Contract Act, 1872: Essential Elements of

Contract, Indemnity and Guarantee, Different

types of Guarantee Issued by Banks.

Sk. Nazibul Islam

Faculty Member,
Bangladesh Institute of Bank Management
Contract Act, 1872

 Section 1 – 75 : Preliminaries of Contract

 Section 76 – 123 : (Repealed, Sale of Goods Act,
1930)
 Section 124 – 147 : Indemnity and Guarantee
 Section 148 – 181 : Bailment
 Section 182 – 238 : Agency
 Section 239 – 266 : (Repealed, Partnership Act, 1932)

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 The law of contract is the most
important part of commercial law
because every commercial transaction
starts from an agreement between two
or more persons.

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Definition of Contract

 An Agreement enforceable by law (Sec. 2h)

An agreement comes into an existence whenever one

or more persons promise to one or others, to do or not
to do something. ‘Every promise and every set of
promises, forming the consideration for each other, is
an agreement’- Sec. 2(e).
Some agreements cannot be enforced through the
courts of law, e.g., an agreement to play cards or to go
to a cinema. An agreement, which can be enforced
through the courts of law, is called a contract.

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The essential elements of a contract
 Offer and Acceptance
 Intention to create Legal Relationship
 Lawful consideration
 Capacity of parties
 Free consent
 Legality of the object
 Certainty
 Possibility of performance
 Writing, Registration and Legal formalities

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Competent to Contract (Sec. 10)

 Every person is competent to contract who is of the age

of majority according to the law to which he is subject,
and who is of sound mind , and is not disqualified from
contracting by any law to which he is subject.

 Major
 Sound Mind: If he is capable of understanding the
consequence of contract
 Not Disqualified

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 Valid agreement: An agreement which fulfills all the
essential elements of a contract. , and which is
enfoceable through the courts .
 Void agreement: a void agreement has no legal
effect. It confers no rights on any person and creates
no obligations. ‘An agreement not enforceable by
law is said to be void’.- sec.2(g)
Example- An agreement made by a minor.

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 Voidable agreement: ‘An agreement which is enforceable by
law at the option of one or more of the parties thereto, but not
at the option of the other or others, is a voidable contract.’-
Sec.2(I). A voidabe agreement can be avoided. Until it is
avoided, it is a good contract.
Example- Contracts brought about by coercion, undue
infuence, misrepresentation etc.
X coerces Y into entering into a contract for the sale of Y’s
house to X. This contract can be avoided by Y.
X cannot enforce the contract. But Y, if he so desires, can
enforce it against X.
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Termination of Contract

 By performance of the promise of all parties

 By mutual consent canceling the agreement or substituting
a new agreement in place of the old
 Subsequent impossibility of performance
 By operation of law – death, insolvency, or merger
 By lapse of time
 By material alteration without the consent of the other party
 By beach made by one party

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Remedies of Breach of Contract

 Free from obligation

 Suit for damages
 Specific performance
 Injunction

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Guarantee and Indemnity
 Generally loans and advances are
made against tangible securities.
When a customer has no tangible
security to offer or when the
security offered is inadequate, a
guarantee is demanded by the
banker.

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 A guarantee is a promise by a third
person to the lender for the present or
future debt of the borrower. The person
who gives the guarantee is called a
surety or guarantor. The person to
whom the guarantee is given is called
creditor or beneficiary. The person in
respect of whose default the guarantee
is given is called the principal debtor.

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 Example: P lends Tk. 50,000/- to Q
and R promises to P that if Q does
not pay the money R will do so. This
is a contract of guarantee. Here Q is
the principal debtor, P is the
creditor or beneficiary, and R is the
guarantor or surety.

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Essential Features of Contract of Guarantee

 The essential feature of a contract of guarantee

is that the guarantor is liable when the
principal debtor fails to repay the debt. The
liability of the principal debtor is primary and
that of guarantor is secondary.
 A guarantee may be either oral or written.
Banks, however, do not accept oral
guarantees. The contract must be in writing
and should satisfy all legal requirements as to
signature, stamp duty etc.

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 A guarantee may be either (a) specific guarantee or (b)
a continuing guarantee. A specific guarantee covers a
single transaction. It comes to an end when the specific
promise is fulfilled.
 The continuing guarantee is applicable to a series of
transactions. The surety can fix up a limit on his liability
as to time or amount of guarantee when the guarantee
is a continuing one. For example, X enters into cash
credit arrangement with Modern bank for a credit limit of
Tk.50, 000/-. Y stands as guarantor for this amount for
a period of one year. Under this arrangement, X can
undertake any number of transactions subject to the
amount and time specified.

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 The party must be competent to enter into contract.
 Minor’s guarantee is not allowed but if any major gives
guarantee in favor of minor, the guarantor becomes
principal debtor.
 Credit worthiness of the guarantor is to be considered
before obtaining guarantee.
 As per contract, the guarantee must be supported by
lawful consideration.
 The contract must be entered into with free consent.
 A guarantee obtained under misrepresentation, fraud
and undue influence is void able.

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Indemnity
 A contract of indemnity is defined as ‘a
contract by which one party promises to
save the other from the loss caused to
him by the conduct of the promise himself
or by the conduct of any other person.
 The person who makes such promise is
called the ‘indemnifier’ and the other
person is called the ‘indemnified’ or
‘beneficiary’.

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 For example, X who has lost a fixed
deposit receipt issued by modern
bank may claim the amount by
furnishing an indemnity bond. By this
act, X promises to reimburse the
bank any loss that may be caused to
it for paying the amount without the
receipt.

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Banks and letters of indemnity

 Loss of term deposit receipt

 Issue of duplicate draft
 Loss of traveler’s cheque
 Loss of safe custody receipts
 Loss of gift cheque

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Distinction between Guarantee
and Indemnity:
 Number of parties: In case of guarantee there are
three parties- the principal debtor, the creditor and the
surety. A contract of guarantee requires the concurrence
of the three parties. In case of indemnity there are only
two parties- indemnified and indemnifier.
 Number of contracts: In case of guarantee there are
two contracts, one between the principal debtor and the
creditor and the second between the surety and the
creditor. On the other hand, in a contract of indemnity,
there is only one contract between the indemnifier and
the beneficiary.

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 Request: In a contract of guarantee, the guarantor
undertakes his obligation at the request, express or
implied, of the principal debtor; no such request is
necessary in respect of an indemnity.
 Nature of liability: In a contract of guarantee the
liability of the principal debtor is primary and that of
surety is secondary. The person giving an indemnity is
primarily and independently liable.
 Purpose of contracts: A contract of guarantee is to
provide necessary security to the creditor against the
loan but a contract of indemnity is made for
reimbursement of loss.

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 Right of parties: The surety has the right to
recover from the principal debtor the amount
paid by him under the contract of guarantee,
the indemnifier cannot claim reimbursement
from anybody else.
 Nature of risk: The surety agrees to discharge
the existing liability of the principal debtor. So
it is a subsisting risk. The indemnifier promises
to save the indemnified against risk of loss
happening in future. So it is a contingent risk.

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Rights of Guarantor
 Right to revoke continuing guarantee
 Right of subrogation
 Right to claim indemnity
 Right to know the extent of his
liability
 Right against co-sureties

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Discharge of Surety
 Death of the surety
 Discharge on variation of terms
 Discharge by release of the principal
debtor
 Discharge by creditors’ acts or
omissions
 Loss of security

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Precautions to be observed in
taking Guarantee
 Ascertain the solvency and integrity of the guarantor
 The capacity to contract
 Banker not to approach a guarantor
 Type of guarantee
 Execution of contract of guarantee
 Explanation of the clauses in the form
 Joint and several liabilities
 Periodical confirmation
 Death, lunacy and insolvency of the principal debtor
 Death, insolvency or insanity of the guarantor

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Types of Bank Guarantee
 Performance guarantee
 Guarantee for Earnest money i.e.; Bid
Bond
 Advance Payment Guarantee
 Shipping Guarantee
 Custom & Exercise Guarantee

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 Thank You

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