CENTRAL UNIVERSITY OF SOUTH BIHAR

PROJECT-TOPIC
“CONTRACT OF GUARANTEE”

Submitted To Course Instructor Submitted By Student

Mrs. Meenakshi singh Amar Alam

Assistant Professor, Law BA.LLB.(Hons)
School Of Law And IIIrd Semester
Governance IInd Year
Subject- Contract-II Enrollment No.
Course Code -Law 200 CUSB1713125003
Continuous Assessment-III

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 ACKNOWLEDGEMENT
At this point of time I would like to express my gratitude to all those who gave me their
support to complete this project.

I am grateful to my Law of Contract Teacher Mrs Meenakshi singh, for giving me

permission to commence this project in the first instance and to do necessary study and
research. I want to thank law faculty members and other faculty members for all their
professional advice, value added time, effort and enterprise help, support, interest and
valuable hints that encouraged me to go ahead with my project.

I am deeply indebted to my colleagues for their meticulous planning, layout, presentation

and above all for their consideration and time.

My heartfelt appreciation also goes to seniors and my classmate for their stimulating
suggestions and encouragement which helped me at each level of my research and in
writing of this project.

Especially, I would like to give my special thanks to my parents, family members and god
whose patient love enabled me to complete this project.

I have tried my best to enclose practical approach of Contract of guarantee and also
theoretical approach to my project.

(Signature of the Student)

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 PREFACE
The objective of the project was to understand the Contract of Guarantee. The objective of
the study was to analyse the definition, nature, functions and its essential features.

The project was started on 04th of October 2018 after knowing relevant information
regarding the project, under the guidance of my Law of Contract Teacher Dr. Meenakshi
singh.

The first part of my project involves the study of definition and nature of, Contract of
Guarantee and its relevant Sections and Case Laws. For this I used books as a primary
source and a secondary source is the internet

Since, the next part my project involves the study of functions and its essential features of
the Contract of Guarantee, its relevant Sections and Case Laws. For this I used books as a
primary source and a secondary source is the internet

Most important part of my project is analysing the information.

Amar_Alam (Signature of the Student)

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 CONTENTS

1) Introduction of the Project…………………………….p.5

2) Definition ………………...................…..……….. ……..p.6

3) Nature &Functions of the Guarantee…………………p.7

4) Essential features of the Guarantee……………...……p.9

5) Scope of Guarantee…………………………………….p.13

6) Critical Analysis …...……..……………..…… ………..p.15

7) Conclusion of Project…………...….………….………..p.15

8) Bibliography………………………..…….……......…….p.16

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 INTRODUCTION
In this project, I am going to describe my project i.e. Contract of Guarantee with regards
to its definition, nature, functions and its essential features. I will describe it with the help
of relevant provision and its case law.

Contract of Guarantee is well described in Indian Contract Act, 1872 in Chapter VIII
from Section 126-147.

Guarantee is a security in form of a right of action against a third party called the surety or
the guarantor. The English law defines a ‘guarantee’ as a ‘promise to answer for the debt,
default or miscarriage of another’. In simple terms, a guarantee means, the promise to pay
another`s debt or fulfil another`s contractual obligation, if that party fails to pay its debt or
perform its obligations. It can either be a promise for the execution, completion, or
existence of something or a promise or an assurance attesting to the quality or durability of
a product or service.1

A contract of guarantee implies the existence of liability, actual or prospective, of a third

party. Such a contract is therefore a collateral undertaking given by the additional security
to the creditor by the surety at the request of third party. If the third party be not primarily
liable the contract is not one of guarantee. The guarantee may be a fidelity guarantee, i.e.,
an agreement guaranteeing the employer against the misconduct of employee or a
guarantee to answer for the debt or default of another. Where a transaction between the
same parties is contained in more than one document, they must be read and interpreted
together and they have the same legal effect for all purposes as if they are one document.

1
www.rajaniassociates.net >pdf >guarantee (last visited on 4th November)

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 DEFINITION OF THE CONTRACT OF
GUARANTEE
The definition of the Contract of the Guarantee under Section 126 in Indian Contract
Act,1872 is described below: -

Section 126. ‘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 ‘principle-debtor,’
and the person to whom the guarantee is given is called the ‘creditor.’ A guarantee may be
either oral or written.2

Explanation: - According to this provision, a contract of guarantee is one in which the

promisor promises to perform the promise of a third person, or to discharge the liability of
third person, in the case of latter’s default. A contract of guarantee may be oral or written.
It may even be inferred from the course of conduct of the parties concerned.

A guarantee is a promise to answer for the payment of some debt, or the performance of
some duty, in case of failure of another party, who is in the first instance, liable to such
payment or performance. A guarantee is an accessory contract by which the promisor
undertakes to be answerable to the promisee for the debt, default or miscarriage of another
person, whose primary liability to the promisee must exist or be contemplated. The words
‘debt, default or miscarriage’ is descriptive of failure to perform legal obligations, existing
or failure, arising from any source, not only from contractual promises, but in any other
factual situations capable of giving rise to legal obligations, such as those resulting from
bailment, tort, or unsatisfied judgements. A letter of comfort is a recommendatory letter,

2
Indian Contract Act,1872, section 126

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and may not be a guarantee unless there is a specific undertaking to discharge liability in
case of default.3

NATURE & FUNCTIONS OF GUARANTEE

A guarantee is often termed a ‘collateral’ or ‘conditional’ contract, in order to distinguish
it from one that is ‘original’ or ‘absolute’. Its description as a ‘collateral’ contract is not a
happy one. The strict literal interpretation of ‘collateral’ is ‘parallel’ or ‘additional’, and it
does not signify the meaning ‘secondary’. To describe a guarantee as a ‘collateral contract’
does not sufficiently emphasizes its accessory character, although it would seem that the
words ‘collateral security’ might do so, as the world ‘security’ – even by itself – ordinary
means something auxiliary to an antecedent obligation. The obligation of a guarantor may
not necessarily be conditional, except in the broad sense that he will be discharge if the
principle – debtor performs the guaranteed obligation. There are two classes of guarantee:
a promise which becomes effective if the debtor fails to perform his obligations, and a
promise that the debtor will perform his obligations. Guarantees in the latter class are
effectively unconditional.

An agreement will not be a guarantee unless there exists or is contemplated some other
principle, obligation of some other principle obligator, to which the guarantee is to be
ancillary and subsidiary. There can be no suretyship, unless there be a principle – debtor,
who, of course, may be constituted in the course of a transaction by matters ex post facto,
and need not be so at the time; but until there is a principle – debtor there can be no
suretyship; nor can a man guarantee anybody else’s debt, unless there is a debt of some
other person to be guaranteed. The principle obligation guaranteed may be contractual, or

3
Pollok & Mulla, The Indian Contract and Specific Relief Acts 1353 (LexixNexis, Gurgaon,14th edn.,2013)

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also non – contractual, viz, such as those resulting from bailment, tort, or unsatisfied
judgements.

A guarantee is an undertaking to indemnify, if some other person does not fulfil

his promise. The liability under a contract of guarantee is conditional on the default of the
principle – debtor, and hence does not amount to a ‘promise to pay’; and a guarantee would
not attract the provisions of the Bengal Money Lenders Act. A contract of guarantee is not
one uberrimae fidei but a contract of strictissima juris. A contract of insurance is a contract
of the utmost good faith. Contract of guarantee are not subject to this doctrine, although
there may be a limited duty of disclosure.
The creditor’s rights under the contract of guarantee are assignable. In an
assignment of the reversion of a lease, the benefit of a covenant by a surety guaranteeing
performance by the tenant would also pass, even though the benefit of such covenant is not
expressly assigned. The liability of a surety cannot form the subject matter of trust. The
legal representatives of a surety continue to be liable for the amount to the creditor, after
the death of the surety, but their liability is limited to the extent of the estate inherited by
them from the surety. The question whether the representatives hold any estate of the
deceased surety can be raised and decided in the very suit in which the liability of the surety
is in question.
An arbitration clause, in an agreement of guarantee, may bind the principle
– debtor by implication, though the principle – debtor has not signed it. However, an
arbitration agreement between the creditor, debtor and one surety does not bind another
surety.4

The function of a contract of guarantee is to enable a person to get a loan, or

goods on credit, or 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, “I undertake to be responsible”. For example, in the old case of
Birkmyr v. darnell 5 the court said:

“If two come to a shop and one buys, and the other to give him credit, promises
the seller, ‘If he does not pay you, I will’.”

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 another”. It is a collateral engagement to be liable for
the debt of another in case of his default. “Guarantees are usually taken to provide a second
pocket to pay if the first should be empty.”6

4
Supra note 3 at 1354
5
91 ER 27 :1 Salk 27.
6
Avtar Singh, CONTRACT & SPECIFIC RELIEF 599 (Eastern Book Company, Lucknow ,12th edn., 2017)

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 ESSENTIAL FEATURES OF GUARANTEE
The following are requisites of a valid guarantee:

1) Principle debt
Recoverable debt necessary
The purpose of a guarantee being to secure the payment of a debt, the existence
of a recoverable debt is necessary. It is of the essence of a guarantee that there that
there should be someone liable as a principle debtor and the surety undertakes to be
liable on his default. If there is no principle debt, there can be no valid guarantee.
“A contract of guarantee is a tripartite agreement which contemplates the principle
debtor, the creditor and the surety.” This was so held by the House of Lords in the
Scottish case of Swan v. Bank of Scotland,7 decided as early as 1836.
The payment of the overdraft of a banker’s customer was guaranteed by
the defendant. The overdraft were contrary to a statute, which not only imposed
penalty upon the parties to such draft but also made them void. The customer
having defaulted, the surety was sued for the loss.
But he was held not liable. The court said that “if there is nothing due, no balance,
the obligation to make that nothing good amounts itself to nothing. If no debt is due,
if the banker is forbidden from having any claim against his customer, there is no
liability incurred by the co – obligers.”8
2) CONSIDERATION

7
(1836) 10 Bling NS 627.
8
Supra note 6 at 601

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 Section 127. Consideration for guarantee – Anything done, or any promise made,
for the benefit of the principle debtor, may be sufficient consideration to the surety
for giving the guarantee.

Illustration

(a). B requests A to sell and deliver to him goods on credit. A agrees to do so,
provided C will guarantee the payment of the price of the goods. C promises to
guarantee the payment in consideration of A’s promise to deliver the goods. This
is a sufficient consideration for C’s promise.

(b). A sells and delivers goods to B. C afterward request A to forbear to sue B for
the debt for a year and promises that, if he does so, C will pay for them in default
of payment by B. A agrees to forbear as requested. This is a sufficient consideration
for C’s promise.

(c). A sells and delivers goods to B. C afterwards, without consideration, agrees to

pay for them in default of B. The agreement is void.9

Consideration for guarantee A contract of guarantee, like any other contract,

requires consideration in the sense of the term as defined in section2(d). it may
consist in the fact of the creditor having done an act as set out in illustration

(a) or in forbearing to do something as dated in illustration

(b). Forbearing to e a decree against a debtor is a good consideration for a contract

of guarantee.

In illustration (c) the agreement is void because there is no consideration, the

promise of the surety is gratuitous. One may look into the surrounding
circumstances in order to determine the intention of the parties to a contract of

9
supra note 2 section 127

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 guarantee. One may intervene to guarantee a debt which has been incurred by a
friend, but it cannot be inferred from this fact that one has originally guaranteed the
performance by him of the contract which has, in fact, given rise to the debt. Such
a contract of guarantee may even be invalid as in illustration (c).10

Anything done or any promise made for the benefit of the principle may be a
sufficient consideration to a surety for giving a guarantee. The word ‘done’ shows
that past benefit to the principle debtor may be good consideration for a bond of
guarantee. It is not necessary that the promise or the thing done should be at the
desire of the promisor.11

3) MISREPRESENTATION AND CONCEALMENT

A contract of guarantee is not a contract uberrimae fides or one of absolute good

faith. Thus where a banker received a guarantee with knowledge of circumstances
seriously affecting the credit of the customer, it was held that there was no duty t
disclose this fact to the surety. Yet “it is the duty of a party taking a guarantee to
put the surety in possession of all the facts likely to affect the degree of his
responsibility; and if he neglects to do so, it is at his peril. A surety ought to be
acquainted with the whole contract entered into with his principle.” Where a person
purchased land without disclosing that he was doing so on behalf of a society for
which the surety would not have given the guarantee because the society was
already embroiled in litigation, the court held that it could be said that the consent
of the surety was taken by suppressing the vital fact from him and therefore he was
not bound by the guarantee. Section 142 and 143 implement these principles.
Section 142 and 143 provides:

10
H. K. Saharay(ed.), Dutt on Contract 772 (Eastern Law House,Kolkata, 11th edn., 2013)
11
supra note 10 at 773

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 Section 142. Guarantee obtained by misrepresentation, invalid. – Any
guarantee obtained by means of misrepresentation made by the creditor or with his
knowledge and assent, concerning a material part of the transaction, is invalid.

Section 143. Guarantee obtained by concealment, invalid – Any guarantee

which the creditor has obtained by means of keeping silence as to material
circumstances is invalid.

Illustration - a) A engages B as clerk to collect money for him . B

fill to account for some office receipts, and A in consequence call upon him to
furnish security for his duly accounting. C gives his guarantee for B’s duly
accounting. A does not acquaint. C with B’s previous conduct. B afterwards makes
default. The guarantee is invalid.

b) A guarantees to C payment for iron to be supplied by him to B to the amount

of 2000tons. B and C has privately agreed that B should pay five Rupees per ton beyond
the market price, such excess to be applied in liquidation of an old debt. This agreement is
concealed from A. A is not liable as a surety.

Case – London general Omnibus Co v Holloway12

The defendant was invited to give a guarantee for the fidelity of a servant. the
employer has earlier dismissed him for dishonesty but did not disclose this fact to the
surety. The servant committed another embezzlement .

The surety was held not liable “ the surety believed that he was making himself
answerable for a presumably honest man, not for a known thief”. Every surety undertakes
the risk of default which is more in some cases and less in others depending upon
circumstances. If the creditor is aware of circumstances of affecting the risk, he should
make the surety equally aware. Similarly, in case of before the Lahore HC , fresh guarantee

12
(1912) 2 KB 72 (CA)

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were obtained by the fidelity of a manager of a bank without disclosing his previous
defalcations, the surety were held not liable for further defalcation. 13

13
Supra note 6 at 606

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4) Writing not necessary

Section 126 expressly declares that a guarantee may be either oral or written. But in
England under the provisions of statue of frauds a guarantee is not enforceable unless it is
“in writing and signed by the party to be charged”14

SCOPE OF GUARANTEE
In determining the scope of guarantee, two important points arise . Is the guarantee a
specific one, that is, one intended to apply to a particular debt, or a continuing one which
extends to a series of transactions between the banker and his debtor? In case of specific
guarantee, the guarantor's liability will cease as soon as the particular advance is repaid.
The guarantor will not be liable if the debtor pays back the amount borrowed and takes a
fresh loan from the bank. On the other hand, if the guarantee is to be a continuing one the
guarantor will be liable for the balance irrespective of the payments made by the principal
debtor, as they would go towards the repayment of earlier advances. For this reason,
bankers always prefer to have a continuing guarantee so that the guarantor's liability will
not be limited to the original advance but should also extend to all subsequent debts. By
Section 38 of the Indian Partnership Act, 1932 which lays down that "a continuing
guarantee given to a firm or a third party in respect of the transactions of the firm is, in the
absence of an agreement to the contrary, revoked as to future transactions from the date of
any change in the constitution of the firm". That is to say, except where an agreement to
the contrary exists, a guarantee extending to a series of transactions, given by surety to the
firm as creditor, or to a third party on behalf of the firm as principal debtor, is revoked as
to future transactions by a change in the constitution of the firm which may occur by death,
insolvency or retirement of a partner, or by the admittance of a new partner. A banker has
to see that such contingencies are provided for in the continuing guarantees.

14
ibid

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Continuing guarantees may be revoked by giving notice to the creditor. If the guarantee
provides that notice of certain length of time should be given, the surety should comply
with the same. In the absence to the contrary, the death of the guarantor operates as
revocation of a continuing guarantee as to future transactions. After the death of the
guarantor the guarantee is revoked for future transactions and guarantor's estate will be
liable for all transactions entered into before the death of the guarantor. Where continuing
guarantee is given by two or more persons and one of them dies, the survivor or survivors
remain liable16

In Margaret Lolitha Samuel v Indo Commercial Bank Ltd the Supreme Court held that in
continuing guarantee the period of limitation will commence to run only from the date of
breach. In this case an overdraft was given by the bank to the company and the Director
executed a continuing guarantee bond. The Supreme Court held that so long as the account
is a live account in the sense it is not settled and there is no refusal on the part of the
guarantor - director to carry out the obligation the period of limitation does not commence
to run. Limitation will run only from the date of the breach under Article 115 of the
schedule to the Indian

Limitation Act, 1908.

It was held by the Calcutta High Court in Montosh Kumar Chatterjee v Central Calcutta
Bank Ltd. That the effect of a continuing guarantee is not to secure amounts advanced on
different occasions but to secure the floating balance which may be due from time to time
and it is the date of the accrual of that balance which is relevant for the purposes of
limitation when it is sued for. The surety's obligation to pay would arise immediately on
default committed by the principal debtor and once a cause of action against the surety has
arisen the commencement of the running of time is not further postponed till the making
of a demand.15

15
shodhganga.inflibnet.ac.in > bitstream ( last visited on 4th November, 2017)

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 CRITICAL ANALYSIS
Guarantee is an undertaking to answer for another's liability and collateral
thereto. It is a collateral undertaking to pay the debt of another in case he does
not pay it.

It is a provision to answer for the payment of some debt, or the performance

of some duty in the case of failure of some person who, in the first instance, is
liable for such payment or performance.

Guarantee is an undertaking to be collaterally responsible for the debt, default

or miscarriage of another. In a banking context it is an undertaking given by the
guarantor to the banker accepting responsibility for the debt of the principal debtor,
the customer, should he or she default. The guarantor may or may not be a
customer.

CONCLUSION
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 the guarantee is given is
called the "Creditor". A guarantee may be either oral or written. Under Section 126
of the Contract Act, a contract of guarantee need not necessarily be in writing; it may
be express by words of mouth, or it may be tacit or implied and may be inferred
from the course of the conduct of the parties concerned. Contracts of guarantee have
to be interpreted taking into account the relative position of the contracting parties
in the backdrop of the contract. The court has to consider all the surrounding

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circumstances and evidence to come to a finding when the guarantor refutes his
lability.

BIBLIOGRAPHY
1. Avtar Singh, CONTRACT & SPECIFIC RELIEF
(Eastern Book Company, Lucknow ,12th edn., 2017)
2. Pollok & Mulla, The Indian Contract and Specific Relief Acts
(LexixNexis, Gurgaon,14th edn.,2013)
3. H. K. Saharay(ed.), Dutt on Contract
(Eastern Law House,Kolkata, 11th edn., 2013)

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