Central University of South Bihar

School of Law and Governance

CONTRACT

Project topic:
RIGHT OF THE SURETY

Under the supervision of –Dr. Anant Prakash Narayan

Assistant professor
Central University of South Bihar

Submitted by -
Akash Kumar
B.A LL.B (2018-2023)
E. No. – CUSB1813125010 (Sem-3)
School of Law and Governance

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 ACKNOWLEDGEMENT

Writing a project after a research is never an easy task to perform. It is one of the most

significant academic challenges. Though this paper is presented by me yet there are various

other persons who remain in veil and gave all the possible support to complete this project.

This project is a result of hard work incorporated by immense dedication and moral support.

I, hereby, would like to first of all thank Dr. Anant Prakash Narayan who gave me an

opportunity to work on this specified project. Due to his support only I successfully

completed this paper. Secondly I would like to add a vote of thanks to my friends who I

discussed the problem with and got to understand the right methodology to be adopted to

accomplish the task. Moreover, there have also been various other factors that helped me

complete this paper. I ask for sorry if there have been any mistakes in the paper. At the same

time I would also like to ask the same to those whose name has not been mentioned hereby in

the acknowledgement. But I wholeheartedly thank all those who have stood there for me

every time and supported me.

Last but not the least, I would like to express thank to my seniors who reviewed my paper for

rendering constructive and valuable suggestions and comments that have helped a lot in

improving the quality and content of this paper.

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  INTRODUCTION

Sec. 126 of the Indian Contract Act 1872, which deals with the contract of guarantee, has
defined it as “A contract to perform the promise, or discharge the liability of a third person in
case of his defaults.” The contract of the guarantee is a contract in which there are three
parties. You should understand first of all the specialty of this contract is there. There are
three parties in a contract. One is known as the principal debtor another party is known as the
creditor and the third party is a surety. Now, the word surety here stands for the person who
gives the guarantee, principal debtor is a person who gets the loan from the creditor and the
creditor is a person who gives the loan to the debtor. So in the contract of guarantee, when
there are three parties, there are three contracts. This is the basic and very interesting feature
of Page 7 of 12 the contract of guarantee. First of all we would like to study the definition
which is given in the law. The term contract of guarantee is defined in section 126 of Indian
Contract Act. It says the contract of guarantee is a contract to perform the promise or
discharge the liability of the third person in case of default. If we analyses the definition we
find that in the contract of guarantee there is a promise by one party. One party undertakes a
promise that in case the debtor makes a default, he will compensate or he will fulfill the
promise. Now if we put the three parties into the picture, then who promises in the contract of
guarantee the surety promises to the creditor that in case the debtor makes a default in the
making the payment on a due date the surety will make the payment to the creditor. Here, one
contract is between the debtor and the creditor, another one between the creditor and the
surety and the third is between the surety and the debtor. So there are three parties and there
are three contracts. And the surety promises to the creditor that in case debtor make default in
making the payment on the due date, the surety will compensate on the due date or surety
fulfills his word and that he is undertaking that the promise that he will fulfill the promise.

Now let us take an example, A goes to B to get a loan of 10,000/- rupees. and B says to A that
you bring the surety of somebody and then I will give you the loan. A goes to the C that
please give the surety for my loan, and on the request of the A who is a debtor, C who is a
surety gives an undertaking or promises with the B. B is a principal creditor or creditor. C
promises with the B that in case A does not make the payment on the due date he will make
the payment meaning thereby C will fulfill the word which is supposed to be fulfilled by the

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A on the due date. So in the contract of guarantee there is always a request from the debtor to
the surety to give the surety because surety how he will come to know that he has to give a
guarantee of somebody, until and unless somebody doesn’t come to him with the request. He
has not seen the things in the dreams. Somebody will come to surety and principal debtor is
somebody he will come to the surety that please gives the guarantee. At the request of the
debtor, surety is giving the guarantee to the creditor. Now suppose on the due date A is not
able to fulfill his word. And on the guarantee C has given the guarantee and B has given the
loan to the A and on the due date a back out from the words or he is not in position to fulfill
the words he is a defaulter. At the default of the principal debtor it is the prime duty of surety
that he now will make the payment to the creditor. So this is known as the contract of the
guarantee. So in the contract of guarantee the surety gives the guarantee to the creditor that in
case debtor makes a default surety will make the payment.

 Main feature of contract of guarantee

1. The contract may be either oral or in writing.
2. There should be a principal debtor.
3. Benefit to the principal debtor is sufficient consideration.

The contract may be either oral in writing

According to section 126, a guarantee may be either oral or written. On this point, the
position in India is different from that in England. According to the English lawi for a valid
contract of guarantee, it is necessary that it should be in writing and signed by the party to be
charged therewith.
There should be a principal debtor
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 dependent upon the default of somebody else, it is a contract of indemnityii.
Benefit to the principal debtor is sufficient consideration.
As in any contract, the consideration is also needed for a contract of guarantee. For the
surety promise, it is not necessary that there should be direct consideration between the
creditor and the surety, it is enough that the creditor had done something for the benefit of the
principal debtor.

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  RIGHTS OF SURETY
A surety has certain rights against the debtor, creditor and co-sureties.
 Rights of surety against principal debtor
Following are the rights of the surety against the principal debtor:-
1. Rights of Subrogation [sec.140]
2. Rights of Indemnity [sec.145]

Rights of Subrogation
Sec.140- Rights of surety on payment or performance
Where a guarantee debt has become due,or default of the principal debtor to perform a
guarantee duty has taken place, the surety, upon payment or performance of all that liable for,
it invested with all the rights which the creditor had against the principal debtor.
When the surety had paid all that he is liable for he is invested with all the rights
which the creditor had against the principal debtor. The surety steps into the shoe of the
creditor. The creditor had the rights to sue the principal debtor. “If the liability of the surety is
co-extensive with that the creditor after he satisfy the creditor’s debtiii.” The surety, may
therefore, sue the principal debtor in the right of the creditor.
CASE:-Lamplugh iron ore corporation (1927)
A director of a company in the liquidation guarantees and paid the rents due from the
company before the date of the liquidation. It was held that he was entitled to stand in the
place of the creditor, and to use all remedies, if he need be, in the name of the creditor in any
action to obtain indemnification from the principal debtor for the loss sustained.
CASE:-Amritlal Goverdhan lalan Vs State bank of Tranvancore
The Supreme Court has laid down that “the surety will be entitled to every remedy
which the creditor had against the principal debtor; to enforce every security and all means of
payment; to stand in the place of creditor; to have the securities transferred to him, through
there was no stipulation for that; and to avail himself of all those securities against the debtor.
The of the sureties stands not merely upon contract, but also upon natural justice. The
language of section 140 which employs the words “is invested with all the rights which the
creditor had against the principal debtor” makes it plain that even without the necessity of a
transfer, the law vests those right in the surety.”

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 Right to indemnity
Sec. 145- Implied promise to indemnify surety
In every contract of guarantee there is an implied promise by the principal debtor to
indemnify the surety; and the surety is entitled to recover from the principal debtor whatever
sum he has rightfully paid under the guarantee, but no sum he has paid wrongfully.
Such that in every contract of guarantee, there is an implied promise by the principal debtor to
indemnify the surety i.e.,to compensate the surety. Therefore, upon the payment of debt of the
principal debtor, the surety becomes entitled to recover from the principal debtor, all the
amount including interest plus costs rightly paid to the creditor under the guarantee. The
reason is that the surety is entitled to full indemnification
Example.1 B is indebted to C, and A is surety for the debt. C demands payment from A,
and on his refusal sues him for the amount. A defends the suit, having reasonable grounds for
doing so, but he is compelled to pay the amount of debt with costs. He can recover from B the
amount paid by him for costs, as well as the principal debt.
2. C lends B a sum of money, and A, at the request of B, accepts a bill of
exchange drawn by B upon A to secure the amount. C, the holder of the bill, demands
payment of it from A, and, on A’s refusal to pay, sues him upon the bill. A, not having
reasonable grounds for so doing, defends the suit, and has to pay the amount of the bill and
costs. He can recover from B the amount of the bill, but not the sum paid for costs, as there
was no real ground for defending the action.

Thus in every contract of guarantee there in an implied promise by the principal debtor to
indemnify the surety . The right enables the surety to recover from the principal debtor
whatever sum he has rightfully paid under the guarantee, but not sums which he paid
wrongfully. An example of wrongfully payment in a case where a surety had guaranteed the
payment of four motor vehicles delivered on heir-purchase. The surety contended that he had
paid Rs 4000 in discharge of his liability, but he failed to give an account of the price which
the motor vehicles might have released on resale. He is not allowed to recover his indemnity.

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  Rights of surety against creditor
The surety enjoys the following rights against the creditor:
1. Rights to securities
2. Rights to share reduction
3. Right to set off
Rights to securities
Sec.141- Surety’s rights to benefit of creditor’s securities
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.
It means that the surety has no rights to those securities which the creditor obtained from the
principal debtor after making the contract of guarantee. Therefore, if a creditor parts with the
securities which he had obtained subsequent to the making of the contract of guarantee, the
surety will not discharge as a consequence of the loss of such securities.
Example: C, a creditor, whose advance to B is secured by a decree, receives also a guarantee
for that advance from A. C afterwards takes B’s goods in execution under the decree, and
then, without the knowledge of A, withdraws the execution. A is discharged.

CASE: State of M.P Vs Kaluram

The surety was discharged by the loss of security by the creditor. The facts of the case are as
follow. The respondent, Kaluram, was a surety for the payment of felled trees which were
sold by the appellant to one jagat ram. The buyer of the trees was to make the payment in four
installment. He paid only one installment and then defaulted. The appellant had a right under
the contract to prevent the purchaser for removing the trees when he was in default. The
appellant failed to do so. The court held that the appellant, by allowing the buyer to take away
the trees, had allowed the security to be lost, and the surety was, therefore, discharge to that
extent.
The surety was then sued for the loss. But he was held not liable. “The state had a charge over
the goods sold as well as to remain in possession till payment of the installment. When the
goods were removed by the buyer that security was lost and to the extent of the value of the
security lost, the surety stood discharged.”

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Rights to share reductioniv
On debtor’s insolvency the surety is entitled to claim the proportionate reduction of his
liability by the amount of dividend claimed by the creditor (from the Official Receiver of the
Principal debtor). Similarly, debtor’s debt obligation is scaled down by subsequent
legislation; the creditor is entitled to claim proportionate reduction in his liability.

Right to set-off
If the creditor sues the surety, the surety may have the benefit of the set-off, if any, that the
principal debtor had against the creditor. He is entitled to use the defenses of the debtor
against the creditor. If the example, the creditor owes him something, or the creditor has in
his hand something belonging to the debtor for which the creditor could have counter-
claimed, the surety can also put up that counter-claimv.
He can claim such a right not only against the creditor, but also against the third parties who
have derived there title from the creditor. Thus where a mercantile agent sold the goods of the
principal and, being a surety for payment of the price to the principal, had to pay it, he was
held to have become entitled to the unpaid seller’s lien against the buyer and those deriving
title from himvi.

 Rights of surety against co-sureties

When two or more persons give a guarantee for the same debt, or it may be a debt has been
guarantee by more than one person, they are called co-sureties. All of them are equally liable
to the creditor for the payment of the debt to the creditor. The rights of one co-surety against
the other co-sureties.
Some of their rights against each other are:-
1. Effect of releasing a surety.
2. Right to contribute equally.

Effect of releasing a surety

Sec. 138- Release of one co-surety does not discharge other.
Where 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 sureties.

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The creditor may at his will release any of the co-sureties from his liability. But that will not
operate as a discharge of his co-sureties. However, the release co-sureties will remain liable to
the other for contribution in the event of defaultvii.

Right to contribute equally

If two or more persons are co-sureties for the same debt either jointly or severally, or whether
under the same or different contracts 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 shares of the whole debt, or that part of it which remains
unpaid by the principal debtor.
Sec. 146-Co-sureties 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 contracts, 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.
Example- 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.

Sec.147-Liability of co-sureties bound in different sums

Co-sureties who are bound in different sums are liable to pay equally as far as the
limits of their respective obligations permit.
Example- A, B and C, as sureties for D, enter into three several bonds, each in a different
penalty, namely, A in the penalty of 10,000 rupees, B in that of 20,000 rupees, C in that of
40,000 rupees, conditioned for D’s duly accounting to E. D makes default to the extent of
30,000 rupees. A, B and C are liable to pay 10,000 rupees.

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i
See section 4, State of fraud, 1677(England)
ii
Birkntyr Vs. Darnell, (1704)
iii
Babu Rao Vs.Babu manaklal nehmal, AIR1938
iv
Mercantilelaw.com
v
Bechervaise Vs Lewis (1872)
vi
Wolershausen Vs Gullick
vii
Sri Chand VsJagdish parshad kishan chand

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