Importance of Indemnity clause in a contract.

A clause that matters.


Importance of Indemnity clause in a contract.
Importance of Indemnity clause in a contract.

Introduction


Indemnity is an important word when it comes to business transactions.

Irrespective of the side of the party to the contracts, before signing it many often wonder what would be the repercussions of the clause?




Should they agree to it?

How will it benefit them? At the same time, what would be their accountability towards it? And many more thoughts run through their minds.




Indemnity and Law




Indemnity means security against or exemption from legal liability for one's actions.



The clauses in a contract are governed by the law and can be enforced through filing a suit in a court of law. The clauses in the contract hereby act both as security and an obligation under the preview of law for both the parties who have signed it.

Apart from the Indemnity clause in a contract, a separate indemnity contract can also be executed by the parties.



The Indian Contract Act 1872 under Chapter VIII provides for the provisions of Indemnity.

Section 124 of The Indian Contract Act 1872 provides

“Contract of Indemnity”[1] - "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.”


This means if A contracts to indemnify B against the consequences of any proceedings which C may take against B in respect of a certain sum of 500 Rupees. This is a contract of indemnity.


In such a situation the promisee is within his scope of authority, who is in a contract of indemnity and hence is entitled to recover from the promisor.


Section 125 of the Indian Contract Act 1872 provides for the “Rights of Indemnity Holder when case sued”.[2]


The promisee can recover all the damages which he may be compelled to pay in any suit in respect of any matter to which the promise of indemnity applies. For the purpose of clarity the following costs can be recovered when:


  • All costs which one may be compelled to pay in any such suit if filed by self or defended by the person. However such costs are liable to be recovered only in cases where such person has not contravened the orders of the promisor and acted as it would have been prudent for such person to act in absence of any contract of indemnity, or if the promiser authorised him to file or defend the suit.


  • The promisee can also recover sums which he may have paid under the terms of any compromise of any such suit if the compromise would 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 it the promisor authorised him to compromise the suit.



  • The promisee can also recover 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 order 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 authorised him to compromise the suit.



Validity of Indemnity Contract.


This brings us to another logical question what would be the validity of the Indemnity clause when the period of contract is over?


The Hon’ble Supreme court of India in Deepak Bhandari Vs. Himachal Pradesh State Industrial Development Corporation Limited[wherein it observed that:

“It is settled law that a contract of indemnity and/ or guarantee is an independent and separate contract from the main contract. The right to claim for the balance arose, under the contract of indemnity, only when the sale proceeds were found to be insufficient. The right to sue on a contract of indemnity/ guarantee would arise when the contract is broken.”




Conclusion

In view of the above, it can be concluded that Indemnity is an arrangement that acts as a security for the parties who take more risks in a business transaction.

This provision not only provides invoking confidence in a business deal but also creates an obligation and transparency by law between the parties.


For a business transaction between the parties, an indemnity clause/ agreement can also be used as a negotiation tool to have a constructive outcome. At the same, it is also important to execute financial due diligence involving indemnity arrangement in both cases while receiving an indemnity or giving an indemnity.



By

Harshad Rathod.


Foot Notes [1] https://indiankanoon.org/doc/1810320/ [2] https://indiankanoon.org/doc/301393/ [3]Civil Appeal No.1019/ 2014 Arising out of Special Leave Petition (Civil) No. 30825 of 2010 Justice Mr. K.S. Radhakrishnan, Mr. A.K. Sikri Disclaimer:

The content of this article is intended to provide a general guide to the subject matter only. Specialist advice should be sought about your specific circumstances.

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