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Contract of Indemnity and Insurance under Indian Contract Act,1872: Judicial enactments and interpretations

One of the most commonly come across legal term in our daily lives is insurance, be it life insurance, vehicle insurance or any valuable property which one would like to keep safe or prevent loss in case it gets damaged or destroyed. Thus, insurance has been incorporated into everyday parlance in terms of a common social security tool to prevent economic loss to people and keep them away from a scenario of disadvantage. Usually, in terms of trade, business and commerce in the modern 21st century contracts, there has been an increasing need and relevance of contracts of insurance and indemnity due to unpredictable nature of commercial transactions involving high risks in the markets.

The term and concept of Insurance contracts has arisen out of contract of Indemnity defined under section 124 of the Indian Contract Act whose verbatim states:
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, is called a contract of indemnity.[1]

The Indian law has given a narrower scope to the contract of insurance and indemnity as compared to the British legal system or the legal systems of other nations.

Taking into consideration the interpretation of section 124 of the act, we can understand and bring it into our cognition that any contract wherein a person promises to save the other person from the consequences of a proceeding which may be commenced against him in the future is called a contract of indemnity.[2] Thus, it makes the interpretation clear that every contract of insurance is a contract of indemnity but the reversal of this situation may not hold true.

The contract of Indemnity and insurance come under the ambit of special types of contracts which finds its foundation in protecting the other parties against unanticipated losses.

In a contract of indemnity, there are two players namely:
  1. Indemnifier
  2. The party which is indemnified or holder.
Research questions:
  1. What is the distinction between damages and indemnity in context of special contracts
  2. What is the principle of subrogation in the special contract of Indemnity?
  3. What parallel can be drawn between contract of Indemnity and insurance by the courts in deciding matters relating to security of economic losses?
The contract of Indemnity is a special type of contract wherein one party promises to save the other from the loss caused to him by the conduct of the promisor himself, or by the conduct of any other person, is called a contract of Indemnity.[3] To understand this better, let us take an illustration wherein X enters into a contract to indemnity Y against the consequences of any proceeding which A may take against Y in respect of a certain sum of Rs.200/- . The contract between X and Y is an example of contract of Indemnity.

Indemnity contracts may be classified into two subtypes namely:
  1. Express indemnity:
    When the consent of indemnity is given in writing or orally, it is an express contract of indemnity.
    For eg: A and B enter into a contract where A agrees to reimburse loss caused to him by a third party. This is called contract of express indemnity.
     
  2. Implied indemnity:
    When the contract of Indemnity comes into existence through the Lex Loci or the law of land that is in existence at a particular point of time, it is called an implied contract of indemnity.

For eg: In an agent - principal relationship, there occurs some loss to one agent due to some unforeseen circumstances. This would create a scenario of implied indemnity as the laws regulate the conduct of indemnity between the agent and principal.

Relation between contract of insurance and contract of indemnity
In the common law context, the contracts of indemnity is usually given a very narrow interpretation wherein there is kept very low disctinction between contract of indemnity and insurance. Nearly every insurance except insurance of life and personal accident insurance come under contract of indemnity.[4]

A suit can be brought upon immediately after failure of performance, irrespective of any actual loss. It would also be an entitlement of an indemnity holder to call upon the indemnifier to save himself from the liability by paying it off too.[5]

Key features of a contract of indemnity are:
  1. Rights of the parties in the contract
    Section 125 of the Indian contract act[6] states the rights available with the indemnity holder when he acts within his scope of authority to recover from the promisor the costs laid down under S. 125(1) to S.125(3)[7]. These include the costs in terms of defending the suit, sums paid under compromise, damages paid etc.
     
  2. Immunity from losses
    The contract of indemnity often leads to protection of losses to the party holding the indemnity from the losses which may be caused by the conduct of the party itself or the action of third party.
     
  3. Contract must be valid
    According to the provisions of the Indian contract act, there are various essentials that are needed to be followed which are contained in section 1 to section 75 of the Indian Contract Act[8]. This general law is needed to be followed in case of making it a valid contract.

The liability of an indemnifier under a contract of indemnity does not start arising randomly but the act is silent on this issue. Thus, there have been various judicial interpretations and legislative enactments in order to satisfy this question by various high courts across the country.

In the leading case of Gajanan Moreshwar Vs. Moreshwar Madan[9], the defendant was allowed to erect a building on the land taken on lease from the municipal department of the city. The defendant came under a debt from the building material supplier twice and on both occasions, mortgaged a part of his land to a third party on a consideration that he would be discharged of his liabilities arisisng out of it. However, he failed to do so and the defendant had to face a suit for allegedly getting the liabilities discharged and being an indemnifier, Gajanan had to face a suit.

The courts held in this case that In the leading case of Gajanan Moreshwar vs. Moreshwar Madan, an observation was made by the judge that:
If the party holding the indemnity has been called for having incurred a liability which is absolute in nature, he has the entitlement to call upon the other party to pay the liability amount.
A special contract called contract of indemnity is one where one party agrees to save the other party from loss being caused to him by the conduct of the promisor himself, or through the conduct of any other party. This is what section 124 and 125 of the act also state.[10]

In another leading case of State Bank of India and another Vs. Mula Sahkari Sakhar Karkhana Ltd.[11], it was a commonly held principal that a bank guarantee is a separate, distinct and independent contract between the bank and defendants and there is a difference between a contract of guarantee and a contract of Indemnity wherein when one party agrees to indemnify other with respect to all the claims, damages, losses, actions and costs arising out of the suit, it is a contract of indemnity strictly.

In the leading case of Osman Jamal and sons ltd Vs. Gopal Purushottam[12], it was pointed out by CJ Kennedy that the authority to hold this view in the court of Equity to indemnify merely does not only mean to reimburse in respect of the paid money, but also to save in respect from loss all liability against which the indemnity stands.

There is a difference between the contract of indemnity and payment of damages. According to various legislative enactments, first of all, the damages can be claimed only for the actions of the same party while indemnification can be called for even actions of a third party or any other cause. Another difference between both of them is that the claim of damages can only be brought in case of losses arising out of breach of contract while indemnification can be done before that too. The essential feature of indemnification is that the parties need to be damnified before being indemnified.

Contract of Insurance
When two parties enter into a contract wherein one party, in exchange of money called premiums, agrees to pay the other party a certain lump sum of money on happening of a certain event which may usually cause loss to the party paying premium is called a contract of insurance.

The essential elements of a contract of Insurance are as follows:
  1. There must be insurable interest of a party while insuring a particular good. This was laid down in the historic case of Suraj Mal Ram Niwas Oil Mills (Private) Limited v. United India Insurance Company Limited & Another[13].
  2. There must be a relationship of ubberima fidae or utmost good faith between the parties wherein one party should not back out of telling all the essential elements of the case to the parties.
  3. The principal of subrogation must be involved which means that in case the party insured is having a position to recover the loss fully or partly from another party due who whom the loss may have been incurred, according to the right of subrogation the insurer can subrogate the settlement of the claim and the party may exercise the right of subrogation before payment of the actual incurred amount.[14]

These principles and features explain the vital differences between the contract of indemnity and insurance and through them one can understand that every contract of insurance is a contract of indemnity while every contract of Indemnity is not a contract of insurance.

Doctrine of subrogation
The doctrine of subrogation means that the ensurer possesses rights to stand in place of the insured after the claims have been settle in case there is a substitute source involved.

This principle is a supplementary principle to the contract of Indemnity wherein one party becomes entitled to all rights of insured subject matter.

The right of subrogation is an equitable right and is guaranteed under the rights of equity, justice and good conscience.

Conclusion/ Suggestions
In accordance with the Indian Contract Act and the judgment of Secretary of state VS. The bank of India Ltd[15], there has been a due consideration given to the contract of Indemnity and its sub types.

Also, according to various reports of law commission of India, there have been suggestions of additions of various additional clauses into the contract of indemnity under section 124 and 125 of the Indian contract act to expand the horizon of the act and make it more inclusive and dominant.

Moreover, through the above judicial enactments, case laws, legislative procedures and provisions of different sections, we can understand that there is a difference between contract of insurance and indemnity along with their essentials and provisions where contract of indemnity is a superset of contract of insurance. Also, the principle and doctrine of subrogation has been added into the context to make it better and more clear in order to understand it better.

When we look into the context of common law judicial system, we can also understand that the courts usually have to place their judgment on the golden trio of equity, justice and good conscience wherein the Indian law lays silent on various provisions. Thus it becomes the need of the hour to expand and broaden the scope of this type of special contracts by taking influence from British common law legal system.

BIBLIOGRAPHY
  1. Avtar Singh – Law Of Contracts And Speicific Relief Act
  2. Essentials or features of a contract of indemnity available at http://bmc-notes.blogspot.com/2009/05/essentials-or-features-of-contract-of.html
  3. Anson’s Law Of Contracts
  4. Pollock And Mulla Law Of Contracts
End-Notes:
  1. https://indiankanoon.org/doc/1810320/
  2. Mangladha Ram v Ganda Mai, AIR 1929 Lab 388
  3. https://indiankanoon.org/doc/1810320/
  4. Avtar Singh Law of Contracts and Specific relief act (Pg. 594 - 595)
  5. New India Assurance Co Ltd v State Trading Corpn of India, AIR 2007 NOC 517 (Guj).
  6. https://www.indiacode.nic.in/bitstream/123456789/2187/1/A1872-9.pdf
  7. https://indiankanoon.org/doc/301393/
  8. https://www.indiacode.nic.in/bitstream/123456789/2187/1/A1872-9.pdf
  9. https://indiankanoon.org/doc/1361099/
  10. http://www.legalserviceindia.com/legal/article-1887-contract-of-indemnity-vis-a-vis-insurance.html
  11. https://indiankanoon.org/doc/1518031/
  12. ILR (1929) 56 Cal 262
  13. https://indiankanoon.org/doc/1844953/
  14. Myneni S.R, Law Of Insurance, Edition-2010 Asia Law House


    Award Winning Article Is Written By: Mr.Akash Sharma
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