Introduction to Contract of Indemnity

INTRODUCTION

‘Indemnity’ in English law means a promise to save a person harmless from the consequences of an act. The promise may be expressed, or it may be implied from the circumstances of the case. The English definition of indemnity is broad enough to include a promise of indemnity against loss arising from any cause, e.g., loss caused by fire or some other accident. Indeed, every contract of insurance, other than life assurance, is a contract of indemnity. [i]

However, the definition in Section 124 of the Indian Contract Act of 1872 is somewhat narrower. Section 124 defines a contract of indemnity as “A contract by which one party promises to save the other from loss caused to him by the promisor himself, or by the conduct of any other person, is called a “contract of indemnity.”

The only illustration appended to the section says that if a person promises to save another from the consequences of a proceeding that may commence against him, it is a contract of indemnity. [ii] The person who gives the indemnity is called the “indemnifier.” The person for whose protection it is given is called the “indemnity-holder” or “indemnified.”

Thus, the scope of “indemnity” is, by the very process of definition, restricted to cases where there is a promise to indemnify against loss caused:

1. By the promisor himself, or
2. By any other person.

The definition excludes from its purview cases of loss arising from accidents like fire or perils of the sea. Some human agency must cause loss. [iii]

CONTRACTS OF INSURANCE AGAINST LOSS

All insurance types, except for personal accident insurance, fall under the scope of indemnity. Indemnity insurance is a firm commitment to compensate the insured. If the insurer fails to fulfill their obligations, the insured can immediately file a lawsuit, regardless of the actual loss incurred. If the indemnity holder faces an absolute liability, they have the right to demand that the indemnifier take responsibility and cover the loss. Indemnity insurance is a policy that compensates for accidental damages or losses, typically up to the value of the loss.

Almost all insurances, including life and personal accident insurance, are contracts of indemnity. The insurer’s promise to indemnify is an absolute one. A suit can be filed immediately upon failure of performance, irrespective of actual loss. If the indemnity holder incurred liability and that liability was absolute, he would be entitled to call upon the indemnifier to save im from that liability by paying it off.[iv]

Therefore, an indemnity contract does not include an insurance contract in India. If an insurance policy promises compensation for damages caused by accidents or fires, these are considered contingent contracts under Section 31 of the Indian Contract Act of 1872. In the case of United India Insurance Company v. M/s. Aman Singh Munshilal,[v] goods stored in a warehouse were destroyed by fire before being transported. The Court ruled that since the goods were damaged during transit, the insurer was liable to pay, as the contract was insurance.

EXTENT OF LIABILITY

Section 125 lays down the extent of liability. The indemnity-holder, acting within the scope of his authority, is entitled to recover the following amounts –

1. All damages which he may be compelled to pay in any suit in respect of any matter to which the promise of indemnity applies;[vi]
2. All costs which he may be compelled to pay in such suits if, in bringing or defending it, he did not contravene the order of the promisor and acted as it would have been prudent for him to act in the absence of any contract of indemnity, or, if the promisor authorized him to bring or defend the suit;[vii]
3. All sums which he may have paid under the terms of any compromise of any such suit, if the compromise of any such suit, if the compromise was not contrary to the orders of the promisor, and was one which it would have been prudent for the promise to make in the absence of any contract of indemnity, or if the promisor authorized him to compromise the suit. [viii]

The maxim of the law was: “You must be damnified before you can claim to be indemnified.” However, the law has transformed with Gajanan Moreshwar Parelkar v. Moreshwar Madan Mantri[ix], where it was held that “it is true that under the English common law, no action could be maintained until the actual loss had been incurred. It was soon realized that an indemnity might be worth very little if the indemnified could not enforce his indemnity until he had actually paid the loss. If a suit was filed against him, he had actually to wait till a judgment was pronounced, and it was only after he had satisfied the judgment that he could sue on his indemnity. It is clear that this might, under certain circumstances, throw an intolerable burden upon the indemnity-holder. He might not be able to satisfy the judgment, and yet he could not avail himself of his indemnity till he had done so. Therefore, the Court of Equity stepped in and mitigated the rigor of the common law. The Court of Equity held that if his liability had become absolute, then he was entitled either to get the indemnifier to pay off the claim or to pay into the Court sufficient money which would constitute a fund for paying off the claim whenever it was made.”

This principle was expounded in Richardson, re[x], where it was observed that “indemnity is not necessarily given by repayment after payment. Indemnity requires that the party is to be indemnified shall never be called upon to pay…”

CONCLUSION

Thus, a contract of indemnity serves as a vital legal instrument to protect individuals from financial loss resulting from the actions of another or even their own. The scope of indemnity under Indian law, as outlined in Section 124 of the Indian Contract Act, is relatively narrower than its English counterpart, as it focuses on losses caused by human actions rather than accidents or natural perils. Insurance contracts, except personal accident insurance, generally fall within the ambit of indemnity, offering the insured protection against losses up to a specified limit.

While indemnity contracts are characterized by an absolute promise to compensate, the extent of liability is clearly defined under Section 125, allowing the indemnity holder to recover various costs, including damages, legal expenses, and any payments made during legal settlements. Furthermore, judicial interventions, such as in Gajanan Moreshwar Parelkar v. Moreshwar Madan Mantri, have modernized the understanding of indemnity, ensuring that the indemnity holder can seek compensation even before an actual payment has been made, thus preventing undue hardship.

[i] Oriental Fire and General Insurance Co. v. Savoy Solvent Oil Extractions Ltd., (1997) 6 ALD 1.

[ii] Mangladha Ram v. Ganda Mal, AIR 1929 Lah 388.

[iii] Gajanan Moreshwar Parelkar v. Moreshwar Madan Mantri, AIR 1942 Bom 302.

[iv] New India Assurance Co. Ltd. v. State Trading Corporation of India, AIR 2007 NOC 517 (Guj).

[v] United India Insurance Company v. M/s. Aman Singh Munshilal, AIR 1994 P&H 206.

[vi] Parker v. Lewis, (1873) LR 8 Ch App 1035, 1056.

[vii] Pepin v. Chunder Seekur Mookerjee, ILR (1880) 5 Cal 811.

[viii] Ramaswami v. Muthu Krishna, AIR 1967 SC 359.

[ix] Gajanan Moreshwar Parelkar v. Moreshwar Madan Mantri, AIR 1942 Bom 302.

[x] Richardson, re, (1911) 2 KB 705 (CA).