Contract of Indemnity

Indemnity is a contract where one party promises to save the other from loss caused by the conduct of the promisor or any third person (S.124, Indian Contract Act).

A contract of indemnity is one where a 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 (S.124, Indian Contract Act, 1872). The party who promises to make good the loss is the indemnifier; the party protected is the indemnity holder or indemnified.

Legal Framework

Provision	Subject	Key Rule
S.124	Definition of indemnity	Contract where one party promises to save the other from loss caused by the promisor's conduct or that of any other person
S.125	Rights of indemnity holder when sued	Recover damages, costs, and sums paid under a compromise, subject to acting prudently
S.126	Contract of guarantee (contrast)	Guarantee involves three parties and an existing debt; indemnity involves two parties and a contingent loss

Essential Elements

Element	Explanation
Two parties	Indemnifier (promisor) and indemnity holder (promisee)
Promise to save from loss	The core obligation is protection against loss, not payment of a debt
Loss caused by promisor's conduct or a third party's conduct	S.124 covers both sources of loss
Contingent in nature	Liability arises only if and when the loss occurs
Valid contract requirements	All essentials of a valid contract under S.10 must be satisfied

Why the definition is narrower than the English concept: The Indian definition in S.124 covers only loss caused by human conduct (the promisor's own or a third person's). English law treats indemnity more broadly, covering loss from any cause including accidents and events. Indian courts have, however, extended the principle to insurance contracts and similar arrangements through general equitable reasoning rather than strict S.124 wording.

Rights of the Indemnity Holder (S.125)

An indemnity holder who is sued in respect of any matter to which the indemnity applies may recover from the indemnifier:

Right	Condition
All damages compelled to pay in a suit	The suit must relate to the matter covered by the indemnity
All costs of the suit	The holder must have acted prudently, or with the indemnifier's authority
All sums paid under a compromise	The compromise must not be contrary to the indemnifier's orders, and must be prudent, or authorised

Why prudence is the governing standard: The indemnifier is liable for outcomes the indemnity holder could not reasonably avoid. If the holder settles carelessly or defends a hopeless case at great expense, the loss stops being attributable to the indemnified risk and becomes attributable to the holder's own imprudence. The prudence requirement allocates that risk correctly.

When Does Liability Commence

The classical English position was that an indemnity holder could claim only after actually paying the loss. Indian courts rejected this as producing injustice: a person of limited means could be ruined waiting to pay before claiming.

The Indian position is that the indemnity holder may compel the indemnifier to place him in a position to meet the liability once the liability has become absolute, without first having to pay out of his own pocket.

**Gajanan Moreshwar Parelkar v Moreshwar Madan Mantri (1942)** Bombay High Court

Facts: The plaintiff obtained a lease of land, then transferred the benefit to the defendant, who agreed to construct on it. At the defendant's request, the plaintiff mortgaged the property to secure the defendant's supplier. The defendant then failed to discharge the mortgage, leaving the plaintiff exposed.

Issue: Can an indemnity holder claim before actually paying the loss?

Held: Chagla J held that the indemnity holder need not wait until he has actually paid. Once the liability becomes absolute, he is entitled to be indemnified and may require the indemnifier to pay off the claim. Sections 124 and 125 are not exhaustive of the law of indemnity in India.

Relevance: The leading Indian authority on when the right to indemnity accrues. Cite whenever the question is whether payment must precede the claim.

**Adamson v Jarvis (1827)** Court of Common Pleas

Facts: An auctioneer sold cattle on the instructions of a person who turned out not to be the owner. The true owner sued the auctioneer for conversion and recovered. The auctioneer then sued his principal for indemnity.

Held: The auctioneer, having acted on the principal's instructions and in good faith, was entitled to be indemnified for the loss. A person who acts at the request of another in a transaction that turns out to be wrongful, without knowledge of the wrong, is entitled to indemnity.

Relevance: Foundational authority for implied indemnity arising from the relationship of principal and agent.

Illustrations

Express indemnity: A promises to compensate B for any loss B may suffer if C fails to repay a loan B advanced to C on A's assurance. C defaults and B suffers loss. A must indemnify B. This is a contract of indemnity under S.124 because A promises to save B from loss caused by C's conduct.
Indemnity to an agent: A instructs his agent B to sell goods that A represents as his own. The goods belong to C, who sues B for conversion. B is entitled to be indemnified by A for the damages and costs, applying Adamson v Jarvis.
Claim before payment: A indemnifies B against liability under a mortgage B executed at A's request. The mortgagee obtains a decree against B. B need not pay first. Applying Gajanan Moreshwar, B may require A to discharge the mortgage or place B in funds to do so.
Imprudent compromise (no recovery): A indemnifies B against a claim. B settles the claim for an amount far exceeding what the claimant could have recovered, without consulting A and without any commercial justification. B cannot recover the excess. S.125 protects only prudent compromises.
Loss from natural event (outside S.124): A promises to compensate B if B's warehouse is damaged by flood. Strictly, this falls outside S.124 because the loss is not caused by human conduct. It is enforceable as a contingent contract under S.31, and in practice insurance contracts of this kind are governed by their own principles.

Recall Check

Under S.124, what two sources of loss does a contract of indemnity cover?
Must an indemnity holder actually pay the loss before claiming from the indemnifier under Indian law?
What standard governs the recovery of costs and compromise amounts under S.125?

Key Cases

Gajanan Moreshwar Parelkar v Moreshwar Madan Mantri (1942) Gajanan Moreshwar v Moreshwar Madan 1942
Issue: Whether an indemnity holder must pay the loss before claiming indemnity.
Rule: Once liability becomes absolute, the indemnity holder may require the indemnifier to place him in a position to meet it.
Held: The holder need not wait to pay out of pocket. Sections 124 and 125 do not exhaust the law of indemnity in India.

Adamson v Jarvis (1827) Adamson v Jarvis 1827
Issue: Whether an agent who acts innocently on a principal's wrongful instructions may claim indemnity.
Rule: A person acting at another's request, in good faith and without knowledge of the wrong, is entitled to indemnity.
Held: The auctioneer recovered from his principal the damages and costs paid to the true owner.

Distinctions

Basis	Indemnity (S.124)	Guarantee (S.126)
Parties	Two: indemnifier and indemnity holder	Three: surety, principal debtor, creditor
Nature of liability	Primary; the indemnifier's own obligation	Secondary; arises only on the principal debtor's default
Existing debt	None required; the loss is contingent	A recoverable debt or duty must exist
Purpose	Protection against loss	Security for performance of an obligation
Right of recovery after payment	Indemnifier has no right against a third party (unless subrogated)	Surety may recover from the principal debtor (S.145)
Number of contracts	One	Three (creditor-debtor, creditor-surety, surety-debtor)

Basis	Indemnity	Insurance
Statutory basis	S.124, Indian Contract Act	Insurance Act and the specific policy
Cause of loss	Human conduct (S.124 wording)	Any insured peril, including natural events
Consideration	May or may not be a premium	Premium is essential
Insurable interest	Not a requirement	Essential requirement

Flashcards

Define a contract of indemnity under S.124.

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.

Who are the parties to a contract of indemnity?

The indemnifier (who promises to make good the loss) and the indemnity holder or indemnified (who is protected).

What three heads of recovery does S.125 give the indemnity holder?

Damages compelled to pay in a suit, costs of the suit, and sums paid under a compromise, each subject to prudence or the indemnifier's authority.

Under Indian law, when does the right to be indemnified accrue?

Once the liability becomes absolute. The holder need not first pay out of his own pocket (Gajanan Moreshwar, 1942).

Is loss caused by a natural event covered by S.124?

Strictly no. S.124 covers loss caused by human conduct. Such promises are enforceable as contingent contracts under S.31.

State one key difference between indemnity and guarantee.

Indemnity has two parties and creates primary liability; guarantee has three parties and creates secondary liability contingent on the principal debtor's default.

What was held in Adamson v Jarvis?

An auctioneer who innocently sold another's goods on his principal's instructions was entitled to be indemnified by the principal for damages and costs.

Exam Scenario

Problem: Ravi asks his friend Suresh to guarantee a bank overdraft for Ravi's business, promising in writing to "make good any loss Suresh may suffer on account of this arrangement." The bank later calls in the overdraft and obtains a decree against Suresh for Rs. 12 lakhs. Suresh has not yet paid. Suresh approaches Ravi demanding that Ravi discharge the decree. Ravi refuses, arguing that Suresh must first pay the bank and only then claim reimbursement. Advise Suresh.

Step 1: Classify the Ravi to Suresh arrangement

Ravi's written promise to make good any loss Suresh may suffer on account of the arrangement is a contract of indemnity under S.124. Ravi promises to save Suresh from loss caused by Ravi's own conduct, the default on the overdraft.

Suresh's separate relationship with the bank is one of guarantee. That is a distinct contract and does not alter the Ravi to Suresh indemnity.

Step 2: Answer Ravi's argument that payment must come first

Apply Gajanan Moreshwar Parelkar v Moreshwar Madan Mantri (1942). The Bombay High Court held that an indemnity holder need not actually pay before claiming, and that once the liability has become absolute the holder may require the indemnifier to place him in a position to meet it.

The decree against Suresh for Rs. 12 lakhs makes the liability absolute, not merely contingent. The trigger for the indemnity is therefore satisfied.

Step 3: Claim under both heads

Head of claim	Basis	Position on these facts
Discharge of the decree	S.124 with Gajanan Moreshwar	Suresh may compel Ravi to discharge the decree or place him in funds to do so
Costs of defending the bank's suit	S.125	Recoverable, provided Suresh acted prudently

One trap in this problem

Ravi is arguing the discarded English rule. The proposition that payment must precede the claim reflects the older English position, which Indian courts have not followed. S.124 and S.125 are not exhaustive of the law of indemnity in India.

Conclusion. Suresh may require Ravi to discharge the decree or place him in funds now, without paying the bank first, and may additionally recover the costs of the bank's suit under S.125 if he acted prudently.