Contract -II , unit-1

UNIT-I
By
Smt.Sowmya.K M.A., LL.M
Assistant Professor in School of Law
Manasagangotri, UOM
Mysore, Karnataka

Unit-I
Contract of indemnity, guarantee, bailment, and pledge
Definition, nature and scope – Rights of Indemnity holder to
indemnify, commencement of the indemnifier's liability. Contract of
Guarantee.
Definition, nature and scope, Difference between contract of
indemnity and guarantee. Right of surety -Discharge of surety -kinds
of guarantee, extent of surety's 1iahitity.
The place of consideration and the criteria for ascertaining the
existence of consideration in guarantee contracts. Position of minor
and validity of guarantee when minor is the principal debtor, creditor
or surety. Continuing guarantee. Nature of surety's liability Duration
and termination of such liability, Illustrative situations of existence
of continuing guarantee. Creation and identification of continuing
guarantees. Letters of credit and bank guarantees as instances of
guarantee transactions;
Definition - Difference between pledge and bailment rights of
Pawnee and Pawnor, Pledger and pledge Other statutory regulations
(State & Centre)regarding pledge, reasons for the same
2
Smt.Sowmya.K School of Law, UOM.

Smt.Sowmya.K School of Law, UOM. 3

1. Contract Of Indemnity
2. Guarantee
3. Bailment, And
4. Pledge
4

CONTRACT OF INDEMNITY
Contract of indemnity meaning is a special kind of contract. The term
‘indemnity’ literally means “security or protection against a loss” or
compensation. According to Section 124 of the Indian Contract Act, 1872 “A
contract by which one party promises to save the other from loss caused to
him by the conduct of the promisor himself, or by the conduct of any other
person, is called a contract of indemnity.” Example: P contracts to indemnify
Q against the consequences of any proceedings which R may take against Q in
respect of a certain sum of money.
OBJECTIVE OF CONTRACT OF INDEMNITY
The objective of entering into a contract of indemnity is to protect the promisee
against unanticipated losses.
PARTIES TO THE CONTRACT OF INDEMNITY
A contract of indemnity has two parties.
1. The promisor or indemnifier
2. The promisee or the indemnified or indemnity-holder
In the above-stated example,
P is the indemnifier or promisor as he promises to bear the loss of Q.
Q is the promisee or the indemnified or indemnity-holder as his loss is covered
by P.
6

ESSENTIALS OF CONTRACT OF INDEMNITY
1) PARTIES TO A CONTRACT: There must be two parties, namely,
promisor or indemnifier and the promisee or indemnified or
indemnity-holder.
2) PROTECTION OF LOSS: A contract of indemnity is entered into
for the purpose of protecting the promisee from the loss. The loss may
be caused due to the conduct of the promisor or any other person.
3) EXPRESS OR IMPLIED: The contract of indemnity may be
express (i.e. made by words spoken or written) or implied (i.e.
inferred from the conduct of the parties or circumstances of the
particular case).
4) ESSENTIALS OF A VALID CONTRACT: A contract of indemnity
is a special kind of contract. The principles of the general law of
contract contained in Section 1 to 75 of the Indian Contract Act, 1872
are applicable to them. Therefore, it must possess all the essentials of
a valid contract.
5) NUMBER OF CONTRACTS: In a contract of Indemnity, there is
only one contract that is between the Indemnifier and the
Indemnified.
7

RIGHTS OF PROMISEE/ THE INDEMNIFIED/ INDEMNITY HOLDER
As per Section 125 of the Indian Contract Act, 1872 the following rights are
available to the promisee/ the indemnified/ indemnity- holder against the promisor/
indemnifier, provided he has acted within the scope of his authority.
1) RIGHT TO RECOVER DAMAGES PAID IN A SUIT [SECTION
125(1)]: An indemnity-holder has the right to recover from the indemnifier
all damages which he may be compelled to pay in any suit in respect of any
matter to which the contract of indemnity applies.
2) RIGHT TO RECOVER COSTS INCURRED IN DEFENDING A SUIT
[SECTION 125(2)]: An indemnity-holder has the right to
recover from the indemnifier all costs which he may be compelled to pay in
any such suit if, in bringing or defending it, he did not contravene the orders
of the promisor, and acted as it would have been prudent for him to act in the
absence of any contract of indemnity, or if the promisor authorized him to
bring or defend the suit.
3) RIGHT TO RECOVER SUMS PAID UNDER COMPROMISE
[SECTION 125(3)]: An indemnity-holder also has the right to recover from
the indemnifier all sums which he may have paid under the terms of any
compromise of any such suit, if the compromise was not contrary to the
orders of the promisor, and was one which it would have been prudent for the
promisee to make in the absence of any contract of indemnity, or if the
promisor authorized him to compromise the suit
4) RIGHT TO SUE FOR SPECIFIC PERFORMANCE- The indemnity
holder is entitled to sue for specific performance if he has incurred absolute
liability and the contract covers such liability.
8

COMMENCEMENT OF LIABILITY OF PROMISOR/ INDEMNIFIER
Indian Contract Act, 1872 does not provide the time of the commencement of
the indemnifier’s liability under the contract of indemnity. But different
High Courts in India have held the following rules in this regard:
1. Indemnifier is not liable until the indemnified has suffered the loss.
2. Indemnified can compel the indemnifier to make good his loss
although he has not discharged his liability.
In the leading case of Gajanan Moreshwar vs. Moreshwar
Madan(1942), an observation was made by the judge that “ If the
indemnified has incurred a liability and the liability is absolute, he is
entitled to call upon the indemnifier to save him from the liability and pay it
off”.
Thus, Contract of Indemnity is a special contract in which one party
to a contract (i.e. the indemnifier) promises to save the other (i.e. the
indemnified) from loss caused to him by the conduct of the promisor
himself, or by the conduct of any other person. Section 124 and 125 of the
Indian Contract Act, 1872 are applicable to these types of contracts.
9

Contract of Guarantee
Meaning
Contract of Guarantee means a contract to perform the promises made
or discharge the liabilities of the third person in case of his failure to discharge
such liabilities.
Parties
As per section 126 of Indian Contract Act, 1872, a contract of guarantee has three
parties: –
1. Surety: A surety is a person giving a guarantee in a contract of guarantee. A person
who takes responsibility to pay a sum of money, perform any duty for another
person in case that person fails to perform such work.
2. Principal Debtor: A principal debtor is a person for whom the guarantee is given
in a contract of guarantee.
3. Creditor: The person to whom the guarantee is given is known as the creditor.
For example, Mr. X advances a loan of 25000 to Mr. Y and Mr. Z promise
that in case Mr. Y fails to repay the loan, then he will repay the same. In this case of
a contract of guarantee, Mr. X is a Creditor, Mr. Y is a principal debtor and Mr. Z is
a Surety.
10

ESSENTIAL
Essentials of valid contract
1. Consideration for guarantee
2. Competency of the parties
3. Existence of a recoverable debt
4. No misrepresentation or concealment of facts
5. Conditional liability of surety
6. Concurrence of all the three parties
7. Mode of creation of contract
11

NATURE AND EXTENT OF SURETY‘S LIABILITY
1. Secondary
2. Contingent or dependent
3. Arises immediately on the default of the principal debtor
4. Co-extensive
5. Entitled to limit his liability
6. Continuing guarantee
7. Where the original contract between the principal debtor and creditor become void or
voidable
Bank of Bihar v Damodar Prasad [1969 ]
wherein the defendant guaranteed a bank loan. On default, the defendant was sued.
The trial court held that bank shall enforce the guarantee only after having exhausting its
remedies against the principal debtor. Patna H.C. confirmed the decree. But SC held that it is
on the discretion of creditor whether to first sue the principal debtor or the creditor first. The
very object of guarantee is defeated if the creditor is asked to postpone his remedies against the
surety.
Union of India v Manku Narayan (1987)
It was held that creditor must first proceed against the mortgaged property and then
against the surety for the balance.
12

RIGHTS OF SURETY
 Against the principal debtor
 Right of subrogation
 Right of indemnity
 Right to insist the principal debtor to honour his obligation
 Right to securities with the creditor
 Against the creditor
 Right to request the creditor to proceed against the debtor
 Right of set off
 Right to benefit of creditor’s securities
 Right to require the employer to terminate the employees services
 Right to share reduction
 Against co-sureties
 When liable to contribute equally
 Bound to pay in different sums
 Right to share benefits of securities
 Effect of release of surety
13

DISCHARGE OF SURETY FROM LIABILITY
 By revocation
 By notice
 By death of surety
 By novation
 By act or conduct of creditor
 Variation in the terms of the contract
 Release or discharge of principal debtor
 Compounding with or giving time to the principal debtor
 Creditors act or omission impairing surety eventual remedy
 Loss of security
 By invalidation of contract of guarantee
 Obtained by misrepresentation
 Obtained by concealment
 Co-sureties does not join
 Lacks essential element of a valid contract
 M.V.Shantanarasimhaiah V/S Dena Bank [2002]
An alteration not only discharges the surety from his personal liability but
also releases the property, if any, which the surety had included in the contract.
14

CONTRACT OF BAILMENT (Sec 148)
The word “Bailment” has been derived from the French word “ballier” which
means “to deliver”. Bailment etymologically means ‘handing over’ or ‘change of
possession’.
As per Section 148 of the Act, bailment is the delivery of goods by one person to
another for some purpose, upon a contract, that the goods shall, when the purpose is
accomplished, be returned or otherwise disposed of according to the directions of the
person delivering them.
The person delivering the goods is called the “bailor”. The person to whom they
are delivered is called the “bailee”.
 Ultzen v Nicolls (1894)
Wherein an old customer went into a restaurant, a waiter took his coat and hung it
on a hook behind him. When the customer was about to leave, the coat went
missing. Held that though what the waiter did might be no more than an act of voluntary
courtesy towards the customer, yet the restaurant was held liable as bailee.
 Ram Gulam v Govt of UP [1950 ]
The plaintiff’s ornaments, having been stolen, were recovered by the police and
while in police custody, were stolen again. The plaintiff’s action against the state for loss
was dismissed. Held that the ornaments were not made over to govt under any contract
therefore the govt never occupied the position of bailee and is not liable.

Essentials
1. Contract: Bailment is based upon a contract. The contract may be express or implied. No
consideration is necessary to create a valid contract of bailment.
2. Delivery of goods: It involves the delivery of goods from one person to another for some
purposes. Bailment is only for moveable goods and never for immovable goods or money. The
delivery of the possession of goods is of the following kinds:
3. Actual Delivery: When goods are physically handed over to the Bailee by the bailor. Eg: delivery
of a car for repair to workshop
4. Constructive Delivery: Where delivery is made by doing anything that has the effect of putting
goods in the possession of the Bailee or of any person authorized to hold them on his behalf. Eg:
Delivery of the key of a car to a workshop dealer for repair of the car.
5. Purpose: The goods are delivered for some purpose. The purpose may be express or implied.
6. Possession: In bailment, possession of goods changes. Change of possession can happen by
physical delivery or by any action which has the effect of placing the goods in the possession of
Bailee. The change of possession does not lead to change of ownership. In bailment, bailor
continues to be the owner of goods as there is no change of ownership. Where a person is in
custody without possession he does not became a Bailee.
7. Bailee is obliged to return the goods physically to the bailor: The goods should be returned in
the same form as given or may be altered as per bailor’s direction. It should be noted that
exchange of goods should not be allowed. The Bailee cannot deliver some other goods,even not
those of higher value. Deposit of money in a bank is not bailment since the money returned by the
bank would not be identical currency notes.

Duties of bailor
The duties of bailor are spelt out in a number of Sections [Section 150, 158, 159, 164]
1. Bailor’s duty to disclose faults in goods bailed [Section 150]
 Hyman & Wife v. Nye & Sons (1881), A hired from B a carriage along with a pair of
horses and a driver for a specific journey. During the journey a bolt in the under-part of
the carriage broke away. As a result of this, the carriage became upset and A was
injured. It was held that B was liable to pay damages to A for the injury sustained by
him. The court observed that it was the bailor’s duty to supply a carriage fit for the
purpose for which it was hired.
 Sometimes, the goods bailed are of dangerous nature (e.g., explosives). In such cases it
is the duty of the bailor to disclose the nature of goods. [Great Northern Ry’.case
(1932)]
2. Duty to pay necessary expenses [Section 158]
3. Duty to indemnify the Bailee for premature termination [Section 159]
4. Bailor’s responsibility to bailee [Section 164]: The bailor is responsible to the bailee
for the following:
a) Indemnify for any loss
b) It is the duty of the bailor to receive back the goods

Duties of bailee
1. Take reasonable Care of the goods (Section 151 & 152):
2. Not to make inconsistent use of goods (section 153 & 154):
3. Not to mix the goods (Section 155, 156 and 157):
4. Return the goods (Section 160 & 161):
5. Return an accretion from the Goods [Section 163]:
[Shaw & Co, V/S Symmons and Sons (1917)]
6. Not to setup Adverse Title:

Rights of Bailor
Rights of Bailor: Broadly rights of bailor are also the duty of the bailee (under Sec.
151,154,155 and 157) In addition to that, the bailor has the following other rights also.
a) Right of termination of bailment – Sec 153
b) Right to demand the goods back – Sec 159
c) Right to demand the return of goods on completion of bailment – Sec 160
d) Right to claim any increase or profit – Sec 163
e) Right to file a suit against the wrong doer – Sec 180
Rights of Bailee
Rights of bailee: As a matter of fact, all the duties of the bailor are the rights
of the bailee. In addition to that, the bailee has the following other rights also.
1. Right to claim compensation in case of faulty goods (Sec. 150)
2. Right to claim extraordinary expenses (Sec. 158)
3. Right of indemnification in case of gratuitous bailment [Section 159]
4. Right of indemnification in case of defective title [Section 164]
5. Right to Deliver the Goods to any one of the Joint Bailors [Section 165]
6. Right to deliver the goods to the bailor in good faith (Sec. 166)
7. Right to Apply to Court to Decide the Title to the Goods/Interplead[Section 167]
8. Right to claim damages in case of bailor’s refusal to receive back the goods
9. Right of lien for payment of services [Section 170]
10. Suit by bailor & bailee against wrong doers [Section 180]
11. Apportionment of relief or compensation obtained by such suits [Section181]

Rights of Finder of Goods as Bailee [Section 168 & 169]
The right of Lien
According to section 168 of the Indian Contract Act, 1872 “finder of
the lost goods can exercise his right of particular lien if the actual owner
refuses to make the payment of the expenses incurred to preserve those
goods or to find the actual owner. But finder of the lost goods cannot sue
him for the same.”
For instance, X finds Z’s wallet and gives it to him. Z promises X to
give him Rs. 100 for the same. This is a contract of bailment and Z is
bound to pay the reward.
Right to sell the goods found:
According to section 169 of the Indian Contract Act, 1872 finder of
the lost goods also have the right to sell the goods on certain
circumstances i.e. either he could not find the actual owner after taking all
due diligence or the goods or of such nature that their value might perish.
1. Right to Compensation (164)
2. Right to necessary expenses or remuneration (158)
3. Right of Lien (170 &171)

Right of lien and its types
1. Bailee’s particular lien [Section 170]:
Where the bailee has, in accordance with the purpose of the bailment, rendered any service
involving the exercise of labour or skill in respect of the goods bailed, he has, in the absence of a
contract to the contrary, a right to retain such goods until he receives due remuneration for the services
he has rendered in respect of them.
Example 1: A delivers a rough diamond to B, a jeweller, to be cut and polished, which is accordingly
done. B is entitled to retain the stone till he is paid for the services he has rendered.
Example 2: A gives cloth to B, a tailor, to make into a coat. B promises A to deliver the coat as soon as it
is finished, and to give a three months’ credit for the price. B is not entitled to retain the coat until he is
paid.
2. General lien of bankers, factors, attorneys and policy brokers [Section 171]:
Bankers, factors, attorneys of a High Court and policy brokers may, in the absence of a
contract to the contrary, retain, as a security for a general balance of account any goods bailed to them;
but no other persons have a right to retain, as a security for such balance, goods bailed to them, unless
there is an express contract to the effect.
Bankers, factors, policy brokers and attorneys of law have a general lien in respect of goods which
come into their possession during the course of their profession.
For instance, a banker enjoys the right of a general lien on cash, cheques, bills of exchange
and securities deposited with him for any amounts due to him. For instance, ‘A’ borrows ` 500/-
from the bank without security and subsequently again borrows another `1000/- but with security
of say certain jewellery. In this illustration, even where ‘A’ has returned `1000/- being the second
loan, the banker can retain the jewellery given as security to the second loan towards the first loan
which is yet to be repaid.
Under the right of general lien the goods cannot be sold but can only be retained for dues. The right
of lien can be waived through a contract.

PLEDGE (Sec 172)
Pledge
“Pledge”, “pawnor” and “pawnee” defined [Section 172]: The
bailment of goods as security for payment of a debt or performance of a
promise is called “pledge”. The bailor is in this case called the “pawnor”.
The bailee is called the “pawnee”.
Pledge is a variety or specie of bailment. There is no change in ownership of
the property.
Example: A lends money to B against the security of jewellery deposited by B
with him i.e. A. This bailment of jewellery is a pledge as security for
lending the money. B is a pawnor and A is a pawnee.
 Case: Morvi Merchantile Bank v Union of India [1965 ]:
Certain goods were consigned with the railways to “self” from
Bombay for transit to Okhla. The consigner endorses the railway receipts to
the appellant bank against an advance of Rs.20,000. The goods having been
lost in the transit, the bank as endorsee of the railway receipts and pawnee
of goods sued the Railways for the loss. Held that delivery of railway
receipts was the same thing as delivery of goods therefore it was valid
pledge and pawnee was entitled to sue for the loss.
22

 ESSENTIALS OF PLEDGE:
Since Pledge is a special kind of bailment,
therefore all the essentials of bailment are also the
essentials of the pledge. Apart from that, the other
essentials of the pledge are:
1. There shall be a bailment for security against
payment or performance of the promise,
2. The subject matter of pledge is goods,
3. Goods pledged for shall be in existence,
4. There shall be the delivery of goods from pledger to
pledgee,
23

PAWNEE’S RIGHTS
Rights of Pawnee can be classified as under the
following headings:
1. Right to retain the pledged goods [Section 173]
2. Right to retention of subsequent debts [Section
174]
3. Pawnee’s right to extraordinary expenses
Incurred [Section 175]
4. Pawnee’s right where pawnor makes default
[Section 176]

Duties of the Pawnee
Pawnee has the following duties:
 Duty to take reasonable care of the pledged goods
 Duty not to make unauthorized use of pledged goods
 Duty to return the goods when the debt has been repaid or the
promise has been performed
 Duty not to mix his own goods with goods pledged
 Duty not to do any act which is inconsistent with the terms of the
pledge
 Duty to return accretion to the goods, if any.
Rights of Pawnor
As the bailor of goods pawnor has all the rights of the bailor-
Right to redeem [Section 177]: If a time is stipulated for the payment of
the debt, or performance of the promise, for which the pledge is made,
and the pawnor makes default in payment of the debt or performance of
the promise at the stipulated time, he may redeem the goods pledged at
any subsequent time before the actual sale of them; but he must, in that
case, pay, in addition, any expenses which have arisen from his default.

Duties of Pawnor
Pawnor has the following duties:
 The pawnor is liable to pay the debt or perform the promise as the case may
be.
 It is the duty of the pawnor to compensate the Pawnee for any extraordinary
expenses incurred by him for preserving the goods pawned.
 It is the duty of the pawnor to disclose all the faults which may put the
pawnee under extraordinary risks.
 If loss occurs to the pawnee due to defect in pawnors title to the goods, the
pawnor must indemnify the pawnee.
 If the Pawnee sells the good due to default by the pawnor, the pawnor must
pay the deficit.
26

Sl.No Bailment Pledge
1 Sections 148 to 171 of the Indian Contract Act 1872 deals
with bailment
Sections 172 to 181 of the Indian Contract Act deals
with Pledge.
2 The term bailment is derived from the French word
‘Bailor’, which means ‘to deliver. It means possession
voluntarily from one person to another.
Pledge is a special kind of bailment. If the goods are
bailed as a security for payment of a debt or
performance of a promise, it is called Pledge.
3 Delivery of goods by Bailor to Bailee for a definite
purpose on condition of their return or disposal, when
purpose is accepted. (Section.148, I.C.A) Example: Sam
delivers a cloth to John, a tailor making a shirt. The
contract between Sam and John is bailment
The Bailment of goods as security for payment of a
debt or performance of a promise is called pledge.
(Section.178, I.C.A) Example: If a Farmer delivers to
bank 50 bags of wheat as security for obtaining a
loan, it is called pledge.
4 It is made for any purpose. Bailment may be for purpose
other than by way of providing security for a loan or
fulfillment of an obligation. It may be for purpose like
repairs, safe custody, etc.
It is made for specific purpose. Pledge is bailment of
goods for a specific purpose, i.e. to provide a security
for a loan or fulfillment of an obligation.
5 The Bailee can use the goods. Bailee can use the goods
bailed as per terms of contract.
Pledgee cannot use the goods. Pledgee has no right of
using goods pledged.
6 The Bailee has no right to sell the goods bailed The Pledgee / Pawnee has a right to sell the goods
pledged if the pledger could not redeem them within
the stipulated period.
7 Bailee can exercise lien on goods only for labour and
service
Pledgee can exercise lien even for non payment of
interest.
8 Sale of Goods-There is no right of sale to the
Bailee. Bailee may either – (a) retain goods, or (b) sue the
Bailor for non – payment of hisdues.
Sale of Goods-Pawnee, i.e. Pledgee has a right of sale
of goods pledged on default of Pawnor. He can do so
by giving a notice to the pawnor.

Contract -II , unit-1

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