This article is written by Sneha Mahawar and Monesh Mehndiratta, a law student at Graphic Era Hill University, Dehradun. It deals with the concept of the contract of indemnity and insurance under contract law and Amber Raaj. It further explains the rights and liabilities of the indemnity holder and indemnifier, along with the essentials of the contract of indemnity. Moreover, it examines the objectives, nature, parties, key differences with insurance, and landmark judgments of the contract of indemnity.
This article has been published by Sneha Mahawar.
Table of Contents
You might be aware of the basic rule that whoever harms or causes injury to another person has to pay the damages or costs to the injured person. The kings in a primitive society ruled on this principle. Whenever they had to deal with such cases where one party caused damage to the other, they made him liable to pay costs or damages. The contract of indemnity works on the same principle. Have you ever thought about what would happen if someone under a contract promised to do something but failed? Similarly, if a person suffers a loss as a result of the actions of another, is he entitled to compensation?
All these questions are dealt with under the concept of indemnity. Indemnity is a kind of compensation that protects you from any potential losses. In its broadest sense, indemnity refers to the payment of money to a person who has lost money, goods, or other property due to the error of a third party. This concept of indemnity is also incorporated in English law and is considered a commitment to protect a person from losses due to his actions, which might be directly or indirectly caused. The article explains the concept of indemnity and also provides its position in England and India. It further gives the rights and liabilities of the two parties involved in the contract of indemnity according to the Indian Contract Act, 1872. It also differentiates indemnity from the guarantee.
Contract of indemnity : an overview
The word indemnity has been derived from the Latin term “indemnis” which means unhurt or free from loss. As we all know, the fundamental idea behind an indemnity or indemnification is to transfer some or all of the liability from one party to another. This means that one party to the contract, referred to as the “indemnifier” or “indemnifying party”, promises to protect another party, referred to as the “indemnity holder” or “indemnified party”, from not only loss, cost, expense, and damage but also from any legal consequences resulting from an act or omission by either the indemnifier or a third party or any other event. Section 124 of the Indian Contract Act, 1872.
As per the Oxford dictionary, “Security from damage, loss, or penalty.” The definition of the word “indemnify” is to compensate someone for harm, loss, or damage. Indemnity contracts and contracts for insurance are extremely similar. In an insurance contract, the insurer pledges or promises to make up in the form of compensation for the insured’s losses. In return, he receives consideration in the form of a premium. These kinds of transactions are not governed by the Contract Act. This is so because legislation like the Insurance Act has provisions specifically for insurance contracts.
As per Section 124 of the Indian Contract Act, an agreement by which one party promises to save the other from loss caused to him by the conduct of the promisor himself or by the lead of someone else is classified as “Contract of Indemnity”.
The term (Indemnity) means to make good the loss or to compensate for the losses.
To protect the promisee from unanticipated losses, parties enter into the contract of Indemnity.
It is a promise to save a person without any harm from the consequences of an act.
There are two parties involved in the Contract of Indemnity. The two parties are:
- Indemnifier: Someone who protects against or compensates for the loss of the damage received.
- Indemnified/Indemnity-holder: The other party who is compensated against the loss suffered.
Example- A contracts to indemnify B against the consequences of any proceedings which C may take against B in respect of a certain sum of 200 rupees. This is a contract of indemnity.
In the case of Mangladha Ram v. Ganda Mal, the vendor’s promise to the vendee to be liable if title to the land was disturbed was held to be one of indemnity.
All insurances except and personal accident insurance come in the scope of Indemnity. It is an absolute promise to indemnify the insured. Upon the failure of performance, a suit can be filed immediately, irrespective of the actual loss. If the liability is incurred by the Indemnity holder and is absolute, he/she would be entitled to call upon the indemnifier to save him from that responsibility by taking care of it. An insurance policy that compensates a party for any accidental damages or losses up to a certain limit—usually the value of the loss of itself —is known as indemnity insurance.
Meaning of Indemnity
According to the definition given by Halsbury, the term “indemnity” is a contract that expressly or impliedly protects a person who entered into a contract or is about to enter from any losses, irrespective of the fact that those losses were due to the actions of a third party. As mentioned above, the word indemnity is derived from the Latin word “indemnis”, which means freedom from loss. According to Longman’s dictionary, it is protection against any kind of loss, expense, etc., in the form of a promise to pay for those losses.
- X contracts to indemnify Y against the consequences of any legal proceedings that Q may bring against Y for a certain sum of money. This contract or promise is known as a contract of indemnity.
- A promises to indemnify B if his car is damaged in an accident. B met with a minor accident in which he did not suffer any injury, but his car was damaged completely. Here, A is obliged to indemnify B for the damage.
- A asks B to invest money in C’s business and contract to indemnify him if he suffers any loss. B suffered a loss of Rs 1,00,000/-. According to the contract of indemnity entered into by A and B, A must indemnify the damages and other costs to B.
Parties to a contract of indemnity
In a contract of indemnity, there are two parties:
- Indemnifier: A person who promises to indemnify or pay for the losses is known as an indemnifier.
- Indemnified: A person for whom such a promise is made is known as an indemnified or indemnity holder.
A and B have a contract in which B promises to deliver goods to A for Rs. 10,000 per month. C promises B that he will pay for the loss that will be suffered by him due to A. Here, C and B are in a contract of indemnity, where B is the indemnity holder and C is the indemnifier.
Essentials to a contract of indemnity
For the purpose of a contract of indemnity, the following conditions must be satisfied:
- There must be two parties.
- One of the parties must promise the other to pay for the loss incurred.
- The contract may be expressed or implied.
- It must satisfy the essentials of a valid contract.
Objective and nature of the contract of indemnity
The purpose of entering into a contract of indemnification is to safeguard the promisee from unforeseen losses. A contract for indemnity may be expressed or implied. In other words, parties may directly impose their own conditions in such a contract. The nature of circumstances may also create indemnity obligations impliedly.
A contract of indemnity has a contingent nature, i.e., it has a conditional structure, and it mainly provides a safeguard provision for potential risks and uncertainties. A contract of indemnity is just like any other contract, and it must necessarily follow all the requirements of a valid contract. For instance, A fulfils B’s request for action. When A pledges to make up for B’s losses, if he incurs any, they imply the formation of an indemnity contract.
A contract of indemnity is essential because a party may not be able to command all apparent aspects of the performance of a promise. When the circumstances surrounding the performance are beyond the authority and control of the party, the party can be sued for the actions of another. Indemnity is a subset of compensation, and a contract of indemnity is a type of contract. The obligation to indemnify is a responsibility that the indemnifier willingly and voluntarily accepts.
In most cases, an insurance contract is not considered an indemnity contract in India. Agreements of marine insurance, fire insurance, or motor insurance, on the other hand, are considered contracts of indemnity because, unlike life insurance, which provides a specific sum of money upon the death of the policyholder, when a creditor takes out a policy on the principal debtor, he becomes entitled to a specific amount of money.
Conditions for the contract of indemnity
Parties to the contract of indemnity
As mentioned above, there must essentially be two parties in a contract of indemnity: the indemnity holder and the indemnifier. Moreover, no individual can enter into a contract with themselves, and the minimum requirement for any contract to be legally valid is for two parties. Additionally, these parties must have the capacity to contract. However, depending on the circumstances, there may be more than two parties.
The promisor or indemnifier
An indemnifier is a person who promises to compensate for a loss but does not bear the loss.
The promisee or the indemnified or indemnity holder
An indemnity holder is a person whose losses are compensated by an indemnifier.
There is a contract between A and B in which A promises to deliver certain goods to B for Rs. 7,000 every month. C comes and makes a promise to indemnify B’s losses if A fails to deliver the goods.
- C is the indemnifier or promises as he promises to bear the loss; and
- B is the indemnity-holder or promisee or indemnified as his losses are compensated for.
Promise to pay losses
A contract of indemnity is one in which one party promises to protect the other party from harm brought on by the actions of the other party.
One party must present a condition to another party, and the other party must accept it. Acceptance occurs when another party accepts the offer on the same terms. After accepting the offer, it becomes a promise. The party that made the promise is now known as the promisor, and the person who accepted it is now known as the promisee.
It is an important part of the contract of indemnity that “the promise must be made by the promisor to pay the losses of the promisee.” A contract of indemnity is one in which one party promises to protect the other party from harm brought on by the actions of the other party.
Expressed or implied
As stated above, a contract for indemnity may be expressed or implied. In other words, parties may directly impose their own conditions in such a contract. The nature of circumstances may also create indemnity obligations impliedly. Express contracts are those that are created orally or in writing, whereas implied contracts are those that are made as a result of the conduct of the parties.
There must be a loss incurred
The condition of the contract of indemnity is that “the loss must be incurred by the promisee.” The promisor is not required to make any payments if the promisee suffers no loss.
Lawful object and consideration
A contract for indemnity can only be executed for a valid purpose and a lawful consideration. A contract of indemnity cannot be construed as a contract to engage in unlawful behaviour or conduct that is against public policy.
Legislative and judicial enactments of contract of indemnity under English law
Basically, a contract of indemnity is a more extensive idea in English law when contrasted with Indian law, in light of the fact that in English law every one of the issues is viewed which are connected not just due to the demonstrations of some individual yet additionally emerges from some occasion or mishap if there should arise an occurrence of fire or demonstration of God.
Certain rules under the contract of indemnity under English Law are:
- When the loss will be faced by the Indemnity holder, it will be compensated by Indemnifier.
- If instructions of the Indemnifier is followed by Indemnity.
- If indemnity holder incurs cost during any suit proceedings and pays the amount by compromise.
The rule of agreement of indemnity started in English law in the judgment of Adamson v. Jarvis where Adamson was an offended party and Jarvis was a litigant. The offended party by calling was a salesperson to whom Jarvis, who was not the proprietor of the dairy steers, gave the cows and was sold at the deal. The veritable owner of the steers sued Adamson for change, and he was fruitful in it and Adamson expected to pay the damages for something comparable, thus, Adamson sued Jarvis to be compensated for the adversity that he caused to pay the harms to the proprietor.
From the above case, it is examined that there was a guarantee to save the individual from misfortune yet the guidelines hosted to be trailed by the get-together of the gathering that is reimbursed to guarantee repayment.
The law was further changed by the case of Dugdale v. Lowering. It showed that the guarantee may be conveyed and gathered.
For the present circumstance, the K.P. Co and respondent were ensured for explicit trucks which were in the responsibility for the insulted party. The correspondence was held between the irritated party and defendant in which the outraged party’s uneasiness for inquisitiveness with regards to whether they passed on the trucks to the respondent. The prosecutor without outfitting a reaction and uncovered to him that sent all of the trucks back to him. The K. P Co brought a case against the irritated party for the change, and the insulted party needs to pay the damages. Thus, the outraged party sued the respondent for indemnity.
For the present circumstance, the court held that the irritated party is equipped to recover reimbursement considering the way that there is no objective of the annoyed party to send the trucks without Indemnity. Hence, for the present circumstance, there is a construed ensure which is agreed by the respondent when he told that sent all of the trucks back to him, by then it is normally expected that he agreed for the indemnity.
Another milestone choice, Re Law Guarantee and Accidental case held that a repayment game plan ought not exclusively to be restricted to repaying the person for any monetary misfortune.
In the United Kingdom, under the point of reference-based law, it is significant for an Indemnity holder to at first compensate for the misfortunes, injuries or harms and subsequently ensure for reimbursement.
Position of a contract of indemnity in England and India
The word “indemnity” is used in a wider sense under English law. It includes a contract or promise to save a person from losses caused by humans, agencies, or any other event like accidents that are not under the control of any person. It also identifies contracts of insurance other than life insurance as contracts of indemnity. The reason for not recognising life insurance as indemnity is simple. It is because the conditions are different in both of them. For example, a life insurance contract may provide payment on the death of a person or after the expiration of a specified period. But this does not fall under the ambit of indemnity.
On the other hand, in the Indian context, the contract of indemnity does not specifically recognise a contract of insurance under indemnity. The Privy Council, however, in the case of Secretary of State v. Bank of India Ltd. (1938), recognised it as an implied contract under indemnity. The 13th Law Commission Report in India suggested amending Section 124 of the Indian Contract Act, 1872, to include loss caused by events that do not depend on the conduct of any person.
As stated above, indemnity in India has been defined under Section 124 of the Indian Contract Act, 1872. According to the Section, it is a contract in which a party makes a promise to save others from any kind of loss due to the actions of the promisor himself or any third person. This definition is only limited to the losses caused by the actions of humans or agencies and does not include losses that are caused due to events that cannot be controlled or foreseen by any person, as stated in the case of Gajanan Moreshwar v. Morehswar Madan (1942).
It can be said that the contract of indemnity in India does not include a contract of insurance within its ambit. So, if a person under an insurance contract promises the other to pay compensation or damages for losses due to accidents or fires, these are not covered under indemnity but are contingent contracts given under Section 31 of the Act. In the case of United India Insurance Company v. M/s. Aman Singh Munshilal (1994), goods were stored in godowns, from where they had to be carried to their destination after some time. While in storage, the goods were destroyed by fire. The Court, in this case, held that the goods were destroyed during transit, and the insurer must pay as the contract of insurance.
Legislative and judicial enactments of contract of indemnity under Indian law
In India, a contract of indemnity started for the situation Osman Jamal and Sons Ltd v/s Gopal Purshotam in which the offended party is a partnership that goes about as a commission specialist for the respondent. The litigant firm was occupied with purchasing and selling Hessian and Gummies, and the offending party firm had consented to repay the respondent firm in case of a misfortune.
The offended party organization bought Hessian from Maliram Ramjets, yet the litigant organization can’t pay and get the Hessian. Thus, Maliram Ramjets offered a similar item to others at a lower cost. Maliram Ramjets sued the offended party for the misfortune, however, the offended party was currently slowing down and requested that the litigant remunerate them.
However, the defendant declined to pay the damages, claiming that he was unable to do so because of the complainant.
HELD- The defendant is liable to indemnify the complainant, according to the court, because he agreed to do so.
The section contemplates indemnity can be expressed or implied. An example of implied indemnity is the decision of the Privy Council in Secy of State for India in Council v. Bank of India Ltd. in which, a forged note endorsement was given to a bank which was received in good faith and for the value. It was later received by the Public Office for renewal in their name. The compensation was recovered by the true owner of the note from the State and was allowed to recover from the bank on a promise of indemnity on implied.
One of the case laws and Judgments was the Gajanan Moreshwar vs. Moreshwar Madan Mantri.
In this case, Gajanan Mores was having land in Bombay however at rent for an extensive stretch. Gajanan Moreshwar was moved to Moreshwar Madan Mantri, however, for a restricted period. M Madan began the development once again the plot and requested some material from K D Mohandas, when K D Mohandas requested the installment of the material, M Madan would not compensate the sum and mentioned G Moreshwar to set up a home loan deed for K D Mohandas. The loan cost was chosen and G Moreshwar put a charge over his ownership. As indicated by the deed, a date was chosen for the arrival of the chief sum. In any case, M Madan concludes that he will pay the chief sum alongside the interest to deliver from a home loan deed, and chooses a specific date for something very similar.
In this case, the court held that if an indemnity holder has raised a liability that is absolute in nature, the indemnity holder may order the indemnifier to fulfil the responsibility or pay the sum. It is not necessary for a commitment to compensate for a loss.
The court made the right decision, in my opinion, because the indemnifier is able to reimburse the indemnity holder if any liability occurs, so the indemnifier can pay the debt directly.
And if the indemnity holder does anything that causes the liability to occur, he must pay the liability because indemnifiers promise to return the indemnity holder to his original condition.
In India, all issues are viewed where misfortunes are brought about because of the promisor himself or some other outsider while in England every one of the issues is viewed were a misfortune causes by any individual just as from any mishap.
Essentials and rights in the contract of indemnity
For the contract of indemnity to take place, the essentials must be that there must be two parties and an arrangement between them in which the promisor agrees to protect the promisee against any loss. This is the most important aspect of the indemnity contract. The loss may have occurred as a result of the promisor’s or some other third party’s behaviour. The Act’s rules limit the loss to a degree that it is limited to the human agency only, and an act of God is not protected by the indemnity contract. Contracts of indemnity include things like marine insurance, fire insurance, and so on.
There can be express and implied indemnity contracts. An implied indemnity contract is out of the purview of the definition of indemnity given under Section 124.
Rights incurred by an indemnity holder
Section 125 of the Act describes the right of an indemnity holder:
- Any fee he was forced to pay in a matter or a suit to which the indemnifier’s guarantee extends will be recoverable by the indemnity holder. For example, A and B will agree that if C sues B in a specific matter, A will indemnify B. For example, A and B will agree that if C sues B in a specific matter, A will indemnify B.
- C has now filed a lawsuit against B, and B has been forced to make a settlement. According to the contract, A would be responsible for all payments made by B to C in connection with that matter.
- Any costs that the indemnity holder may have to pay to a third party are also recoverable. However, the indemnity holder should have behaved prudently and in accordance with the indemnifier’s instructions.
- Any amounts charged under any suit or compromise, as long as it was not against the indemnifier’s orders, are also recoverable by the indemnity holder.
Rights of an indemnifier
Despite the fact that the Act mentions the indemnity privileges, the Indian Contract Act of 1872 excluded indemnifier rights.
In Jaswant Singh v. the State, it was concluded that the reimburse advantages are like those of a guarantee under Section 141, where the person who indemnifies gains the advantage of all protections held by the loan boss against the vital borrower, regardless of whether the foremost account holder was worried about them.
On the off chance that an individual chooses to reimburse, he will be named as having prevailed to the entirety of the structures and means which the individual who was initially reimbursed may have ensured himself against any misfortune or harms; or haggled for pay for his misfortune or harms.
When the indemnifier pays for the misfortunes or harms, he at that point moves into the shoes of the reimburse, giving him the entirety of the advantages that the first indemnifier needed to shield himself from misfortune or mischief.
Commencement of liability under the contract of indemnity
There is no stable position on the issue of the commencement of liability under the contract of indemnity. In England, indemnity liability arises only when the indemnity holder suffers a loss. On the contrary, the Indian Contract Act is silent on this matter. This is further discussed below.
The position of the law with respect to the liability of indemnifiers has always been in question on the point of whether indemnity holders should be indemnified before or after the loss. Whether the indemnifier can be asked to indemnify the indemnity holder before he has suffered any loss of goods or money.
An indemnity holder is entitled to be indemnified only after he has suffered a loss under English common law; until then, there can be no action from the side of the indemnifier. However, this created problems and difficulties for those indemnity holders who were not capable of managing the loss on their own. In such cases, the Court of Equity granted relief to the indemnity holders. It was also provided that the indemnity holder could compel the indemnifier to protect him against the loss for which he had promised the indemnity.
However, the position in India is not stable. There were differences in the opinions of the high courts like the Allahabad High Court, the Calcutta High Court, and the Bombay High Court over the issue of whether indemnity could be claimed before suffering any loss. Where some courts held that there could be no indemnity until there was an actual loss, others favoured indemnity holders in such situations. The Bombay High Court, in the case of Ganajanan Moreshwar v. Moreshwar Madam, cited the observations of the Court of Equity in England and held that if the liability is absolute, the indemnity holder can ask the indemnifier to protect him and pay off the liability. This was also mentioned in the 13th Law Commission Report.
Commencement of liability of indemnifier
The Indian Contract Act, 1872, does not specify when the indemnifier’s liability under the contract of indemnity begins. However, multiple high courts in India have ruled in this regard:
- He must follow the orders of the promissor;
- He must act as a prudent man would, in case there was no existence of a contract of indemnity;
- Indemnifier cannot be held liable until any losses are suffered by indemnified;
- Indemnified can compel the indemnifier to compensate his loss although he has not discharged his liability.
A worked for GHI School and was a professional school bus driver. The school administration instructed all drivers not to drive the bus faster than 40 km/h. A did not follow the instructions and, as a result, met with an accident. Here, the school administration will no longer be obligated to indemnify him if he violates their orders.
Duties and liabilities of indemnifier
It is now well established by various case laws that the liability of the indemnifier arises only when the indemnity holder has suffered some kind of loss and not before. However, whenever his liability arises, he has to perform the following duties:
Indemnify all damages
The indemnifier has a duty to pay for damages suffered by the indemnity holder due to the loss for which he promised in the contract. The question of whether the indemnity holder suffered direct or indirect loss is immaterial in this case. It was held in the case of Nallappa Reddi v. Vridhachala Reddi and Anr. (1914) that the duty to indemnify arises as and when the decree has been passed against him, and he must fulfil his duty and the promise made to the indemnity holder.
Indemnify the costs
An indemnity holder can compel the indemnifier to pay for the costs if he did not breach the terms and conditions of the indemnifier and the contract. In this situation, if the indemnity holder proves that there was no fault on his end, the indemnifier has a duty to pay for the costs that he incurred while reducing the claims. The indemnifier must also compensate the indemnity holder for all the amounts paid by the indemnity holder during any proceedings in a case.
X gave his house to Y for auction and promised to pay for any loss or damage suffered during the auction, and Y was unaware of the fact that X is not the real owner of the property. As soon as Y realised who the real owner was, he paid him the amount because of which he suffered damages and sued X. X had to pay all the damages and costs incurred by Y.
Indemnify amount payable in case of compromise
The indemnifier has a duty to pay that amount to the indemnity holder, which he paid as compensation in a suit, but the condition is that the promisee did not act against the orders of the promisor. The Madras High Court, in the case of Venkatarangayya Appa Rao v. Varaprasada Rao Naidu (1920), gave certain conditions that must be fulfilled if an indemnity holder has to be paid in case of a compromise. Only when these conditions are fulfilled is the indemnifier liable to pay. The conditions are:
- Compromise must be done in a bonafide manner.
- No collusion in a settlement.
- It must not be an immoral bargain.
Duties and liabilities of indemnity holder
The rights of indemnity holders in a contract of indemnity are not absolute, and he has certain duties as well. The most important liability is that he must abide by all the conditions of the contract of indemnity. He/she should not violate the contract. It is the duty of indemnity holders to foresee and try to avoid the loss, if possible. As discussed above, the liability of the indemnifier only arises when the indemnity holder has suffered any loss. He/she cannot force the indemnifier to pay the money before there is any loss.
A promises B to pay for losses in his business. B had a godown in which the goods were stored. A fire occurred in the area where B’s godown was located, but luckily he suffered no loss as the fire did not burn his goods or godown. Though there was a possibility of his goods being damaged in the fire, A is not liable to pay the money because there has been no loss to B.
The mere possibility of loss does not entail the indemnifier’s liability. He is only liable when the indemnity holder has suffered the actual loss.
Types of the contract of indemnity
The indemnifier makes a promise to cover all parties’ damages, including those of the third party, under the broad indemnification. Even though the third party is completely at fault, he promises to cover the losses. The term “caused in whole or in part” is one of the primary signs of an indemnity contract in the broad form of indemnification.
Under the intermediate indemnification, the indemnifier agrees to cover only damages caused by the promisor’s and promisee’s actions. Unlike broad indemnification, it does not include the losses sustained as a result of the actions of a third party. Except in cases where that party is completely at fault, the intermediate form indemnifies a party for its own negligence. The term “caused in part” is one of the primary signs of an indemnity contract in the intermediate form of indemnification.
The indemnifier promises to cover only losses brought on by his action under the limit of indemnification. Losses incurred as a result of the promisee and third party’s actions are not covered by the contract of indemnity. The term “only to the extent” is one of the primary signs of an indemnity contract in the limited form of indemnification.
Can the clause of force majeure relieve the obligation of indemnity
While reading about a contract of indemnity, a question might occur in your as to ‘Whether the clause of force majeure is capable of relieving the obligation of the party to indemnify or not?’ This issue was considered by the New South Wales (NSW) Supreme Court in the case of Woolworths Group Ltd. v. Twentieth Super Pace Nominees Pty Ltd atf the Byrns Smith Unit Trust t/as SCT Logistics (2021). In this case, the defendant SCT was engaged in the transportation of goods on behalf of Woolworths. However, the goods were damaged due to the derailment of the train in extreme weather conditions. As a result, Woolworths claimed the losses incurred as indemnity mentioned in their contract. On this, the defendant (SCT) argued that the force majeure clause in the contract i.e., Clause 7.2, relieves him of his obligation to pay. This is because the goods were damaged in a force majeure event.
The Supreme Court in this case denied the arguments presented by the defendant and held that according to clause 13.1 of their contract, SCT is liable to indemnify Woolworths for any loss, destruction, theft or damage of goods. It was also observed that this liability remains until the goods have been accepted by Woolworths at the delivery location. Justice Henry further stated that in order to take advantage of force majeure clauses, a connection between the force majeure event and the performance of the contract must be established and it must be shown that there has been a delay in the performance. However, in this case, the defendant was asked to indemnify Woolworths.
Types of indemnity
Written indemnity is another term for an express indemnity. The obligations of both parties should be specified in an express indemnity clause. Where there is an express indemnity, the terms and conditions defining the indemnification clause are provided in writing. The contract should explicitly state and explain the terms and conditions of the contract. An indemnity attorney may be required to assist with the indemnification agreement’s drafting.
Insurance indemnity contracts are among the indemnity contracts that are most frequently used. Also, such contracts are widely included in construction contracts by businesses that operate in the construction sector. Another sector that calls for well-written indemnity contracts is agency contracts.
The only distinction between an express indemnity contract and an implied indemnity contract is that the latter is not in writing. Instead, implied indemnity contracts are those that are made as a result of the conduct of the concerned parties. In an implied indemnity contract, the extent of the obligation is determined by the circumstances, conduct, and actions of the parties. For instance, in a master-servant relationship, the master must pay for any injuries the servant sustains. However, the servant must have received the injuries as a result of obeying the master’s orders.
The Adamson v. Jarvis decision from 1872 established the standard for implied indemnity. In this case, the plaintiff, an auctioneer, sold certain items on someone else’s orders. The commodities turned out not to belong to the person, and the real owner held the auctioneer accountable for the items. In response, the defendant was sued by the auctioneer for the loss he had incurred as a result of following his directions. It was decided that because the auctioneer carried out the defendant’s orders, he had a right to believe that the defendant would indemnify him if his actions were improper. According to the court’s decision, if a servant is injured while carrying out implied orders, the master is responsible for compensating the servant.
Contract of indemnity v. contract of guarantee
At times, people get confused between indemnity and guarantee. Indemnity involves the payment of damages to a person by another because of his conduct or the conduct of any other person. In the same way, a person in a guarantee contract promises another person to fulfil obligations on behalf of another person who fails to perform his obligations. But both of them are not similar to each other, thus, it is necessary to understand the difference between the two.
Contract of guarantee
The contract of guarantee is defined under Section 126 of the Indian Contract Act, 1872. It is a contract under which a person discharges liability on behalf of a third party who is at fault. For example, P takes a loan from a bank and promises to repay it within the stipulated time. R comes and says that he will pay the loan if P fails to do so. Thus, R is liable to pay the loan back to the bank on behalf of P in case he fails to discharge his liability.
The person who gives the guarantee or promises to discharge liability on the default of any person is called the surety. A person in whose default the surety promises to act is the principal debtor, and a person to whom this guarantee is given is the creditor. Thus, in the above example, P is the principal debtor, R is the surety, and the bank is the creditor.
The aim of a contract of guarantee is to provide extra security to the creditor that a surety will fulfil the obligations made by the principal debtor in case he fails to do so. Thus, a guarantee contract is tripartite in nature as it involves three parties. However, it is not mandatory for the principal debtor to be a party to an express contract.
Features of a contract of guarantee
The following are the features or essentials of a contract of guarantee:
- The contract of guarantee may either be oral or written. However, it is mandatory that it fulfils all the conditions of a valid contract.
- There must be a principal debtor who is obliged to discharge the duties promised by him. If he is unable to do so, a surety is liable on his behalf.
- The consideration in the contract of guarantee needs not to be direct. If the creditor does something for the benefit of the principal debtor, it is regarded as a sufficient consideration. For example, A takes a loan from B, and B gives the money. Thus, the loan given by B to A is a valid consideration for the contract of guarantee.
- Surety must give his consent voluntarily, and it must not be obtained forcefully or by misrepresentation of facts.
Difference between a contract of indemnity and guarantee
|Basis of difference||Contract of Indemnity||Contract of Guarantee|
|Provisions||It is given under Section 124 of the Indian Contract Act, 1872.||It is defined under Section 126 of the Act|
|Number of parties||In a contract of indemnity, there are two parties, namely, the indemnifier (who promises to pay for the losses) and the indemnity holder (in whose favour such a promise is made).||There are three parties. These are: Principal debtor, Surety, Creditor.|
|Number of contracts||There is only one contract in the case of indemnity, which is between the indemnifier and the indemnity holder.||There are three contracts between the parties: The first contract is between the principal debtor and the creditor, which makes it obligatory for the principal debtor to perform his duties. The second contract is between the surety and the creditor, which binds the surety to act on behalf of the principal debtor. The third contract is between the principal debtor and surety, by which the principal debtor is bound to pay the surety the amount that he paid on his behalf.|
|Aim||The aim is to protect a person from potential loss by humans or agencies.||This contract aims to provide the creditor with the security that in the absence of the principal debtor or if he fails to perform the obligations, the same will be done by a surety.|
|Liability||The indemnifier has primary liability because he promised to pay for the loss incurred by the indemnity holder.||The liability of the surety is secondary, as it is the principal debtor who is initially responsible for performing the obligations. The surety’s liability arises when the principal debtor fails to do so.|
|Recovery of money/loss paid||The indemnifier cannot recover the amount that he paid for the loss from any person.||If surety pays money on behalf of the principal debtor, he/she is liable to recover from him.|
|Example||A promises B that he will pay for losses incurred by him due to his actions or those of a third party.||C takes out a loan from B and promises to return the money within 3 years. A promises to be a surety in this case. If C is unable to pay the money within the stipulated time, it is the duty of A to do so.|
In order to understand the topic better, it is crucial that we also skim through the difference between an indemnity and insurance. Below is a tabular representation of the same.
Difference between an indemnity and an insurance
|Basis for differentiation||Indemnity||Insurance|
|Meaning||An agreement by which one party promises to save the other from loss caused to him by the conduct of the promisor himself or by the lead of someone else is classified as a “contract of indemnity”.||Insurance may be thought of as a periodic payment made to protect against any losses incurred.|
|Section||Section 124 of the Indian Contract Act, 1872, mentions indemnity.||Section 31 of the Indian Contract Act, 1872 mentions insurance under a contingent contract.|
|Origin||The word indemnity has been derived from the Latin term “indemnis” which means unhurt, free from loss.||The word “insurance” has been derived from the french term “enseurance” which means assurance, a guarantee.|
|Role||Indemnification can exist without insurance.||Insurance cannot exist without indemnification.|
|Nature||In an indemnity contract, the affected party will get compensation after the loss has occurred.||In an insurance policy, regular premium payments are made to guard against losses.|
Recent case laws on the contract of indemnity
State Bank of India v. Mula Sahakari Sakhar Karkhana Ltd. (2007)
Facts of the case
The respondent, a cooperative society, entered into a contract with a company for the installation of a paper mill. The company gave a bank guarantee or indemnity for the release. 10% of the retention money from the invoices for materials to be used in the installation reached the location. However, some disputes arose between them, and the respondent terminated the contract and invoked a bank guarantee against the company.
Issues involved in the case
- Whether the company is liable for bank guarantee in this case?
- Whether such a claim be honoured by the bank?
The Court in this case relied on the contract, which stated that the indemnity holder would be indemnified against all losses, damages, etc., and made the supplier liable to pay. The Hon’ble Supreme Court stated that the terms of the contract reveal that it is not a contract of guarantee but a contract of indemnity. The Court also ordered the Bank not to honour the claim made on the contract’s termination without any proof or evidence.
Dodika Ltd. and Ors. v. United Luck Group Holdings Ltd. (2020)
Facts of the case
This is a case that was decided by the England and Wales High Court. In this case, there was a sale and purchase agreement between the parties that related to the disposal of the seller’s share in a company. Dodika demanded final payment because the tax covenant indemnified the buyer for undisclosed tax liabilities. Under the agreement, in order to claim money and be indemnified, it was necessary to serve the notice containing all the necessary details on the other party. This notice was not served by the buyer, i.e., Dodika, to the seller, i.e., United Luck Group. After investigation, notice was served.
Issues involved in the case
Whether the notice served by Dodika to United Luck Group was sufficient to attract the claim according to the agreement?
Judgment of the Court
The Court observed that the notice served by the buyer contained a chronology of events but did not explain how investigations would be done or what the next steps were. The Court held the notice insufficient, and no claim could be made under the agreement. It further held that whether a notice is sufficient enough to claim indemnity under the agreement will be decided on the basis of the terms and words used therein and the details provided in it.
AXA SA v. Genworth Financial Holdings Inc. and Anor. (2019)
Facts of the case
In this case, a global insurer, i.e., AXA, agreed to take shares from Genworth in the two companies. The Sale and Purchase Agreement between the two companies had a reimbursement clause for certain compensation payments, which AXA sought based on mis-selling of payment protection insurance products by the company in case they were acquired.
Issues involved in the case
Whether the payment or reimbursement clause in the agreement was an indemnity or a covenant to pay?
Judgment of the court
The Court in this case had to deal with the question of whether the clause in the agreement was an indemnity clause or an absolute covenant. It was held that the clause was an absolute covenant. While deciding the case, the Court interpreted the ordinary meaning and nature of the clause stated in the agreement. It was observed that the clause did not provide any promise to protect the buyer from the loss suffered by him in the course of business or trade. Furthermore, if it had been indemnity, it would have given rise to a claim for damages rather than debts. Therefore, it is not an indemnity but an absolute covenant.
Landmark judgments on the contract of indemnity
Dugdale v. Lovering (1827)
In this case, the plaintiff was in possession of certain trucks, which were claimed both by the defendant and K.P. Colliery. The defendant demanded delivery of the trucks. As the plaintiff was aware that the ownership of the trucks was claimed by both the defendant and K.P. Colliery, the plaintiff, asked for an indemnity bond from the defendant. A reply was received by the plaintiff, which only demanded delivery and did not mention an indemnity bond. After which, the plaintiff delivered the trucks to the defendant. A suit of conversion was filed against the plaintiff by K.P. Colliery, as per the verdict, for which the plaintiff had to compensate K.P. Colliery. Another suit for indemnity was filed by the plaintiff against the defendant.
It was held that, though there is no express contract of indemnity, there is an implied contract of indemnity. As per the facts of the case, by demanding the indemnity bond, the plaintiff showed his intention that he would not deliver the trucks without indemnity. Having knowledge of this fact, the defendant accepted the delivery of trucks. By accepting, the defendant impliedly promised the plaintiff indemnification. It was held that the defendant was liable to indemnify the plaintiff as the indemnity bond led to the creation of an implied promise.
Gajanan Moreshwar v. Moreshwar Madan (1942)
In this case, the municipal corporation of Bombay leased the plaintiff a piece of property in Bombay. In response to the defendant’s request, the plaintiff granted him possession of the land and built a structure on it, thus rendering the plaintiff to mortgage the land twice for Rs. 5,000. In exchange for the plaintiff being released from all obligations related to the land, the lease of the plot was also transferred into the defendant’s name. However, the defendant did not release the plaintiff from the obligations for which the plaintiff had filed a suit. The plaintiff stated that the defendant shall indemnify him with respect to all liabilities under the mortgage deed.
It was held that if the indemnity holder had to wait until he had paid the actual loss, the value of the indemnification clause would be lost. According to the court’s application of the equity principle, the indemnifier might be required to pay the court a sufficient amount of money that is used to build a fund and pay the claim whenever it is made.
United India Insurance Co. v. Ms. Annan Singh Munshilal (1994)
In this case, the cover note had the consignee’s address. Additionally, before being carried to the destination, the products had to be dropped off at a godown on the route there. When the products were in the godown, they were destroyed by fire. The items were seen as having been lost in transit, and the insurance policy’s provisions held the insurer accountable.
It was decided that an indemnification agreement would not apply in the event of a fire or other disaster. This case held that in cases of fires, etc., it is called a contingent contract and not a contract of indemnity.
Secretary of State v. Bank of India (1938)
In this case, a lady was the holder and endorsee of a 5000 rupee government promissory note. An agent in possession of such a promissory note forged the lady’s signature on the note in his favour and endorsed it for value to the respondent. In accordance with the Indian Securities Act, 1920, the respondent applied to the public debt office in good faith. When the woman became aware of the deception, she filed a conversion lawsuit against the Secretary of State and was awarded damages. After this, a lawsuit was filed by the appellant against the bank, citing implied indemnity.
It was held that the appropriate amount of the claim should be recovered by the appellant from the respondent. Additionally, an express indemnity clause is not required for the pre-existing implied right to indemnity provided by Indian law.
Lala Shanti Swarup v. Munshi Singh (1967)
In this case, the plaintiff-respondent mortgaged a piece of land to Bansidhar and Khub Chand for Rs.12,000/- The appellant purchased half of the land from the rightful owner for Rs.16,000/- Shanti Saran promised to pay the due money, i.e., 13500, to Bansidhar and Khub Chand. Shanti Saran did not pay, thus Bansidhar and Khub Chand filed a lawsuit. The issue was whether there existed an indemnity contract.
It was held that Shanti Saran failed to discharge the encumbrance, which caused a loss to the vendor, and the plaintiff-respondent could sue under the contract of indemnity.
Osman Jamal & Sons v. Gopal (1928)
In this case, the plaintiff is a corporation that acts as a commission agent for the defendant. The plaintiff’s company entered into an agreement with the defendant’s firm in which the plaintiff’s company agreed to operate as the defendant’s commission agent for the purchase and sale of hessian and gunny, charging a commission on all such purchases. The defendant was involved in the purchasing and selling of hessian and gunnies, and the defendant firm guaranteed the plaintiff firm that if any loss occurred, the firm would be indemnified. Thereafter, the plaintiff purchased hessians from Maliram Ramjets; however, the defendant company was unable to pay and take delivery in certain installments, causing the plaintiff’s company to suffer a loss. As a result, Maliram Ramjets sold the product to others at a cheaper price.
An order of the court instructed the plaintiff’s company to wind up and appointed the official liquidator, who filed a suit of recovery claimed by Maliram Ramjets from the defendant firm under a contract of indemnity. Maliram Ramjets sued the plaintiff for the loss, but the plaintiff was in the process of winding up his corporation and requested the defendant to indemnify them. However, the defendant refused to pay the damages and claimed that because of the plaintiff, he was not able to make the payment. The defendant contended that because the plaintiff made no payment to Maliram in relation to the liability, they were not allowed to continue a claim under the contract of indemnity.
It was held that the defendant is liable to indemnify the plaintiff because he promised to do the same. It further stated that indemnity requires that the party to be indemnified never be called upon to pay.
Chand Bibi v. Santosh Kumar Pal (1933)
In this case, the defendant’s father, while acquiring specific property, promised to pay off the plaintiff’s mortgage obligation and indemnify him if they were proven accountable for the debt. The plaintiff sued the defendant’s father to enforce the agreement when the defendant’s father failed to pay off the mortgage obligation. The Court took into consideration the fact that the plaintiff had not yet suffered any loss for which he should be compensated.
It was held that the plaintiff had not suffered any losses and that the suit was premature so far as the cause of action on indemnity was concerned. Moreover, one of the essential conditions of a contract of indemnity is ‘there must be a loss incurred.’
To summarise, indemnity is an obligation or duty imposed on an individual to bear the losses of another. An injured party has the right to shift the loss onto the party responsible for the loss. It is a release from any penalties or liabilities incurred as a result of any conduct. It can also be termed as security from damage, loss, or penalty. In its simplest terms, indemnity requires one party to indemnify the other if certain costs specified in the indemnity contract are incurred by another party.
Further, indemnity is a contract where the promisor is under an obligation to protect the promisee from losses incurred by him due to the promisor’s default or that of any third party. This loss covers the loss due to humans or any agency and not any loss due to accidents like fire or those that are not in control of anyone. The parties are the indemnifier and the indemnity holder, or the indemnified, and a contract to fall under the ambit of indemnity has to fulfil certain essentials that are mentioned in the article. Sometimes, we get confused between indemnity and guarantee because both involve protecting a person from losses. But they both differ from each other in several aspects that are stated above.
In an indemnity deal, one party is responsible for any harm or loss incurred by the other party as a result of the promisor’s or other party’s actions. A simple indemnity provision in a contract does not necessarily resolve liability issues because the law discourages people from attempting to transfer their own liability onto others or attempting to escape liability. Liability problems will never be solved by a simple indemnity clause.
The law is not on the side of those who wish to avoid liability or seek a waiver of responsibility for their conduct. The fundamental reason is that a careless party should not be able to completely shift all claims and damages made against him to another, non-negligent party.
Frequently Asked Questions (FAQS)
Who is a surety under the contract of guarantee?
Surety is a person who acts on behalf of the principal debtor, who borrowed the money from the creditor but failed to pay it back. The surety in this case pays the money to the creditor and is entitled to recover it from the principal debtor.
Is insurance covered under the contract of indemnity in India?
No, the contract of insurance is not covered under the ambit of indemnity in India, unlike England, where insurance other than life insurance is a kind of contract of indemnity.
What is the main objective of a contract of indemnity?
The purpose of indemnity is to protect the indemnity holder from losses or damages caused by the conduct of the indemnifier or any other person.
What is the difference between indemnity and warranty?
Under a contract of indemnity, payment is made for the loss incurred, but under a warranty, damages are paid when the said fact about the quality of the product or its characteristics turns out to be false.
Can the terms of the contract of indemnity be changed?
Yes, the terms of a contract of indemnity can be changed with the mutual consent of both parties to the contract.
Can a contract of indemnity be made orally?
Yes, the law does not restrict the oral contract of indemnity. However, it is always advisable to have a written contract in place.
What is medical indemnity insurance?
Medical indemnity insurance is a type of professional indemnity insurance. It is explicitly referred to as the medical profession. If the doctor’s carelessness is established in a lawsuit, this indemnity insurance would reimburse the party that has suffered a loss as a result of the doctor’s negligence.
- Dr. R.K. Bangia, “Contract-II”, ed. 7, 2017, Allahabad Law Agency
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