Guarantee

Notes
Program Name- Master of Business Administration (MBA)

Course Name- Legal Aspects of Business Sem- I
Unit Number- 1 Unit Name- The Contract Act, 1872
Topic Name – Guarantee
Introduction:
Contract of Guarantee is a contract to perform the promise or to discharge the liability of the
third person in case his default. Contract of guarantee involves three parties: Principal Debtor,
Surety and Creditor. There are three types of contracts. Contract of indemnity, contract of
guarantee and loan agreement. Contract of indemnity is between Surety and Principal Debtor;
loan agreement is between Principal Debtor and Creditor and Contract of guarantee is between
Surety and Creditor. This type of contract is also known as the Tripartite Contract.
Content:
Contract of Guarantee refers to a contractual arrangement in which one party gives a
guarantee for another regarding the fulfillment of a promise or repayment of the debt when
the latter fails to discharge the liability or perform the undertaking.
Guarantee means to stand for another person and in a contract of guarantee, the surety
assures repayment of the loan on behalf of the one, who has taken the loan but failed to repay.
Therefore, it aims at protecting the other party from suffering loss.
Ex: Suppose Mr. Shah gives a promise to Mr. Joshi, that if he extends 5 lakh rupees to Mr. Rao,
for a period of 2 years at an interest of 5% and Mr. Rao defaults in payment, Mr. Shah will repay
the debt. This creates a contract of guarantee between Mr. Shah (surety) and Mr. Joshi (the
creditor). Here, Mr. Rao is the principal debtor.
Parties Involved in a Contract of Guarantee
The three parties that take part in a contract of guarantee are:
• Principal Debtor: He/she is the one who defaults in the payment of debt and therefore,
guarantee is given by another party.
• Creditor: One who extends credit to the Principal Debtor and to whom the guarantee is given.
• Surety: The one who gives assurance to the creditor that he/she will pay the debt in case the
principal debtor defaults.
A contract of guarantee could also be for Associate in Nursing existing liability or future liability.
A contract of guarantee may be a particular guarantee (for any specific dealings only) or
continued guarantee.
There are two sorts of guarantee contracts: specific guarantee and ongoing guarantee. A
specific or simple guarantee is one that is made in respect of a single debt or unique transaction
and is set to expire when the guaranteed debt is paid or the promise is fulfilled. An ongoing
guarantee, on the other hand, is a guarantee that covers a series of transactions (Section129).
In this instance, the surety's liability would remain until all of the transactions were completed
or the guarantor revoked the guarantee for future transactions.
• Specific Guarantee
a particular guarantee is for one debt or any specific dealings. It involves associates
finishing once such debt has been paid.
• Continuing Guarantee
Act in 1872 defines Continuing Guarantee- A continuing guarantee is a form of
assurance that covers many transactions. Until the surety revokes it, it applies to all
transactions engaged into by the principal debtor. As a result, bankers prefer a
continuing guarantee because the guarantor's duty is not limited to the original
advances and extends to all subsequent defaults.
Essential features:
1. Concurrence of All the Parties
All the three parties namely, the principal debtor, the creditor and the surety must agree to
make such a contract.
2. Liability
In a contract of guarantee, liability of the surety is secondary i.e., the creditor must first
proceed against the debtor and if the latter does not perform his promise, then only he can
proceed against the surety.
3. Existence of a Debt
A contract of guarantee pre-supposes the existence of a liability, which is enforceable at law. If
no such liability exists, there can be no contract of guarantee. Thus, where the debt, which is
sought to be guaranteed is already time barred or void, the surety is not liable.
4. Consideration
There must be consideration between the creditor and the surety so as to make the contract
enforceable. The consideration must also be lawful. In a contract of guarantee, the
consideration received by the principal debtor is taken to be the sufficient consideration for the
surety.
Thus, any benefit received by the debtor is adequate consideration to bind the surety. But past
consideration is no consideration for a contract of guarantee. There must be a fresh
consideration moving from the creditor.
5. Writing not Necessary

A contract of guarantee may either be oral or written. It may be express or implied from the
conduct of parties.
6. Essentials of a Valid Contract

It must have all the essentials of a valid contract such as offer and acceptance, intention to
create a legal relationship, capacity to contract, genuine and free consent, lawful object, lawful
consideration, certainty and possibility of performance and legal formalities.
7. No Concealment of Facts
The creditor should disclose to the surety the facts that are likely to affect the surety’s liability.
The guarantee obtained by the concealment of such facts is invalid. Thus, the guarantee is
invalid if the creditor obtains it by the concealment of material facts.
8. No Misrepresentation
The guarantee should not be obtained by misrepresenting the facts to the surety. Though the
contract of guarantee is not a contract of uberrimae fidei i.e., of absolute good faith, and thus,
does not require complete disclosure of all the material facts by the principal debtor or creditor
to the surety before he enters into a contract. But the facts, that are likely to affect the extent
of surety’s responsibility, must be truly represented
Summary:
❖ The contract of guarantee is a specific contract for which the Indian Contract Act has
laid some rules. As we have discussed, the basic function of a contract of guarantee is to
protect the creditor from loss and to give him confidence that the contract will be
enforced with the promise of the surety.
❖ Every contract of guarantee has three parties and there exist two types of guarantees
i.e. specific guarantee and continuing guarantee. The type of Guarantee used depends
on the situation and the terms of the contract.
❖ The surety has some rights against the other parties and liability of the surety is
considered to be co-extensive with that of the principal debtor unless it is otherwise
provided by the contract. In case the contracts are entered into by misrepresentation
made by the creditor regarding material circumstances or by concealment of material
facts by the creditor, the contract will be considered invalid.
Self-Assessment Questions:
1. A Contract of Guarantee is a -------------- agreement.
A) Bipartite agreement
B) Tripartite agreement
C) Either (A) or (B)
D) None of these
2. Which one of the following is not a party to a contract of guarantee?
A) Principal Debtor
B) Creditor
C) Surety
D) Pawnor
3. A guarantee obtained by means of keeping silence as to material circumstances is --------
A) Valid
B) Void
C) Invalid
D) Voidable
4. On whose request the surety should give the guarantee:
A) At the request of the principal

B) At the request of the banker
C) At the request of the debtor
D) At the request of the creditor
5. On whose default, the promise of discharge of liability is given in contract of guarantee?
A) Principal Debtor
B) Subsidiary Debtor
C) Principal Guarantor
D) All above
6. Which type of guarantee is given for series of transaction?
A) General guarantee
B) Continuous guarantee
C) General and continuous guarantee
D) Implied guarantee

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Notes

Program Name- Master of Business Administration (MBA)

The three parties that take part in a contract of guarantee are:

5. Writing not Necessary

6. Essentials of a Valid Contract

3. A guarantee obtained by means of keeping silence as to material circumstances is --------

A) At the request of the principal

5. On whose default, the promise of discharge of liability is given in contract of guarantee?

6. Which type of guarantee is given for series of transaction?

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