a coupe boundary
certificate which concerned the area from which contractor was allowed to take away the trees.
Nathuram and Kaluram (K), the defendants, stood sureties for J. J removed the entire quantity of
the trees, paid the first installment but failed to pay the rest. State of M.P(S) claimed for
recovery. K filed an action against the S claiming that he was not liable to pay the arrears of
forest dues recoverable from J.

CONTENTIONS:

Kaluram

1. The forest authorities gave time to J and didnt take any steps as part of their duty
towards the surety i.e. did not seize and sell the trees of J as soon as the second
installment had fallen due. Because of the inaction on the part of S, his eventual remedy
against J was impaired and therefore he stood discharged as surety.
RIGHTS OF SURETY
2. Since, the creditor S had lost or had parted with the security without the consent of the
surety, the latter is, discharged to the extent of the value of the security lost or parted with
under S.141 of ICA

State

1. The property in the goods had not passed to J till they were removed, and on that account
s. 83 of the Forest Act did not attach to the goods sold, has therefore no force.

2. Mere inaction on the part of the forest authorities does not amount to parting with the
security.

HELD:

Trial Court: Accepted Ks contentions and decreed in his favour.

High Court (MP): Confirmed the decree of the Trial Court

SUPREME COURT (SHAH J.)

1. (w.r.t Ks 2nd contention) S had a charge over the goods sold as well as the right to
remain in possession till full payment of the installments. When the goods were
completely removed by J that security was lost and to the extent of the value of the
security lost the surety stood discharged. Since S parted with the goods before receiving
due payments s.83(2) cant be enforced.

2. (w.r.t 1st contention of K & S) As soon as the contract was entered into and the coupe
boundary certificate was produced, the property in the goods passed to J and s.83 was
attracted. The Divisional Forest Officer had authority to stop removal of those goods until
the amount was paid. They however allowed J to remove the goods sold and thereafter
were paid.

3. (w.r.t 2nd contention of S) The terms of the statute do not apply only to cases in which
by positive action on the part of the creditor the security is parted with. Even if the
security is lost by the creditor, the surety is discharged.

4. Kaluram stood discharged from all liability to pay.


RIGHTS OF SURETY

LAW POINT

Scope of S.141 of Indian Contract Act: The expression security in s. 141is not used in any
technical sense : it includes all rights which the creditor had against the property at the date of
the contract. The surety is entitled on payment of the debt or performance of all that he is liable
for, to the benefit of the rights of the creditor against the principal debtor which arise out of the
transaction which gives rise to the right or liability

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 consent of the surety,
parts with such security, the surety is discharged to the extent of the value of the security.

S.83(1)When any such money is payable for or in respect of any forest-produce, the amount
thereof shall be deemed to be a first charge on such produce, and such produce may be taken
possession of by a Forest-officer until such amount has been paid.

(2) If such amount is not paid when due, the Forest Officer may sell such produce, by public
auction, and the proceeds of the sale shall be applied first in discharging such amount.

State Bank of Saurashtra vs. Chitranjan Rangnath Raja and Anr.

Citation(s): 1980 AIR 1528, 1980 SCR (3) 915

Facts:

The appellant-bank allowed a cash credit facility limited to Rs. 75,000/- to the Principal Debtor
(PD) on his pledging 5,000 tins of groundnut oil under the lock and key of the Bank and on
personal guarantee of the Respondent-Surety. However, afterwards when the Bank lost the
pledged tins and sued the legal representative of PD (after the death of PD) and the Surety to
repay the debt, Surety contested discharge of his liability.
RIGHTS OF SURETY
Contentions:

BANK- By Cl.5 of guarantee, surety could not claim discharge from the guarantee contract even
when the Bank had released any other security; such that in instant case, surety remains liable.
Moreover, under Cl.7, Surety cannot claim discharge even if the creditor Bank has any other
guarantee, security or remedy from the principal debtor.

SURETY- The Bank was negligent in parting away with the security such that the Surety was
discharged to the extent of the value of tins of oil.

Held:

Trial Court- The trial court held that there was negligence on the part of the Bank with regard to
the safe custody of the pledged oil tins but as the contract of guarantee entered into by the surety
with the Bank was independent of the pledge of goods given by the principal debtor, the surety is
not discharged from his liability under the guarantee.

High Court- On account of the conduct of the parties, the pledge of the goods and subsequent
contract of guarantee (entered into within the same time frame) were part of the one composite
transaction and they evidenced that the principal debtor had offered two securities, one the
pledge of oil tins and another personal guarantee of the surety: since the bank was utterly
negligent in dealing with the pledged goods leading to their loss, therefore, surety is discharged
under Section 139 and 141 of the Indian Contract Act.

Issues:

1. Whether the pledge of the goods and the guarantee contract amounted to one single
transaction.

2. Whether S.141 is applicable here. If yes, to what extent is the Surety discharged?

Judgment:

In order to attract section 141 of the Contract Act, it must be shown that the creditor had taken
more than one security from the principal debtor at the time when the contract of guarantee was
entered into and irrespective of the fact whether the surety knew of such other security offered by
RIGHTS OF SURETY
the principal debtor, if the creditor loses or without the consent of the surety parts with the other
security, the surety would be discharged to the extent of the value of the security. The letter of
guarantee executed by the Surety and the pledging of the goods evidenced one composite
transaction; such that, as found by the High Court, the principal debtor had offered two
securities, (i) the pledge of goods, (ii) personal guarantee of the Surety. The Surety himself
agreed to give personal guarantee on the specific understanding and with the full knowledge of
the Bank that the principal debtor was offering another security, namely, pledge of goods. First
security, namely, the pledged goods are lost to the Bank on account of its negligence. As the
current market price of 5000 oil tins would have satisfied the Banks entire claim, the Surety
would be released to the whole extent.

With regard to contention upon Cl.5, release of security implies a volitional act on the part of the
Bank. In the present case, the bank had lost the security on account of negligence which cannot
be equated with release. Further, w.r.t Cl.7, the expression any other guarantee, security or
remedy therein mentioned must be security other than the pledged goods (Amrit Lal
Goverdhan Case)

Charan Singh vs Security Finance (P) Ltd.

Citation(s): AIR 1988 Delhi 130

Facts:

The creditor after obtaining the money decree against the two principal debtors (PDs) and the
Surety, holding them liable severally as well as jointly, decided to pursue his cause of action
against the Surety, after he arrived at an agreement with one of the principal debtors whereby he
agreed to accept lesser amount than the judgment-debt, from him (He did not pursue any cause
of action against the representatives of other PD after latters death). The surety claimed his
discharge from the liability.

Issue:

Whether the fact that after the money decree has been passed against the principal debtor and a
surety, making them jointly and severally liable to the creditor, decree holder (creditor) enters
RIGHTS OF SURETY
into a settlement with the principal debtor and agrees to accept some less amount from him and
decides not to proceed for recovering the remaining amount from him has the effect of
discharging the surety/judgement-debtor or not?

Held:

After a decree has been passed the character of the principal debtor and the character of the
surety change into those of co-judgement debtors. The provisions of S. 133 to 139 of the Contract
Act apply only where no decree has been passed by the courtThe subsequent dealing with the
principal debtor does not operate to discharge the surety from a liability under which he is
[liable], no longer as a surety, but under the decree The above provisions of the Contract Act
which govern the rights and liabilities of the creditor, the principal debtor and surety, cease to
operate after the rights and liabilities are determined and declared by a decree.

Therefore, the Court held that the Surety was not discharged by the very fact that he no longer
remained a surety under the contract rather became judgment debtor under the decree; his rights
and liabilities to be governed no longer by the Indian Contract Act but by the decree provisions.

Aziz Ahmad vs. Sher Ali and Others

Citation: AIR 1956 All 8

Issue: Whether a surety is discharged when the creditor allows the execution of his decree
against the principal debtor to be barred by limitation.

Position in England:

In England, a failure to sue the principal debtor until recovery is barred by the Statute of
Limitation does not operate as a discharge of the surety. Lindlay, L. J. in Carter v. White [(1885)
25 Ch D 666] observed- mere omission to sue does not discharge the surety, because the surety
can himself set the law in operation against the debtor.

Position in India:
RIGHTS OF SURETY
Section 137 of the Indian Contract Act, provides that mere forbearance on the part of the
creditor to sue the principal debtor or to enforce any other remedy against him does not, in the
absence of any provision in the guarantee to the contrary, discharge the surety.

As per Section 134 of the Indian Contract Act, 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.

Contentions:

Respondent: The surety will be prejudiced if he is liable to be sued after the creditors remedy
against the principal debtor has become barred, as he will not then himself have any remedy
against the latter; Ss. 145 and 145 of the Act.

Held:

The effect of the expiry of the period of limitation (except in the case of suits to establish a right
to immovable property) is to bar the remedy without extinguishing the right and the consequence
is that the omission to sue a debtor within the period of limitation will not result in the debtors
discharge.

Section 25(3) of the Act makes it clear that a barred debt is a good foundation for a written
promise to pay signed by the persons to be charged therewith, or by his agent; and S. 60 speaks
of a barred debt as a lawful debt actually due and payable to the creditor.

The Court in this case observed that Section 137 should not be interpreted restrictively and noted
that the phrase mere forbearance in Section 137 does not mean forbearance for a limited time
(namely that within which legal proceedings may be taken), but a forbearance not resting upon or
in consequence of such a promise to give time to, or not to sue the principal debtor, as is the
subject of S. 135.

As regards the Respondents contention, it was admitted that in such event the surety will be
deprived of certain rights, however, the Court pointed out that the surety can guard himself
against such a contingency as Section 140 of the Act provides that as soon as the guaranteed debt
RIGHTS OF SURETY
becomes due the surety will, upon payment or performance of all that he is liable for, be invested
with all the rights which the creditor had against the principal debtor.

The Court further noted that Section 145 of the Act deals with quite a different matter (namely
the implied promise by the principal debtor to indemnify the surety) and provides that the surety
is entitled to recover from the principal debtor whatever sum he has rightfully paid under the
guarantee. As per the Court, here again the surety can undoubtedly exercise his rights against the
principal debtor as soon as the guaranteed debt becomes due by paying the debt himself. The
payment by the surety of a debt which has become barred by time is a sum rightfully paid in this
regard.

A creditor has no duty to the surety (in the absence of an express provision in the guarantee) to
pursue a legal remedy against the principal debtor. Creditors failure to take action will not in
such circumstances discharge the surety.

Hindustan Steel Workers Construction (HS)[1] Ltd. v. G.S. Atwal &


Co. (Engineers) Pvt. Ltd. (GS)

1995 SCC (6) 76

(Unconditional Bank Guarantee, Performance Guarantee)

FACTS

HS and GS entered into contracts whereby GS was to construct 11 schools. The United
Commercial Bank, Calcutta (Bank) gave two Bank Guarantees (BG1 &2) to HS on behalf of GS.
Disputes arose between them regarding the performance, resulting in arbitration. While the
dispute was pending for arbitration, GS claimed injunction to restrain HS from encashing the
Bank Guarantees before the High Court of Calcutta.

ISSUE: Whether HS can invoke the Bank guarantee in the present situation?

HELD:

High Court (Calcutta, single Judge)


RIGHTS OF SURETY
1. The amounts claimed were not or cannot be said to be due and the Bank has violated the
understanding between the respondent (GS) and the Bank in giving unconditional guarantees to
the appellant which is unjustified. This way Bank had issued a Guarantee in a standard form,
covering a wider spectrum than agreed.

2. Before invoking the Performance Guarantee HS should have assessed the quantum of loss and
damages and mentioned the ascertained figure, which he did not. Restrained HS from invoking
the guarantee

SUPREME COURT (Appeal Allowed)

1. Guarantees furnished by the Bank to HS were unconditional and as per the terms of the
agreement, HS was the sole judge regarding the question as to whether any breach of
contract has occurred.

2. (w.r.t 1st observation of HC) It cannot be a reason to hold that HS is in any way fettered
in invoking the unconditional Bank guarantee.

3. (w.r.t 2nd observation of HC) It cannot restrain HS from invoking the unconditional
Guarantee.

4. The principle, in the matter of grant of injunction against enforcement of a Bank


Guarantee/Irrevocable Letter of Credit, is that the Court cannot interfere unless there is
fraud and irretrievable damages are involved.

Radha Kanta Pal v. United Bank of India

AIR 1955 Cal 217

(Section 139 of Indian Contract Act, Discharge, Rights of a surety)

FACTS:

The case concerns a contract in the nature of a fidelity bond or a guarantee. A (deceased)
executed a security bond in favour of a Bank, B, in consideration of the Bank employing N.
RIGHTS OF SURETY
Later N was found to be guilty of mismanaging a certain amount of money. Hence the bank
wanted to enforce the bond and get the money. As heir (R), filed a suit against the bank
claiming the security back as A had been discharged of his liability as the Bank had continued to
employ N even after finding out the mismanagement without notice to him. R also denied any
knowledge of the defalcation or breach of duty committed by N.

(A-Rajanikant Pal; N-Nishikant Pal, 2nd defendant; B-Comilla Banking Corporation &
1st defendant; R-Radhakant Pal, plaintiff & Rajanikants son)

CONTENTIONS:

Plaintiff: Since bank had continued to employ N even after finding out the mismanagement
without notice to him, s.139 of ICA is applicable and they (R&A) are discharged from any
liability.

Defendant (Bank): N is responsible for shortage of the Banks cash and the Bank is therefore
entitled to deduct that money out of the security deposit.

ISSUES:

(1) (Regarding facts)Was N actually responsible for the shortage of the sum as alleged by the
bank? Did R have any knowledge of the aforesaid shortage?

(2) Is the bank entitled to claim that sum from N? If so, is it entitled to adjust the same
from the security deposit and Ns provident fund?

(3) To what reliefs, if any, is R entitled?

HELD (Calcutta High Court, P.B. Mukharji, J.)

1. Answered all the questions raised in the first issue & 1st part of the 2nd issue in
AFFIRMATIVE.

2. (w.r.t. s.139 of ICA) Section 139, cannot be maintained. In order to attract that section
there must not only be either an act inconsistent with the rights of the surety or an
omission to do an act which it is the creditors or employers duty to do but also the
impairment of the eventual remedy of the surety against the principal
RIGHTS OF SURETY
debtors.[2] Nothing in evidence showed that the plaintiffs eventual remedy against the
principal debtor N had in any way been impaired. The plaintiff, in his very action sued
and was suing the defendant N. Therefore the plaintiffs own act of suing the principal
debtor in the suit itself goes against the plaintiffs contention that his eventual remedy
against the principal debtor is impaired.

3. (w.r.t bank continued to employ) Bank cannot dismiss its employee merely on
suspicion or merely because some shortage in the cash of which he was in charge is
reported without investigation. When N was found responsible under the investigation,
the bank duly intimated this to the plaintiff.

4. (w.r.t 3rd issue) R can recover from N but not from the Bank.

LAW POINTS:

1. The suretys liability, for the faithful discharge by another, of his duties depends on the
exact terms of that guarantee. The surety is not discharged from liability for the default of
the person whose fidelity has been guaranteed, on the ground that the default would not
have happened if the creditor had used all the powers of superintending the performance
of the debtors duty, which he could have exercised, because the employer of that servant
does not contract with the surety, that he will use utmost diligence in checking the
servants work.

A contract of guarantee unlike a contract of insurance is not one of uberrimae fidei but a
contract strictissima juris.

[1]Section 139, Contract Act, says that if the creditor does any act which is inconsistent with the
rights 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.
RIGHTS OF SURETY
[2]These concluding word are the qualifying words which qualify the act or omission mentioned
in this section.

BIBLIOGRAPHY
I. Treatises:

R.G. Padia (Ed.), Pollock & Mulla, Indian Contract and Specific Relief Act, Vol II, New
Delhi Butterworth, 2011.

A.C. Moitra, Principles and Digest of Indian Contract Act, Universal Book Agency, 1998.

Chitty on Contracts, Specififc Contracts, Vol II, Sweet & Maxwell, London, 2008.

Halsburys Laws of England, Guarantee & Indemnity, 4th Ed., Vol 20.

S.S. Gulshan, Business Law, 4th Ed., Excel Books (2010).

Kucchal M.C., Business Law, Vikas Publishing House Pvt. Ltd., New Delhi (2002).

II. Acts:

The Indian Contract Act, 1872.

III. Websites:

http://www.indialawinfo.com/bareacts/soga.html

books.google.co.in

www.manupatrafast.in

www.indiankanoon.org

scholar.google.co.in

www.lawnotes.in

www.jstor.org

indiancaselaws.wordpress.com