Monday, 24 January 2022

GUARANTEE AND BAILMENT BY TEJESHWAR PANDEY

 Guarantee and Bailment


Both Guarantee and Bailment are special contracts under the Indian Contract Act. While a 'contract of guarantee is a contract to perform the promise, or discharge the liability of a third person in case of his default, a contract of Bailment is delivery of goods by one person to another for some specific purpose. Both these kinds of contracts are very common and can be observed in day to day lives. For instance, A takes a loan from B and C guarantees that if A doesn't pay back his loan, he will step in and repay the loan on behalf of A. This whole situation exemplifies a contract of guarantee between A, B and C. On the other hand, examples of Bailment could be if A delivers gold to a goldsmith for making ornaments or gives his bicycle to B for the time he's out of town. In the following article, Guarantee and Bailment are explained in detail.

Guarantee under Section 126 

Guarantee under Indian Contract is defined under Sec- 126. Under the Section, 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 the person to whom the guarantee is given is called the 'creditor'.[1] A guarantee may be either oral or written. In the case of a contract of guarantee, the primary liability is that of the principal debtor. Surety's liability is under Sec -128 is co-extensive with the principal debtor, and it arises only when the principal debtor fails. Therefore, a guarantee is an undertaking to indemnify if another person does not fulfil his promise. Although the usage of the word 'indemnify' can be confusing as under Indian Contract Act, provision for contract of indemnity is a separate section altogether. It is defined under Sec 124, but the fact that both the contracts are significantly different from each other should be taken into account. 

A contract of guarantee involves three parties. On the contrary, a contract of indemnity involves two parties: (1) An Indemnifier, and (2) An Indemnity Holder. A guarantee contract should ideally contain three contracts. The first contract is between the creditor and the principal debtor; the second is between the creditor and the surety; and the third is between the principal debtor and the surety. However, there is only one contract in an indemnity contract – between the indemnifier and the indemnity holder. Although it should be noted that there need not be three contracts involved in guarantee but the differentiation lies in the fact that in a contract of guarantee, all three parties are privy while in a contract of indemnity only two parties are privy to the contract. The other important difference between indemnity and guarantee lies in the nature of liability of the parties involved.

In a contract of guarantee, the obligation of the surety depends substantially on the principal debtor's default. Therefore, the nature of liability of the surety is secondary. This liability will only arise if the principal debtor fails. However, under a contract of indemnity, the indemnifier undertakes an independent obligation which does not depend upon the existence of any other obligation of any other obligor. Therefore, the nature of liability of the indemnifier is primary. We can understand the difference between contract of guarantee and indemnity in a better manner through an example. Suppose, A and B have entered into a contract whereby A agrees to supply to B, 100 Kg of rice at his factory on 25th February, 2016, for a consideration of Rs. 10 Lakh. C is a friend of B. When B tells C of his contract with A, C promises B that if A does not deliver as per the contract, he will pay Rs. 10 Lakh to B. Here, C makes an oral promise to B to compensate him for A's default. However, A is not privy to this conversation between B and C. Therefore, C is a total stranger to this contract. Thus, this contract is out of the ambit of a guarantee contract as defined under Sec- 126. However, this contract may be construed as a contract of indemnity between A and C, depending on other facts.

Essentials of Guarantee

For a contract of guarantee to exist the first and foremost requirement is that there must be recoverable debt. The surety cannot be held liable for a debt that ceases to exist in the first place. This possibility can arise in void contracts. In Swan v Bank of Scotland[2], The defendant guaranteed the payment of an overdraft of a banker's customer. However, the overdrafts were in contradiction to the statute. Subsequently, not only the penalty was imposed on the parties but the overdrafts were also made void. After the customer defaulted, the surety was sued for the loss caused to the party by the defendant's actions. The House of Lords held that the surety was not liable since the overdrafts were rendered void and hence there was no debt. However, the position is not the same in case of the contract of guarantee with minors. In the case of Kashiba Ben Narsapa Nikade v Narshiv Shripat [3]the court had deliberated upon the issue that whether the contract involving a minor that is void under Sec 11 of the Indian Contract Act would also mean that the surety would be discharged from his liability to pay the creditor. The court held that even if the original contract between the principal debtor and the creditor is void, the surety would act as the principal debtor and pay the amount due to the creditor.

Secondly, all three parties to the contract, namely the principal debtor, creditor, and surety, must agree to make such a contract with each other's agreement it is important to keep in mind here that the surety accepts his obligation to be liable for the principal debtor's debt only at the request of the principal debtor, whether express or implied, is required.[4] The surety's communication with the creditor to form a contract of guarantee without the principal debtor's knowledge does not mean that a contract of guarantee.

Sec 10 of the Indian Contract Act lays down the essentials of a valid contract wherein, consideration is one of the essential requirements for a valid contract. This holds for the contract of guarantee as well. There has to be a consideration for a valid contract of guarantee to exist. As per Sec 126, anything done, or any promise made, for the benefit of the principal debtor, may be sufficient consideration to the surety for giving the guarantee.[5] The surety may benefit from the consideration, but it is always not necessary. In-State Bank of India v Premco Saw Mill[6]the State Bank threatened to sue the debtor but her husband consented to act as surety and thereby he agreed to pay the liability, and consequently the Bank refused to take any legal action against her. The court decided that the Bank's patience and acceptance entailed good consideration for the surety. Further, the benefit may consist of some advantage given to the Principal Debtor by the creditor at the surety's request. Moreover, any past benefit to the Principal Debtor can also be a good consideration for a guarantee contract.

Apart from consideration, it is essential to note that the surety can only be held liable if the principal debtor makes a default. That is to say that the surety's liability is secondary to that of the principal debtor. Further, the surety should not be kept in the dark about the terms of the guarantee contract. Though the contract of guarantee is not a contract of Uberrima fides, or absolute good faith, it does not require the principal debtor or creditor to disclose all material facts to the surety before entering into the contract. [7]. However, the facts that are likely to affect the scope of the surety's liability must be accurately represented. As per Sec-142, any guarantee which has been obtained through misrepresentation made by the creditor, or with his knowledge and permission, concerning a material part of the transaction, is invalid. [8] Sec-143 further invalidates a guarantee contract if the creditor remains silent as to the material facts of the contract.

Continuing vs Non-continuing/Specific Guarantee

A non-continuing or specific guarantee is given for a particular single transaction, the surety's liability is confined to that particular transaction only. On the contrary, a continuing guarantee is not limited to a single transaction and instead extends to a series of transactions as defined under Sec- 129. Here, the surety undertakes to be answerable to the creditor for his dealings with the debtor over a certain period. It is crucial to determine whether a guarantee is continuing or not as the surety's liability depends on it. A continuing guarantee may be revoked either by notice to the creditor or until the death of the surety.

On the other hand, one may not revoke a simple guarantee under any circumstances. Also, a continuing guarantee will run for a longer period and more than one transaction. Therefore, the surety could be held liable for longer and more. However, a guarantee is not continuing one merely because the contract of the guarantee says so. Whether the guarantee is for a single or a definite number of transactions, or a continuous one, is a question of construction based on the specific set of circumstances. 

A continuing guarantee can be revoked in two ways, one by giving notice to the creditor and two due to the death of the surety. Under Sec 130, a continuing guarantee may at any time be revoked by the surety, as to future transactions, by notice to the creditor. [9]. The term 'as to the future transactions' implies that as soon as the surety sends across the notice of revocation to the creditor, the surety does not remain liable for any transaction that happens after he has given notice. However, the surety continues to remain liable for any transaction that has already taken place. The Section does not prescribe a set mode of giving notice to the creditor. Therefore, when the contract of suretyship stipulates a particular manner of providing notice of termination of continuing guarantee by the surety, notice must be given in that mode, and no other manner will be effective. Whereas, if no such manner is stipulated in the contract of suretyship, the notice may be given in any form in which such notices are usually given in that trade. Under Sec-131, the death of the surety operates, in the absence of any contract to the contrary, as a revocation of a continuing guarantee, so far as regards future transactions. Here, the liability for any transaction that took place before the death of the surety will be borne by his heirs. This contract to the contrary, need not be in express terms in the contract. It could also be implied from the circumstances.

Rights of Surety

A surety is vested with certain rights after he has performed his part of obligations under the contract. Under Sec-140, the surety has the right of subrogation. As per the Section, the surety steps into the creditor's shoes after he has paid the guaranteed debt or performed whatever he was liable for. Once the surety has paid the guaranteed amount to the creditor, he can sue the principal debtor in his name. The surety is invested with this right automatically, without any pre-conditions attached to it.

Further, the surety is subrogated to all the remedies and rights which the creditor has, against the principal, and all persons claiming under the principal, and to all the securities and right of action generally which creditor has in respect of the debt. He (surety) is entitled to the same priority, as the creditor, in the event of insolvency or winding up of the principal debtor. He is also entitled to the lien, where the creditor was so entitled over the property of the principal-debtor given as security. 

Other than the right of subrogation, the surety has the right of the indemnity under Sec-145. Under this Section, 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 guarantee, but no sums which he has paid wrongfully. As there is an implied promise of indemnity between the surety and the principal debtor, all indemnity rules will apply as between them. For example: (1) unless the guarantee expressly states otherwise, the surety may sue the principal debtor for the guarantee amount. (2) The surety may recover all damages, costs, and sums (instructions + prudence) under Section 125. A formal indemnity agreement may also occur between the principal debtor and the surety. The contract will determine the exact scope of that indemnity. Further under Sec-141 as against the creditor, the surety has the right to benefit from the securities that the creditor has against the principal debtor. When the principal debtor defaults on payment, the surety becomes entitled to claim all securities given to the creditor by the principal debtor. The surety is entitled to all securities received prior to or subsequent to the creation of the guarantee, and it is irrelevant whether the surety is aware of those securities or not.

Discharge of Surety

Sections 133 – 139 provide certain circumstances in which the surety is "discharged",,, i.e. the law will not deem the surety liable on the guarantee anymore. According to Sec-133, a surety gets discharged as soon as the contract is amended without taking the surety on board; the surety is discharged of his liability concerning subsequent transactions. However, if an unsubstantial/immaterial alteration is made to the agreement, the surety is not released. If the alteration benefits the surety, the surety is also not discharged. Further, the surety continues to be liable for transactions effected before such variation. In Anirudhan v. The Thomco's Bank Ltd.[10], the Supreme Court dismissed the appellant's argument that he was discharged as surety from the contract under Sec 133. The Supreme Court noted that for a variation to be called "material", it is necessary that this variation is such that it varies the rights, liabilities or legal position of the parties as ascertained by the deed in its original state, or otherwise varies the legal effect of the instrument as initially expressed. 

As per Sec-134, a surety is discharged if the creditor enters into a contract with the principal debtor that releases the principal debtor or if the creditor commits an act or omission that results in the principal debtor's discharge. Here, the reason why the surety is discharged with the principal debtor is that this release/discharge of the principal debtor extinguishes the principal obligation, to begin with. Sec-135 is a natural extension of Sec-133. Without the surety's consent, the creditor enters into a composition agreement with the principal debtor or promises to give him time to pay or not to sue. The surety is discharged as long as the surety's assent is not present. However, the surety is not discharged under Sec-136 if the creditor agrees to give time to the principal debtor with a third party. Sec-139 allows for the discharge of a surety if the creditor either does something inconsistent with the surety's rights or fails to perform his duty to the surety and, as a result, the surety's eventual remedy against the principal debtor is jeopardized.

Bailment under Sec-148 and its Types

Under the Indian Contract Act, Bailment is defined under Sec- 148. As already explained, a contract of Bailment is the delivery of goods by one person to another for some specific purpose. When this purpose is accomplished, the goods must be returned to the original owner. As per this Section, the original owner of the goods who delivers them is called the 'bailer' and to whom the goods are delivered temporarily is called the 'bailee'. Further, Bailment can be of essentially five kinds. These five kinds can be classified under two broad heads; Bailment from the viewpoint of benefit and Bailment from the viewpoint of rewards. From the benefit perspective, it may be relevant to think for whose benefit the Bailment has been done. From this viewpoint, there can be three kinds of Bailment: One for the benefit of the bailer only; a bailee may keep the bailer's goods in safe custody without charging any amount for maintaining the goods, two for the benefit of the bailee only; a bailer may not charge anything from the bailee if the bailee uses the goods himself and three for the benefit of bailee and bailer both; in most of the cases of Bailment this scenario can be witnessed especially in Bailment of repairs, conversion or hire where the bailer receives the benefit of the services offered by the bailee and the bailee gets reward for his services. Now, the Bailment can also be viewed from the angle of rewards, i.e., whether the bailee or bailer who has provided his services is entitled to any reward? From this perspective, the Bailment can be gratuitous or non-gratuitous. Gratuitous Bailment implies that the provider of service has provided his services free of charge. This category would also encompass the previously mentioned categories, i.e. Bailment for the benefit of either bailer or bailee. Non- Gratuitous Bailment implies that the providers of service get rewarded for their services, as is the case where both the bailee and bailer get the benefit.

Essentials of Bailment

The essential feature of Bailment is that the goods must be delivered. Sec-149 covers the provision for the delivery of goods. The delivery of goods can be carried out in two ways; actual delivery and constructive delivery. Actual delivery occurs when the bailer hands over to the bailee physical possession of the goods. While constructive delivery takes place when there is no change of physical custody, something is done which has the effect of putting them in possession of the bailee. Constructive delivery may be required when it is essentially impossible to give possession, such as when the goods are bulky. 

Further, a valid contract is essential for the Bailment to be legally enforceable. However, Bailment can exist under certain circumstances even when there is no contract. The essence of Bailment is possession. This possibility was also considered by the court in State of Gujarat v. Memon Mahomed Haji [11], where the customs authorities had seized the appellant's goods but didn't look after them and claimed that as there was no contract of Bailment, they were not in a position of a bailee. The court observed that Bailment might arise even when the owner of the goods has not consented to their possession by the bailee at all. Therefore, a bailment may very well exist without creating a contract between the parties, and it essentially gives rise to remedies that, in truth and substance, cannot be said to be contractual. That is why it is asserted that 'bailment' may also arise in a tortious relation.

Duties and Rights of the Parties

Like every other contract, the contract of Bailment gives rise to certain duties and rights. Therefore, both bailer and bailee have certain duties to perform. Under Sections 151 and 152, the bailee has the duty to take reasonable care of the goods. According to Sec-151, the bailee is bound to take as much care of the goods bailed as a man of ordinary prudence would take care of his goods under similar circumstances. Further, as per Sec-152, once the bailee has taken the due amount of care (as prescribed under Section 151) of the goods, he is not liable for the loss, destruction or deterioration of the goods bailed. However, the Section also lays down that the bailee can give up his rights under Section 151 through a contract. Therefore, if the bailee has agreed to be liable absolutely, i.e. despite taking due care, then such bailee will continue to remain liable nonetheless.

Further, the bailee has the duty not to do an act that is inconsistent with the terms and conditions of the contract. Under Sec-153, a bailment contract is voidable at the bailer's discretion if the bailee commits any act concerning the goods bailed that is inconsistent with the bailment conditions. [12]. The bailee also has the duty to not use the goods without the bailer's authorization. As per Sec-154, if the unauthorized use of the goods by bailee leads to any damages, then he would be liable to compensate the bailer for the losses he suffered. This liability is absolute, which means that it doesn't matter if the bailee took reasonable care of the goods.

The bailee also has the duty to not mix the goods of the bailer with his own. As per Sec-156, if the bailer has not consented to the mixture of goods but the bailee has done so, bailee would be liable for incurring the expenses of the separation of goods and also any damage that may have arisen from such mixture. However, here the goods must be separable from each other for if they are not then under Sec-157, the bailer would be entitled to any compensation from the bailee for the goods that he lost.

Moreover, most importantly, the bailee has to return the bailer's goods under Sec-160 as per the directions given by the bailer on expiration of the time period for which they were given or under a reasonable time if there is no specific time period. Even if the purpose for which the goods were bailed has not been fulfilled, the bailee still has duty to return the goods. However, where the goods are found unfit for the purpose for which they were sought in the first place and accordingly the purpose for which they were bailed is not accomplished, the consequences are not provided in the Contract Act.

While the bailee's duties are comparatively more than the bailer, the bailer is not exempted from his duties. Bailer under Sec-150 is bound to disclose the faults in his goods if he's aware of those faults and that those faults expose the bailee to some extraordinary risks. If the bailer fails to do so, then he is liable to pay for any direct damages incurred by the bailee due to the non disclosure. In case the bailer lets out goods for hire, then he would remain liable the fact whether he was aware or not is immaterial. Further as per Sec-164, In case the bailer does not have any authority to bail the goods and if the bailee suffers any loss due to this, the bailer is liable to compensate the bailee for his losses.

Further, the bailee can exercise his right to lien. Lien is in its primary sense a right in one man to retain that which is in his possession belonging to another, until certain demands of the person in possession are satisfied. In case of 'bailment', the bailee has the right to keep possession of the property of the bailer until the bailer pays lawful charges to the bailee. Thus, right of a lien is probably the most important of rights of a bailee because it gives the bailee the power to get paid for his services. Bailee has both the right to general and particular lien. Under Sec-170, the bailee has the right of general lien, which is the right to retain the property for a general balance of accounts. While under Sec-171, the bailee has the right of particular lien, which is a right to keep it only for a charge on account of labour employed or expenses bestowed upon the identical property detained.

Conclusion

According to the Indian Contract Act, guarantee contracts are governed by specific rules. Guarantee contracts shield the creditor from loss by assuring him that the surety will uphold the contract, as previously mentioned in this article. Specific and continuing guarantees are the two varieties of guarantees that exist. The type of guarantee used depends on the situation and the contract. There is no guarantee that a surety's liability will be limited to the principal debtor unless otherwise stated in the contract. Contracts would be void if the creditor misrepresents or conceals material facts to secure a loan. During a bailment contract, the bailer relinquishes possession of an item to the bailee in exchange for the latter's use of it. In addition, all conditions must be met for the bailment contract to be valid. While the transfer of ownership occurs in a sale, the transfer of possession occurs in a bailment.


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