A surety has certain rights against the principal debtor, the creditor and the co-sureties. His rights against each one of them are being discussed hereunder :
Rights against the Principal Debtor
1. Right of Subrogation (Section 140)
When the principal debtor makes a default in the performance of his duty, and on such a default, the surety makes the necessary payment or makes performance of all what he is liable for, he becomes invested with all the rights which the creditor had against the principal debtor. In other words, the surety steps into the shoes of the creditor and by an action against the principal debtor, he can recover from him all that, which could have been recovered by the creditor. This is known as surety’s right of subrogation.
“Section 140 Rights of surety on payment or performance- Where a guaranteed debt has become due, or default of the principal debtor to perform a guaranteed duty has taken place, the surety, upon payment or performance of all that he is liable for, is invested with all rights which the creditor had against the principal debtor.”
Section 145 of the Indian Contract Act, 1872, further explains that after the surety has made the payment or performed the duty on default of the principal debtor, he is conferred with the same rights which the creditor had against the principal debtor. This means that firstly, the surety can claim indemnity from the principal debtor for all the sums he has rightfully paid under the guarantee. And secondly, he is also entitled to the benefits of every security which the creditor has against the principal debtor when the contract of suretyship is entered into.
2. Right of indemnity against the principal debtor (Section 145)
In a contract of guarantee, when the principal debtor makes a default, the surety has to make the payment to the creditor. This payment is made by him on behalf of the principal debtor. After making such payment, he can recover the same from the principal debtor. Such a claim can be made by the surety only in respect of the sums he has rightfully paid under the guarantee, but not the sums which he has paid wrongfully. Section 145 contains the following provisions in this regard :
“Section 145. Implied promise to indemnify surety— 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 the guarantee, but no sums which he has paid wrongfully.”
Surety’s right of indemnity is only in respect of the payments, rightfully made by him. This point may be explained by the following illustration:
(a) B is indebted to C, and A is surety for the debt. C demands payment from A, and on his refusal, sues him for the amount. A defends the suit, having reasonable ground for doing so but he is compelled to pay the amount of the debt with costs. He can recover from B the amount paid by him for costs, as well as the principal debt.
If there is no justification for the surety to make some payment, i.e., the amount has been paid by him wrongfully, he cannot claim any indemnity in respect of such payment. The following illustrations explain the point :
(b) C lends B a sum of money, and A, at the request of B, accepts a bill of exchange drawn by B upon A to secure the amount. C, the holder of the bill, demands payment of it from A, and on A’s refusal to pay sues him upon the bill. A, not having reasonable grounds for so doing, defends the suit and has to pay the amount of the bill and costs. He can recover from B the amount of the bill, but not the sum paid for costs, as there was no real ground for defending the action.
(c) A guarantees to C, to the extent of 2,000 rupees, payment for rice to be supplied by C to B. C supplies to B rice for a less amount than 2,000 rupees but obtains from A payment of the sum of 2,000 rupees in respect of the rice supplied. A cannot recover from B more than the price or the rice actually supplied.
In C.K. Aboobacker v. K.P. Ayishu A.I.R. 2000 NOC 29 Kerala, it has been held by the Kerala High Court that a guarantor is liable for any payment or performance or any obligation only to the extent the principal debtor has defaulted. If a substantial portion of the loan has been paid by the principal debtor, the guarantor is to pay only the balance due. According to Section 145, after the surety has paid the amount, the principal debtor should indemnify the surety for everything the surety has rightfully paid under the contract of guarantee.
Right against the Creditor
Right to securities with the creditor (Section 141).
It has been noted above that after the surety has performed his duty under the contract of guarantee, he is subrogated to all the rights which are available to the creditor against the principal debtor. Section 141 makes a further provision in that regard, according to which a surety is entitled to the benefit of every security which the creditor has against the principal debtor at the time when the contract of suretyship is entered into. It is, however, not necessary that at the time of making the contract, the surety should be aware of the securities which the creditor had. It becomes the duty of the creditor not to lose or part with such securities belonging to the principal debtor which he possesses at the time of making of the contract of guarantee. If the creditor, without the consent of the surety, loses or parts with such securities, this is an act prejudicial to the interest of the surety and he is discharged thereby. Section 141, which makes a provision in this regard is as under:
“Section 141. Surety’s right to benefit of creditor’s securities-A surety is entitled to the benefit of every security which the creditor has against the principal debtor at the time when the contract of suretyship is entered into, whether the surety knows of the existence of such security or not; and, if the creditor loses, or without the consent of the surety, parts with such security, the surety is discharged to the extent of the value of the security.”
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Securities received by the creditor at the time of contract of guarantee
It may be noted that the surety is entitled to the benefit of such securities which the creditor has against the principal debtor at the time when the contract of suretyship is entered into. If the creditor loses the securities possessed by him at the time of making of the contract, that results in the discharge of the surety to that extent. This would be clear from the following illustrations :
(a) C advances to B, his tenant, 2,000 rupees on the guarantee of A. C has also a further security for 2,000 rupees by mortgage of B’s furniture. C cancels the mortgage. B becomes insolvent, and C sues A on his guarantee. A is discharged from the liability to the amount of the value of the furniture.
(b) C, a creditor, whose advance to B is secured by a decree, receives also guarantee for that advance from A. C afterwards takes B’s goods in execution under the decree, and then, without the knowledge of A, withdraws the execution, A is discharged.
In State of M.P. v. Kaluram A.I.R. 1967 S.C. 1105, the surety was discharged by the loss of security by the creditor. The facts of the case are as follows. The respondent, Kaluram, was a surety for the payment of felled trees which were sold by the appellant to one Jagat Ram. The buyer of the trees was to make the payment in four instalments. He paid only one instalment and then defaulted. The appellant had a right under the contract to prevent the purchaser from removing the trees when he was in default. The appellant failed to do so. The Court held that the appellant, by allowing the buyer to take away the trees, had allowed the security to be lost, and the surety was, therefore, discharged to that extent.
Loss of securities without creditor’s negligence
Loss of the securities by the creditor results in the discharge of the surety. If, however, the hypothecated securities are lost without any fault of the creditor, the surety is not discharged thereby.
Securities received by the creditor after the contract of guarantee
It has been noted above that according to Section 141, a surety is entitled to the benefit of every security which the creditor has at the time when the contract of suretyship is entered into. It means that the surety has no right to those securities which the creditor obtained from the principal debtor after making the contract of guarantee. Therefore, if a creditor parts with the securities which he had obtained subsequent to the making of the contract of guarantee, the surety will not be discharged as a consequence of the loss of such securities. This would be clear from the following illustration :
(c) A, as surety for B, makes a bond jointly with B to C, to secure a loan from C to B. Afterwards, C obtains from B a further security for the same debt. Subsequently, C gives up the further security. A is not discharged.
On this point English law is different from the Indian law as discussed above. According to English law, a surety is entitled to the benefit of even those securities which the creditor had received after making of the contract of guarantee.
Surety has no right to goods in hypothecation
It may be noted that according to Section 141, the surety is entitled to the benefit of such goods which are with the creditor. It covers situations where the goods are pledged to the creditor and he has the possession of the goods. If he loses or parts with the goods, the surety is discharged thereby. In case there is hypothecation of the goods, the goods remain in the possession of the borrower. The hypothecatee does not have the possession of the goods and there is no question of his losing or parting with the same. If, therefore, the hypothecated goods are lost without any fault of the creditor, that will not discharge the surety. In other words, since in possession of the goods, the surety cannot invoke the provision of the case of the hypothecated goods, the creditor does not have the Section 141 in such case.( Bank of India v. Yogeshwar Kant Wadhera, A.I.R. 1987 P & H 176 (D.B.) Single Bench decision in S.B.I. v. Quality Bread Factory Batala, A.I.R. 1983 P. & H. 244 overruled.)
Right of the surety who guarantees a part of the debt
Where a surety has guaranteed only a part of the debt and he pays the same, although creditor’s claim has not yet been fully recovered, can the surety be entitled to part of the securities which are with the creditor? On this question, there is a difference of opinion between the High Courts. According to one view expressed by the Bombay High Court in Goverdhandas v. Bank of Bengal (1891) 15 Bom. 48, creditor’s right to securities is paramount to the surety’s claim over them, and, therefore, the creditor cannot be asked to part with any part of the same until his claim has been fully satisfied. The contrary view has been expressed by the Madras High Court in Bhushayya v. Suryanarayana A.I.R. 1944 Mad. 195; I.L.R. (1944) Mad. 340 It was held in this case that when a part of the claim of the creditor has been satisfied, but the surety has done all he was required to do under the contract, he is entitled to the benefit of the securities in proportion to that. It may be submitted that the view expressed by the Bombay High Court appears to be a better one. The object of Section 141 appears to be that the creditor should not lose or part with the securities and he should preserve them for the benefit of the surety, rather than asking the creditor to part with them in favour of a surety, when a portion of his claim has yet to be met.
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Right against the Co-sureties
Right of contribution against co-sureties (Sections 146 & 147)
Section 146 makes the following provision regarding the liability of the co-sureties when there are two or more co-sureties for the same debt.
“Section 146. Co-sureties liable to contribute equally. When two or more persons are co-sureties for the same debt or duty, either jointly or severally, and whether under the same or different contracts, and whether with or without the knowledge of each other, the co-sureties, in the absence of any contract to the contrary, are liable, as between themselves, to pay each an equal share of the whole debt, or of that part of it which remains unpaid by the principal debtor.”
The duty of the co-sureties is to contribute equally. This is so when they are co-sureties for the same debt. It is immaterial that they have undertaken a duty either jointly or severally, or under the same or different contracts, or with or without the knowledge of each other. For instance, A, B, and C are sureties to D for the sum of 3,000 rupees lent to E. E makes default in payment. A, B and C are liable, as between themselves, to pay, 1,000 rupees each.
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Contract to the contrary
The co-sureties are free to agree that as between themselves their liability shall not be equal, but according to certain other proportions. For instance, A, B and C are sureties to D for the sum of 1,000 rupees lent to E, and there is a contract between A, B and C, that A is to be responsible to the extent of one quarter, B to the extent of one quarter, and C to the extent of one-half. E makes default in payment. As between the sureties, A is liable to pay 250 rupees, B 250 rupees and C 500 rupees.
Contribution
It may be noted that the above stated provision mentions the liability of the sureties as between themselves. Sometimes one of the co-sureties may have paid more than his share of liability to the creditor. When that is so, he can claim contribution from his co-sureties in accordance with the above stated provision. For example, A, B and C are co-sureties to D for the sum of Rs. 1,000 lent to E. By a contract between them, they decide that for this debt the liability of A, B and C shall be Rs. 250, Rs. 250 and Rs. 500, respectively. E makes a default. D the whole of Rs. 1,000 from A. A can claim contribution of Rs. 250 from B and Rs. 500 from C.
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Co-sureties bound in different sums (Section 147)
Sometimes the sureties may fix the maximum sum up to which their liability can go. There may be different limits as to the amount for which the sureties are to be liable. According to Section 147, “Co-sureties who are bound in different sums are liable to pay equally as far as the limits of their respective obligations permit.” This may be explained by the following illustrations:
(a) A, B and C as sureties for D, enter into three several bonds each in different penalty, namely, A in the penalty of 10,000 rupees, B in that of 20,000 rupees, C in that of 40,000 rupees, conditioned for D’s duly accounting to E. D makes default to the extent of 30,000 rupees. A, B and C are each liable to pay 10,000 rupees.
(b) A, B and C, as sureties for D, enter into three several bonds, each in a different penalty, namely, A in the penalty of 10,000 rupees, B in that of 20,000 rupees, C in that of 40,000 rupees conditioned for D’s duly accounting to B D makes default to the extent of 40,000 rupees. A is liable to pay 10,000 rupees, and B and C 15,000 rupees each.
(c) A, B and C, as sureties for D, enter into three several bonds, each in a different penalty, namely, A in penalty of 10,000 rupees, B in that of 20,000 rupees, C in that of 40,000 rupees, conditioned for D’s duly accounting to E. D makes default to the extent of 70,000 rupees. A, B and C have to pay each the full penalty of his bond.
Release of a co-surety from liability
There is a possibility that one of the co-sureties may be released from the liability while the other co-sureties may still be liable.
In Anil Kumar v. Central Bank of India A.I.R. 1997 H.P. 5., two persons, A and B stood as co-sureties in favour of a bank in respect of loan granted to certain principal debtors. The surety A informed the bank that the principal debtors were likely to wind up their business and, therefore, he withdrew the guarantee. The other surety, B, did not take any such step. It was held that the co-surety A stood released from the liability, and only co-surety B was liable for repayment of loan along with the principal debtors.
Bank Guarantee
A bank guarantee represents an independent contract between the bank and the beneficiary, both the parties would be bound by the terms contained therein. A contract of guarantee by the Bank is a separate and independent contract as between the parties. Therefore, any dispute between the parties in regards to the performance of the contract cannot effect the right of the bank. Further, the question whether an agreement between the parties has rightly been cancelled or not cannot be made an issue for cancellation of the bank guarantee. The guarantee can be invocated in accordance with the terms thereof. The Apex Court in M.G.S.S.K. v. National Heavy Engg. Co-op. Ltd. A.I.R. 2007 S.C. 2716, explained:
“If the bank guarantee furnished is an unconditional and irrevocable one, it is not open to bank to raise any objection whatsoever to pay the amounts under the guarantee. The person in whose favour the guarantee is furnished by the bank cannot be prevented by way of an injunction in enforcing the guarantee on the pretext that the condition for enforcing the bank guarantee in terms of the agreement entered between the parties has not been fulfilled. Such a course is impermissible.”
It has been impressed that the Courts should be slow in granting an injunction to restrain the realization of such a bank guarantee. Commitments of banks, it is said, must be honoured free from interference by the Courts, otherwise, trust in commerce internal and international would be irreparably damaged.
The Courts have, however, carried out two exceptions. Firstly, fraud in connection with the bank guarantee would vitiate the very foundation of such a bank guarantee. In that case if the beneficiary seeks to take advantage, he can be restrained from doing so. The second exception relates to cases where allowing the encashment of an unconditional bank guarantee would result in irretrievable harm or injustice to one of the parties.
Again, in Himadri Chemicals Industries Ltd. v. Coal Tar Refining Company A.I.R. 2007 S.C. 2798, the Apex Court said that “since a Bank Guarantee or a Letter of Credit is an independent and a separate contract and is absolute in nature, the existence of any dispute between the parties to the contract is not a ground for issuing an order or injunction to restrain enforcement of Bank Guarantee or Letters of Credit.”
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In Bank of India v. Nangia Construction (India) Pvt. Ltd. A.I.R. 2008 S.C. 2906, wherein the appellant, a nationalized bank, which had given an unconditional on demand bank guarantee, refused payment when the guarantee was invoked within the validity period. Holding that the conduct of the bank to find excuses for refusing payment as unfortunate, the Apex Court observed:
“The entire trust, faith and confidence of people depend on the conduct and credibility of the nationalized bank. In the present day world, the national and international commercial transactions largely depend on bank guarantees. In case the
banks are permitted to dishonour their commitments by adopting such subterfuges, the entire commercial and business transactions will come to a grinding halt.”
Again, when the Bank guarantee has been given pursuant to a particular contract, it is not open to be encashed against the alleged breach and non-compliance of the conditions of a different contract.
In Jivanlal Joitaram Patel v. National Highways Authority of India A.I.R. 2008 Guj. 181, the petitioner has submitted two bank guarantees dated 10-1-2005 for maintenance of National Highway 14 for a period of 24 months. He submitted bank guarantee for calculation of toll and maintenance of National Highway No. 8-A pursuant to another agreement between the petitioner and the respondents. The respondents having found that there was huge loss caused by the petitioner is not crediting the actual toll, etc. invoked the bank guarantees submitted pursuant to agreement relating to Highway No. 8-A also, the bank guarantee pertaining to National Highway No. 18. Holding that bank guarantee given for performance of a particular contract could not be encashed for alleged breach of another contract.
In Indu Projects Ltd. v. Union of India, AIR 2014 Del. 16, A bank guarantee is an independent and distinct contract between the Bank and the beneficiary, i.e., the guarantee-holder (the creditor). It is an obligation undertaken by the bank to honour and make the payment under the guarantee, when a demand is made by the beneficiary. The bank, which has furnished the bank guarantee is not to look to the terms of the underlying or the main contract entered into between the contractor and the beneficiary.
An unconditional Bank Guarantee is irrevocable and no injunction can be issued to prevent the enforcement of the same. In Assn. of Corporation v. State of Bihar A.I.R. 2000 Bom. 106 there was agreement of bank guarantee and the terms incorporated in the agreement indicated that the same was irrevocable. The body of the Bank Guarantee did not mention any conditions, though some conditions were alleged to be there in the contract between the parties. It was held that it was an unconditional bank guarantee and no injunction can be issued against encashment of the bank guarantee.
In Jivanlal Joitaram Patel v. National Highways Authority of India A.I.R. 2008 Guj. 181, the petitioner had submitted two bank guarantees dated 10-1-2005 for maintenance of National Highway 14 for a period of 24 months. He submitted bank guarantee for calculation of toll and maintenance of National Highway No. 8-A pursuant to another agreement between the petitioner and the respondents. The respondents having found that there was huge loss caused by the petitioner in not crediting the actual toll, etc., invoked the bank guarantee submitted pursuant to agreement relating to Highway No. 8-A as also the bank guarantee pertaining to National Highway No. 14. Holding that Bank guarantee given for performance of a particular contract could not be encashed for alleged breach of another contract, the respondents were restrained from enforcing the bank guarantee in respect of N.H. No. 14.
In Amal Krishna Ray v. Bank of Baroda AIR 2014 (NOC) 179 (Ori.), in the guarantee agreement it was provided that “the guarantee shall be continuing security binding the guarantor and his personal representative until the expiration of three calendar months from the receipt by the Bank of notice in writing to discontinue it and if discontinued, the guarantee shall remain as continuing security for the liabilities of the borrower to the Bank as on the date of receipt of such notice.” 11
In view of the uncontroverted statement by the guarantor that he had posted the letter cancelling the guarantee agreement, the Orissa High Court held that the guarantee agreement could be presumed to have been cancelled on the expiration of three months from date when the notice was sent by the guarantor.
Where the contract of guarantee is silent on the point, the Court cannot of its own introduce a condition, into it
In Bank of Bihar v. Damodar Prasad A.I.R. 1969 S.C. 297, the plaintiff Bank lent money to Damodar Prasad on the guarantee of Paras Nath Sinha. In spite of demands by the bank, the loan was neither repaid by Damodar Prasad (principal debtor), nor by Paras Nath Sinha (the surety). The bank then filed a suit against both the principal debtor and the surety. A decree was passed by the trial Court in favour of the bank but with the condition that the plaintiff bank shall be at liberty to enforce its dues against the surety only after having exhausted its remedies against the principal debtor. The decree was confirmed by the Patna High Court. In appeal, the Supreme Court overruled it and pointed out :
The very object of the guarantee is defeated if the creditor is asked to postpone his remedies against the surety…. The trial Court gave no reason for this extraordinary direction. It said that the principal was solvent. But, the solvency of the principal is not a sufficient ground for restraining execution of the decree against the surety. It is the duty of surety to pay the decrelat amount. On such payment he will be subrogated to the rights of the creditor.
Stating that the surety had no right to restrain execution against him until the creditor had exhausted his remedies against the principal, the Court ruled :
Before payment, the surety has no right to dictate terms to the creditor and ask him to pursue his remedies against the principal in the first instance. In the absence of some special equity, the surety has no right to restrain an action against him by the creditor on the ground that the principal is solvent or that the creditor may have relief against the principal in some other proceedings.
Performance Guarantee by Banks
Sometimes, banks give “performance guarantee” (or performance bond) on behalf of a party to a contract. The bank giving such a guarantee is bound by the obligation undertaken by it. The performance guarantee is an “autonomous” contract and imposes an “absolute obligation” on the bank in its terms. A bank guarantee, for all purposes, should be taken to be a credit note issued by the bank in favour of the person in whose favour the bank guarantee has been issued, and it should be encashable just like a credit note ordinarily, unless the intention of the parties is otherwise.
Unconditional Bank Guarantee
The nature of the obligation of the bank in case of Bank Guarantee was thus explained in Hugglunds Drives AB v. National Heavy Engg. Co-op. Ltd. A.I.R. 2002 Bom. 305 at 311 “The issuing Bank is bound to observe and honour the terms of the guarantee. The beneficiary of a Bank Guarantee cannot be restrained from invoking the Bank Guarantee, and the issuing bank cannot be injuncted from paying over the proceeds of the Bank Guarantee save and except in the case of fraud which vitiates the entire underlying transaction or in case where irretrievable injustice would be caused by the invocation or encashment of the Bank Guarantee.
The issuing Bank is not concerned with the terms of the underlying transaction between the beneficiary of the Bank Guarantee and the person at whose behest the Bank Guarantee was issued by the issuing Bank.
The Bank Guarantee is a bipartite contract between the issuing Bank and the beneficiary. The Bank is not a party to the underlying contract between the beneficiary and the person at whose behest the Bank Guarantee is issued. Where the Bank assumes an obligation to pay on demand without demur, without reference to the underlying dispute, if any, between the parties, it must honour the terms of its obligation.”
An unconditional Bank Guarantee is irrevocable and no injunction can be issued to prevent the enforcement of the same. In Assn. of Corporation v. State of Bihar A.I.R. 2000 Delhi 106, there was agreement of bank guarantee and the terms incorporated in the agreement indicated that the same was irrevocable. The body of the bank guarantee did not mention any conditions though some conditions were alleged to be there in the contract between the parties. It was held that it was an unconditional bank guarantee and no injunction can be issued against encashment of the bank guarantee.
If a bank has unconditionally guaranteed the payment of price on the supply of goods by the seller to the buyer, the bank is bound to honour this obligation, and in the event of any dispute between the seller and the buyer, the buyer cannot obtain an injunction to prevent the bank from honouring the guarantee. In Pesticides India v. State Chemicals & Pharmaceuticals Corp. of India A.I.R. 1982 Delhi 78, Pesticides India wanted to purchase some goods from S.C. & P. Corp., and they gave some earnest money and also bank guarantee by the State Bank of Bikaner & Jaipur. On the supply of goods by the Corporation, Pesticides India were not satisfied with the performance and according to them, the supply had been wrongly made on “ex godown” basis instead of “high sea” basis. The Corporation demanded the amount of the bank guarantee from the Bank but the Pesticides India sought to restrain the bank from making the payment. It was found that in this case, the Bank had undertaken to pay “on first demand without protest or demur and without reference to” Pesticides, and notwithstanding “existence of any dispute whatsoever” between the parties. It was held that the bank was bound to honour the guarantee, and the Pesticides India cannot prevent the bank from honouring its promise to pay.
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Similar was also the position in Vinay Engineering v. Neyveli Lignite Corp. Ltd. A.I.R. 1985 Mad. 213 In this case, it has been held that when under a bank guarantee the bank had irrevocably undertaken to pay to the purchaser up to a certain sum of money upon the purchaser’s first demand and without demur provided the purchaser advised the bank that the contractor had failed to fulfil his delivery obligations under a contract with the purchaser, the bank was bound to make the payments, on the necessary advice given by the purchaser. It was further held that the purchaser in such a case need not prove to the bank that the contractor had failed to perform his obligations under the contract, as the fact of the purchaser’s advice to the bank was all what was required for the payment of the guaranteed amount.
It has been held by the Supreme Court in Federal Bank Ltd. v. V.M. Jog Engineering Ltd. A.I.R. 2000 S.C. 3166, that if the bank has issued a Letter of Credit or given a bank guarantee regarding the performance of a contract, the Court cannot grant injunction to restrain encashment of Bank Guarantee or Letter of Credit on the ground that there was breach of contract between the buyer and the seller. In other words, the buyer cannot allege breach of contract by the seller and obtain an injunction against the Bank restraining the bank from honouring the guarantee, and making payment of the promised amount.
It was observed:
“The bank is to honour the demand for encashment if the seller prima facie complies with the terms of the Bank Guarantee or Letter of Credit. If the bank is satisfied on the face of the documents that they are in conformity with the list of documents mentioned in the Bank Guarantee or Letter of Credit and there is no discrepancy, it is bound to honour
the demand of the seller for encashment.”
The bank cannot refuse the payment on the ground that the buyer alleges breach of contract. The bank cannot decide the question of breach at this stage. Its obligation under the document has nothing to do with any dispute as to the breach of contract between the buyer and the seller.
Bank Guarantee vitiated by fraud
An unconditional Bank Guarantee is vitiated by fraud or likelihood of causing irreparable loss. If there is fraud, etc., an injunction against encashment of Bank Guarantee can be issued.
In Rigoss Exports International (P) Ltd. v. Tartan InfomarkLtd. A.I.R. 2002 Delhi 285, the petitioner was engaged in business of ready-made garments of different specifications. The respondent No. 1 were agents of various garment importers at Singapore and other countries. The Export Agent procured documents which were found to be forged. The Agent induced the party to give Bank Guarantees with fraudulent intention to dupe the party. In other words, the Bank Guarantees were obtained by fraud and, therefore, they stood vitiated. It was held that in such circumstances, the Court can intervene, and prevent encashment of Bank Guarantee.
Clause stipulating exclusive jurisdiction to a certain Court
If the agreement confers exclusive jurisdiction to a certain Court, then no other Court can have the jurisdiction in the matter. In Burn Standard Co Ltd. v. Oil & Natural Gas Corp. Ltd. A.I.R. 2000 Cal. 283,3 tenders were floated from Bombay and the contract was also executed at Bombay. The Bank Guarantee given on behalf of the petitioner debtor contained a clause that the Courts where tenders have been floated and the contract executed shall have exclusive jurisdiction in respect of the Guarantee.
The petitioner sought to enforce the bank guarantee before Calcutta Court, where respondent-creditor resided. It was held that the agreement conferring exclusive jurisdiction upon the Bombay Court was not against public policy. The petitioner cannot have a cause of action to file a writ petition before the Calcutta High Court. The exclusion clause which excluded the jurisdiction of the Calcutta Court was valid. Hence, Calcutta Court had no jurisdiction to entertain a petition for issuing injunction for the enforcement of the guarantee.
Invocation of Bank Guarantee
If an agreement of bank guarantee requires fulfilment of certain conditions or requirements necessary for the invocation of the bank guarantee, the guarantee can be invoked if those conditions are fulfilled.
In National Telecom of India Ltd. v. Union of India A.I.R. 2001 Delhi 236 there was a bank guarantee in favour of the government in respect of supplies to be made by the contractor as per the purchase order. As per the guarantee agreement, the amount was payable without any demur and on demand.
To invoke the bank guarantee it had to be shown that there was existence of one of the two conditions:-
(i) That there was failure on the part of the contractor to perform the contract and,
(ii) That the amount claimed was by way of loss or damage to the Government due to the breach of contract.
If the contractor fails to supply the goods against purchase order, in spite of extension of time, and the Government writes to the bank to claim compensation stating that the same has arisen due to non-performance of the contract by the contractor, the guarantee, in such a case, has been properly invoked in accordance with the terms of the contract.
It was further held in this case that if there is a breach of contract in the judgment of the beneficiary of the contract, the bank has an obligation to pay the amount covered under the bank guarantee on demand by the beneficiary without raising any objection. The bank is not to judge that whether there is breach of contract or not.
In Daewoo Motors India Ltd. v. Union of India A.I.R. 2003 S.C. 1786, the appellant Company agreeing to fulfil export obligation had obtained various import licences from the Government after furnishing bank guarantee in that regard. There was a term in the bank guarantee that demand made by the President under guarantee would be conclusive. Such guarantee was held to be absolute and unequivocal, hence invocation of guarantee on failure to fulfil export obligation was held not arbitrary and its encashment could not be resisted by the bank.
In Bank of Baroda v. Ruby Sales Corpn. (Agency) A.I.R. 2006 Guj. 251, there was agreement between parties with respect of certain dealings. Demand made by one of parties for discharging Bank guarantee by producing proper documents. No proceedings had been initiated by party for alleged breach of agreement against other party. Bank was not concerned with dispute between parties. Unless it was a case of fraud, bank was bound to discharge bank guarantee. Plea that there was negligence on the part of Bank in discharging Bank Guarantee though it was informed not to make payment was rejected by the Gujarat High Court. Action of Bank in discharging Bank Guarantee was not improper.
Again, in Punj Lloyd Ltd. v. India Cements Ltd. A.I.R. 2005 Del. 389, supply of cement by defendants to plaintiff for its project, the plaintiff had furnished bank guarantees for ensuring timely payments. Under bank guarantee, issuing Bank had guaranteed payment to defendants of all money in relation to goods delivered. State had raised demand of sale tax and entry tax in respect of supplies effected by defendants to plaintiff. Invocation of bank guarantee of defendants for realization of said money which was in relation to supply to goods could not be said to be outside the terms of bank guarantee.
In Mula Sahakari Karkhana v. State Bank of India A.I.R. 2005 Bom. 385, document was executed between the plaintiff and the Bank and the supplier of the goods was not a party to it. The document and the intention of the parties was clear covering comprehensive claim of plaintiff to the extent of Rs. 3,40,000/-. The guarantor was invoked within the prescribed time. Since there was no dispute between the plaintiff and the supplier as also there being no fraud or misrepresentation
involved, the Bank was held bound to honour the guarantee.
Injunction against Invocation of Bank Guarantee
Where there is a very strong prima facie case of element of fraud in connection with the invocation of bank guarantee, the party giving the bank guarantee can lawfully seek injunction against the invocation of bank guarantee.
But, where there was no finding of fraud, injunction against encashment of bank guarantee cannot be granted.
In Man Industries India Ltd., Indore v. N.V. Kharote Engineers and Contractors, Pune A.I.R. 2005 Bom. 311, there was a contract for supply of goods by the company to the contractor. Dispute arose between parties regarding outstanding amount. Bank guarantee executed at the instance of contractor in favour of company was unconditional. It was not dependent on extent of goods supplied. Condition was stipulated in bank guarantee that it would become encashable in the event of default in payment. No prima facie case for injunction was made out by contractor. No irretrievable injustice would be caused to him. Balance of convenience was also not in his favour. Injunction against encashment of bank guarantee was refused as there was no finding of fraud recorded.
Likewise, in L. & T. Niro Ltd. v. Mysore Paper Mills Ltd. A.I.R. 2005 Guj. 355, when it was shown by material on record that parties signed under contract on each and every page, injunction against invocation of bank guarantee was refused as prima facie opinion that fraud was not established.
Subrogation-Injunction Against Principal Debtor
In Nirmal Singh Kukreja v. Suraj Gupta A.I.R. 2013 H.P. 23, the plaintiff stood guarantor to funding defendants proprietary business. The defendant committed serious defaults in payment of debts and left India without paying his dues, leaving the plaintiff to meet financial liabilities. Plaintiff discharged his liability towards the creditors of the defendant. Apprehending that the defendant might alienate or transfer or encumber his share in immovable suit-property, filed suit for permanent injunction against the defendant. Decree of permanent perpetual prohibitory injunction was passed against the defendant.