A contract of guarantee is defined under Section 126 of the Indian Contract Act as a contract to perform the promise or relieve the responsibility of the defaulting party if he fails to fulfil his promise. We can deduce that there are three contracting parties.[1]

Principal Debtor – The person who borrows or is responsible to pay, and to whom a guarantee is offered in the event of default.

Creditor – A party that has supplied something of value in exchange for a loan and stands to receive payment for it, as well as the person to whom the guarantee is delivered.

Surety/Guarantor – The individual who guarantees to pay in the event of the principal debtor’s default.

A contract of guarantee, on the other hand, is a secondary contract that arises from a primary contract between the creditor and the major debtor.

Essentials of contract of guarantee-

• Must be made with the agreement of all three parties– The major debtor, the creditor, and the surety, all three parties to the transaction, must agree to make such a contract with each other’s consent. It’s worth noting that the surety only agrees to be liable for the principal debtor’s debt if the principal debtor specifically requests it. As a result, the principal debtor must communicate with the surety, either explicitly or implicitly. The surety’s communication with the creditor to engage into a contract of guarantee without the principal debtor’s knowledge does not establish a contract of guarantee.

• Consideration- Anything done or any promise made for the benefit of the principal debtor is sufficient consideration to the surety for delivering the guarantee, according to section 127 of the act. The consideration must be a new consideration from the creditor, not one from the past. It is not necessary for the guarantor to receive any value, and sometimes even the creditor’s tolerance in the event of default is sufficient consideration.

• Liability- A surety’s liability is secondary under a guarantee arrangement. This indicates that, because the primary contract was between the creditor and the principal debtor, the principal debtor bears the primary responsibility for fulfilling the contract’s requirements. The surety is solely responsible for repayment if the principal debtor defaults.

• Must contain all the essentials of a valid contract– Because a guarantee contract is a sort of contract, all of the criteria of a legal contract apply to guarantee contracts as well. As a result, all of the key conditions of a valid contract must be met, including free consent, a valid consideration offer, and acceptance, as well as the purpose to form a legal relationship.

• No Concealment of Facts-The creditor must inform the surety of any facts that may impact the surety’s liability. The assurance obtained by concealing such facts is null and void. As a result, if the creditor gets the guarantee by concealing material facts, the guarantee is void.

• Misrepresentation- The guarantee should not be obtained by lying to the surety about the facts. Though a guarantee contract is not a contract of Uberrima fides, or absolute good faith, it does not require the principal debtor or creditor to disclose all material facts to the surety before entering into a contract. However, the facts that are likely to affect the scope of the surety’s liability must be accurately reported.

The guarantee contract is a unique contract for which the Indian Contract Act has established some guidelines. The main function of a contract of guarantee, as previously stated, is to protect the creditor from loss and to give him confidence that the contract will be implemented based on the surety’s promise. There are three parties to any guarantee contract, and there are two sorts of guarantees: particular guarantees and continuous guarantees. The sort of guarantee employed is determined on the situation and the contract’s terms.

Reference- [1] https://blog.ipleaders.in/contract-of-guarantee/

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