A contract of indemnity basically involves one party promising the other party to make good its losses. These losses may arise either due to the conduct of the other party or that of somebody else.
To indemnify something basically means to make good a loss. In other words, it means that one party will compensate the other in case it suffers some losses.
For example, A promises to deliver certain goods to B for Rs. 2,000 every month. C comes in and promises to indemnify B’s losses if A fails to so deliver the goods. This is how B and C will enter into contractual obligations of indemnity.
A contract of insurance is very similar to indemnity contracts. Here, the insurer promises to compensate the insured for his losses. In return, he receives consideration in the form of premium. However, the Contract Act does not strictly govern these kinds of transactions. This is because the Insurance Act and other such laws contain specific provisions for insurance contracts.
Parties under Indemnity Contracts
There are generally two parties in indemnity contracts. The person who promises to indemnify for a loss is the Indemnifier. On the other hand, the person whose losses the indemnifier promises to make good is the Indemnified. We can also refer to the Indemnified party as the Indemnity Holder. For example, in the earlier example, C is the Indemnifier and B is the Indemnity Holder.
Nature of Indemnity Contracts
An indemnity contract may be either express or implied. In other words, parties may expressly create such a contract as per their own terms. The nature of circumstances may also create indemnity obligations impliedly. For example, A does an act at the request of B. If B suffers some losses and A offers to compensate him, they impliedly create an indemnity contract.
Rights of an Indemnity Holder
When parties expressly make a contract of indemnity, they can determine their own terms and conditions. However, sometimes they may not do so. In such a case, the indemnity holder can enforce the following rights against the indemnifier:
1) The indemnifier will have to pay damages which the indemnity holder will claim in a suit.
2) The indemnity holder can even compel the indemnifier to pay the costs he incurs in litigating the suit.
3) If the parties agree to legally compromise the suit, the indemnifier has to pay the compromise amount.
Contract of Guarantee
Apart from indemnity contracts, the Contract Act also governs contracts of guarantee. These contracts might appear similar to indemnity contracts but there are some differences between them.
In guarantee contracts, one party contracts to perform a promise or discharge a liability of a third party. This will happen in case the third party fails to discharge its obligations and defaults. However, the burden of discharging the burden will first lie on the defaulting third party.
The person who gives the guarantee is the Surety. On the other hand, the person for whom the Surety gives the guarantee is the Principal Debtor. Similarly, the person to whom he gives such a guarantee is the Creditor.
Differences between Indemnity and Guarantee
There are some important differences between the contracts of indemnity and guarantee.
Firstly, there are just two parties in indemnity, while there are three in contracts of guarantee.
Secondly, in a guarantee, there is an existing debt/duty which the surety guarantees to discharge. On the other hand, liability in indemnity is contingent and may not arise at all.
Thirdly, an indemnifier might act without the debtor’s behest, while a surety always waits for the principal debtor’s request.
Finally, the liability of an indemnifier towards the indemnity holder is primary. Whereas, in guarantee, the surety’s liability is secondary. This is because the primary liability lies on the principal debtor himself.