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Special contracts by bhawani nandan prasad it director
UNNI IIM-CSpecial ContractsBhawani Nandan PrasadSMP – IIM CalcuttaMBA – Stratford UniversityB.E. IT
UNNI IIM-CSpecial Contracts In India, the Law of Contracts is contained in the Indian ContractAct,1872. The Act lays down the general principles relating to formation,performance and enforceability of contracts and the rules relating tocertain special types of contracts like Indemnity and Guarantee;Bailment and Pledge, and Agency. The Partnership Act; the Sale of Goods Act; the NegotiableInstruments Act; though technically belonging to the Law ofContracts, have been covered by separate enactmentsIndemnity A contract by which one party promise to save the other from losscaused to him by the conduct of the promisor himself or by theconduct of any other person is a “Contract of Indemnity"
UNNI IIM-CSpecial Contracts X contracts to indemnify Y against the consequences of anyproceedings which Z may take against Y in respect of acertain sum This is a contract of Indemnity.The definition provides the following essential elements - There must be a loss The loss must be caused either by the promisor or by anyother person. Indemnifier is liable only for the loss. Thus, it is clear that this contract is contingent in nature andis enforceable only when the loss occurs
Special ContractsRights of the indemnity holderThe promisee (Indemnity holder) in a contract of indemnity, actingwithin the scope of his authority, is entitled to recover from thepromisor All damages that he is compelled to pay in a suit in respect of anymatter to which the promise of indemnity applies. All costs that he is compelled to pay in any such suit All sums which he may have paid under the terms of acompromise in any such suiteDisadvantages of Indemnity An indemnity holder cannot hold the indemnifier liable until hehas suffered an actual loss. This is a great disadvantage to the indemnity holder in caseswhere the loss is imminent and he is not in the position to bear theloss
UNNI IIM-CSpecial ContractsContract of Guarantee A contract of guarantee is a contract to perform the promise, orto discharge the liabilities of a third person in case of his default. The person who gives the guarantee is called Surety, the personin respect of whose default the guarantee is given is calledPrincipal Debtor, and the person to whom the guarantee isgiven is called Creditor. A Guarantee may be either oral or written." Illustration: X promises to a shopkeeper Y that X will pay forthe items being bought by Z if Z does not pay, this is a contractof guarantee. In this case, if Z fails to pay, Y can sue X torecover the balance.
UNNI IIM-CSpecial Contracts A contract of guarantee has the following essential elements1. Principal Debtor - The main function of a guarantee is to help acredit-unworthy person to get a loan or financial assistance Thus, there must exist a principal debtor for a recoverable debtfor which the surety is liable in case of the default of theprincipal debtor.2. Consideration - As with any valid contract, the contract ofguarantee also must have a consideration. The consideration in such contract is anything done or thepromise to do something for the benefit of the principal debtor In general, if the principal debtor is benefited as a result of theguarantee, it is sufficient consideration for the sustenance of theguarantee.
UNNI IIM-CSpecial Contracts3. A guarantee obtained by misrepresenting facts that arematerial to the agreement is invalid, Similarly a guarantee obtained by concealing a material factis invalid as wellContinuing Guarantee A guarantee which extends to a series of transactions iscalled a continuing guarantee. A continuing guarantee can be revoked at any time by thesurety by notice to the creditor. Once the guarantee is revoked, the surety is not liable forany future transaction however he is liable for all thetransactions that happened before the notice was given.
UNNI IIM-CSpecial ContractsRights of the Surety Guarantee being a contract, all rights that are available to theparties of a contract are available to a surety as well. The following are the rights specific to a contract ofguarantee that are available to the surety.Rights against principal debtor1. Right of Subrogation : Where a guaranteed debt has becomedue, the surety upon payment is invested with all the rightswhich the creditor had against the principal debtor. This means that the surety steps into the shoes of the creditor Whatever rights the creditor had, are now available to thesurety after paying the debt.
UNNI IIM-CSpecial Contracts2. Right to get Indemnified In every contract of guarantee there is an implied promise bythe principal debtor to indemnify the surety; and the suretyis entitled to recover from the principal debtor whatever sumhe has rightfully paid under the guaranteeRights against creditor Right to securities : Surety is entitled to the benefit of everysecurity which the creditor has against the principal debtor atthe time when the contract of guarantee is entered into If the creditor loses or without the consent of the surety partswith such security, the surety is discharged to the extent ofthe value of the security.
Special Contracts Right of set off : If the creditor sues the surety, the surety may havethe benefit of the set off, if any, that the principal debtor had againstthe creditor. He is entitled to use the defences that the principal debtor has againstthe creditor. Thus if the creditor owes the principal debtor something, for whichthe principal debtor could have counter claimed, then the surety canalso put up that counter claim.Discharge of Surety A surety is said to be discharged from liability when his liabilitycomes to an end. A variance made without the consent of the surety in terms of thecontract between the principal debtor and the creditor, discharges thesurety as to the transactions after the variance.
UNNI IIM-CSpecial Contracts The surety is discharged by any contract between the creditor andthe principal debtor by which the principal debtor is discharged; The liability of a surety is co-extensive with that of the principaldebtor, unless it is otherwise provided in the contract.Main Differences between Indemnity and Guarantee In a contract of indemnity there are two parties i.e. indemnifier andindemnified. A contract of guarantee involves three parties i.e.creditor, principal debtor and surety. An indemnity is for reimbursement of a loss, while a guarantee isfor security of the creditor. In a contract of indemnity the liability of the indemnifier is primaryand arises when the contingent event occurs. In case of contract ofguarantee the liability of surety is secondary and arises when theprincipal debtor defaults.
UNNI IIM-CSpecial Contracts The indemnifier after performing his part of the promise has norights against the third party, whereas in a contract ofguarantee, the surety steps into the shoes of the creditor ondischarge of his liability, and may sue the principal debtorGuarantees and Debt Instruments by Corporates It is very common in a business transaction to support a loanwith a bank guarantee However in 2009 RBI had to intervene with a regulationwhich had the effect of banning banks from issuing guaranteesin the case of corporate debt instruments like debentures This essentially followed SBI’s guarantee to Tata Motors’ Rs4,200 crore non-convertible debentures (NCDs) in May 2009
Special Contracts Theoretically these NCDs could be bought by foreign funds andif that happens the SBI guarantee will mean that a bank isindirectly guaranteeing a foreign investment RBI wants to avoid a situation where Banks may go out ofcontrol by issuing such guarantees which could result in ahigher exposure than their net worth, similar to the case ofAmerican International Group (AIG) in the US As result of SBIs guarantee of timely payment of dues to theinstitutional investors, the Tata Motors bond issue obtained ahigher rating from credit rating agencies, which in turn ensuredlower interest rates.UNNI IIM-C
Special ContractsBailment and Pledge A bailment involves the delivery of goods by oneperson to another for some purpose upon a contractthat they shall, when the purpose is accomplished bereturned or disposed of according to the directions ofthe person delivering them. The person delivering the goods is called the bailorand the person to whom the goods are delivered iscalled the bailee. The examples of a contract of bailment are:-leavingluggage in a cloak room; leaving garments with atailor etc.UNNI IIM-C
UNNI IIM-CSpecial Contracts The important feature of bailment is the transfer of possession. The ownership remains with the owner and there cannot be abailment of immovable property like land.Pledge A pledge involves a bailment of goods where the goods aredelivered as a security for payment of a debt or performance of apromise. The bailor is called the pledgor or pawnor and the bailee is calledthe pledgee or pawnee. Thus, pledge is a special kind of bailment and can be made only ofmovable properties. In order to make the pledge legally valid it is essential that thepledgor has the legal right/title to retain the goods.
UNNI IIM-CSpecial ContractsMain Differences between Bailment and Pledge Purpose:- A pledge is made for a specific purpose (to raise aloan), while bailment can be made for any purpose Property:- In bailment, the bailee gets only the possession ofgoods bailed and the ownership remains with the bailor. In the case of pledge, the pledgee acquires a special propertyin the goods pledged whereby he gets possession coupledwith the power of sale, on default. Right of sale :- Bailee can exercise a lien on the goods bailedand he has no right of sale (lien means the right to retainpossession) But in case of a pledge, the pledgee can sell the goods afterdue notice to pledgor.
Special ContractsContract of Agency Agency is a special type of contract.The principles of contract of agency are –1. Except matters of a personal nature, what all things a person can dohimself can also be done through agent2. A person acting through an agent is acting himself, i.e. act of agent isact of Principal. - - Since agency is a contract, all general requirements of a validcontract are applicable to agency contract also One important distinction is that no consideration is necessary tocreate an agency. An agent is a person employed to do any act for another or torepresent another in dealings with third persons. The person for whom such act is done, or who is so represented, iscalled the principal
UNNI IIM-CSpecial Contracts Any person who is of the age of majority and who is of sound mind,may employ an agent. As between the principal and third persons any person may becomean agent, but no person who is not of the age of majority and ofsound mind can become an agent, so as to be responsible to hisprincipal An agent can act on behalf of Principal and can bind the Principal.Agent’s main duties to Principal Conducting principal’s business as per his directions Carry out work with normal skill and diligence Render proper accounts Agent’s duty to communicate with principal Agent’s duty to pay sums received for principal
UNNI IIM-CSpecial ContractsMain Powers of Principal Recover damages from agent if he disregards directions of Principal Obtain accounts from Agent Recover moneys collected by Agent on behalf of PrincipalMain Duties of Principal Pay remuneration to agent if it is agreed Indemnify agent for lawful acts done by him as agent Indemnify Agent for all acts done by him in good faith Indemnify agent if he suffers loss due to neglect or lack of skill ofPrincipal.
UNNI IIM-CSpecial ContractsTermination of Agency An agency is terminated by1. the principal revoking his authority; or2. by the agent renouncing the business of the agency or;3. by the business of the agency being completed; or4. by either the principal or agent dying or principal becoming aperson of unsound mind; or5. by the principal being adjudicated an insolvent
UNNI IIM-CSpecial ContractsSale of Goods Sale of Goods is one of the special types of Contract andinitially this was part of Indian Contract Act itself Later on a separate Sale of Goods Act was passed in 1930. The Sale of Goods Act is complimentary to Contract Act. Fundamental provisions of Contract Act apply to contract ofSale of Goods also. Thus provisions dealing with offer and acceptance, legallyenforceable agreement, mutual consent, parties competent tocontract, free consent, lawful object, consideration etc. applyto contract of Sale of Goods also.
UNNI IIM-CSpecial Contracts A contract of sale of goods is a contract whereby the seller transfersor agrees to transfer the property in goods to the buyer for a price. A contract of sale may be absolute or conditional. A contract of sale may be made in writing or by word of mouth, orpartly in writing and partly by word of mouth or may be impliedfrom the conduct of the parties Two parties are required for contract are the Buyer who buys oragrees to buy goods and Seller who sells or agrees to sell goods Where under a contract of sale the property in the goods istransferred from the seller to the buyer, the contract is called a sale,but where the transfer of the property in the goods is to take place ata future time the contract is called an agreement to sell
UNNI IIM-CSpecial Contracts “Goods” means every kind of movable property other thanactionable claims and money; and includes stock and shares,growing crops, grass, and things attached to or forming part of theland which are agreed to be severed before sale or under the contractof sale.Conditions and Warranties Stipulation in a contract of sale with reference to goods which are thesubject thereof may be a condition or a warranty. A condition is a stipulation essential to the main purpose of thecontract, the breach of which gives rise to a right to treat the contractas cancelled. A warranty is a stipulation collateral to the main purpose of thecontract, the breach of which gives rise to a claim for damages butnot to a right to reject the goods and treat the contract as cancelled
UNNI IIM-CSpecial Contracts Caveat Emptor - The principle termed as ‘caveat emptor’ means‘buyer be aware’. Generally, buyer is expected to be careful while purchasing thegoods and seller is not liable for any defects in goods sold by him. However with the evolution of Consumer Protection Laws thisconcept is becoming outdated Delivery of goods to buyer : Delivery of the goods and payment ofthe price are concurrent conditions, unless otherwise agreed This means that the seller shall be ready and willing to givepossession of the goods to the buyer in exchange for the price, andthe buyer shall be ready and willing to pay the price in exchange forpossession of the goods.
UNNI IIM-CSale of Software ????Software Licences Software is never sold as any other product; it isalways viewed as an intangible property. It is only licensed and this is the most popular formof agreement being made in relation to software. Under this agreement the person who develops thesoftware, licenses certain rights in relation to thesoftware to the user.
UNNI IIM-CSale of Software ???? What these contracts normally grant is a non-exclusive andnon-transferable licence to run the software on a singlecomputer at a time. The licensee is not in any way empowered to transfer thisright to any third party. Since the licence is non-exclusive in nature the Licensor cangrant these rights to other parties. The Licensee has the limited right to use the software only onone computer at a given time If anybody loads the same software into his computer bymaking a copy from the Licensee then the Licensee is deemedto have violated the Licence agreement.
Sale of Software ????Shrink Wrap Agreements It is a sub category of software licences which intend to establish abinding legal agreement between the software vendor and the user. The agreement can be generally seen inside the box containing thesoftware, printed on the envelope containing the CD-ROM or disks,or may be printed in the user manual. There is a warning to the user not to open the software envelope oruse the software unless and until he or she fully agrees with the termsand conditions of the agreement. Shrink-wrap licences have traditionally been widely used in thecomputer software industry in mass market transactions Interestingly the word "shrink-wrap" has been linked to the fact thatsuch agreements used to be included on the outside of the softwarepackaging, which was visible through the clear plastic shrink-wrapwhich was used to seal the package.
Special ContractsPartnership Partnership is one of the special types of Contract and earlier this waspart of Indian Contract Act itself but later converted into separate Actin 1932. The Indian Partnership Act is complimentary to Contract Act. Basic provisions of Contract Act apply to contract of partnershipalso. Basic requirements of contract i.e. legally enforceable agreement,mutual consent, parties competent to contract, free consent, lawfulobject, consideration etc. apply to partnership contract One crucial disadvantage of partnership is the unlimited liability ofpartners for the debts and liabilities of the firm. Any partner can bind the firm and the firm is liable for all liabilitiesincurred by any firm on behalf of the firm.
UNNI IIM-CSpecial Contracts Partnership Firm is not a legal entity though it has limited identityfor purpose of tax law. Partnership is the relation between persons who have agreed toshare the profits of a business carried on by all or any one of themacting for all. It is not a distinct legal entity apart from the partners Constituting it Each partner is ‘agent’ of all the remaining partners and thuspartners are ‘mutual agents’. As per normal provision of contract, a ‘partnership’ agreement canbe either oral or written. However an Agreement in writing is necessary to get the firmregistered.
UNNI IIM-CSpecial Contracts The partners must come together to share profits and the share neednot be in proportion to funds contributed by each partner. Even though sharing of profit is essential, sharing of losses is not anessential condition for partnership Since partnership is an ‘agreement’ there must be minimum twopartners. In case of partnership, the number of members must not exceed 10 incase of banking business and 20 in other businesses Dissolution of a firm can bea) By agreementb) Compulsory dissolution in case of insolvencyc) Dissolution on happening of certain contingencyd) By noticee) Dissolution by Court
UNNI IIM-CSpecial ContractsLimited Liability Partnership The concept of limited liability partnership (LLP) has beenintroduced in India by the Limited Liability Partnership Act 2008,which came into force from April 1, 2009 LLP tries to combine the advantages of ease of running a Partnershipand separate legal entity status and limited liability aspect of aCompany. LLP is a separate legal entity separate from its partners, can ownassets in its name, sue and be sued. Unlike corporate shareholders, the partners have the right to managethe business directly One partner is not responsible or liable for another partner’smisconduct or negligence. Compulsory registration to be done with Registrar of Companies
UNNI IIM-CSpecial Contracts Minimum of 2 partners and no maximum cap on the number ofpartners. LLP has perpetual succession. The rights and duties of partners in LLP, will be decided by theagreement between partners The duties and obligations of Designated Partners shall be asprovided in the law. Liability of the partners is limited to the extent of his contributionin the LLP. No exposure of personal assets of the partner, except in cases offraud. Audit of the LLP accounts is required only if annual turnoverexceeds Rs.40 lakhs
UNNI IIM-CSpecial ContractsNegotiable Instruments Act 1881 Negotiable instruments play a very vital role in modern daytransactions These are the principal instruments for making payments anddischarging various obligations To be simple a negotiable instrument is a transferabledocument which satisfies certain terms and conditions Since they are transferable, they pass on freely from hand tohand and thereby form an essential part of modern daycommercial transactions
UNNI IIM-CSpecial Contracts The relevant Indian Law dealing with these instruments is theNegotiable Instruments Act, 1881 However the Act refrains from defining a negotiable instrumentinstead it only states that a negotiable instrument means apromissory note, bill of exchange or cheque payable either toorder or bearer (Sec 13) In other words the Act does not define a negotiable instrument,it only clarifies that cheque, bills of exchange and promissorynotes are negotiable instruments The most important feature is the good title it confers on theperson who receives it genuinely and for value, even if thetransferor had defective title to the said instrument
UNNI IIM-CSpecial ContractsEssential features of negotiable instruments Negotiable instruments are easily transferable from person to personand the ownership of the property in the instrument is passed on bymere delivery, if it is bearer instrument, In the cases of order instruments, property in the instrument is passedon by endorsement and delivery Transferability is an essential feature of a negotiable instrument A negotiable instrument confers absolute and good title on thetransferee, who takes it in good faith, for value and without noticeof the transferor’s defective title on the said instrument Illustration X sells his mobile phone to Y, who makes the paymentthrough a bearer cheque. Even if Y has stolen this cheque from Z,still X will get good title over the said cheque if he has exercisedreasonable care at the time of taking the cheque.
UNNI IIM-CSpecial Contracts Thus a negotiable instrument is an exception to thegeneral rule that the transferor cannot transfer titlebetter than what he himself possessesPromissory note Promissory note is an instrument in writing whichcontains an unconditional promise signed by themaker to pay a certain sum of money only to a certainperson or to the order of certain person or to thebearer of the instrument (Sec 4, N.I. Act 1881)
UNNI IIM-CSpecial ContractsBill of Exchange It is an instrument in writing which contains an unconditionalorder signed by the maker, directing a certain person to pay acertain sum of money only to a certain person or to the orderof certain person or to the bearer of the instrument (Sec 5, N.IAct 1881) Generally this is in the form of an order from the creditor tothe debtor to pay a certain sum of money to a person specified. The maker of the bill is called the drawer, person who isdirected to pay is called the drawee and the person who isentitled to receive payment is called the payee
UNNI IIM-CSpecial Contracts In many occasions the drawer can be the payee alsoCheque Cheque is a bill of exchange drawn on a specifiedbanker and not expressed to be payable otherwisethan on demand Thus in the case of a cheque the drawee is always abanker and a cheque is only payable upon demand Whereas other bills of exchange are payable after aperiod of time specified therein, in the case of chequeit is payable only after a demand is made
UNNI IIM-CSpecial ContractsSimilarities/ Dissimilarities between Promissory note, Billsof Exchanges and Cheques The law makes it clear that all these instruments should be inwriting A cheque and a bill of exchange contain an order to the draweeto pay the money whereas the promissory note there is anundertaking by the maker to pay his creditor Thus in the case of cheque and a bill of exchange the drawermakes an unconditional order on another person to pay themoney, while in the case of the promissory note the drawerhimself promises to pay
UNNI IIM-CSpecial Contracts However one common feature in the case of Promissory note,Bills of Exchanges and Cheques is that the promise or ordershould be an unconditional one The main difference between a cheque and a bill of exchangeis that a cheque is always drawn on and is payable by thebanker, while a bill may be drawn on any person firm orcompany Thus only a customer of a bank having an account is entitledto draw a cheque on the banker, with the same branch of thebank where he has an account A bill of exchange is generally drawn by the seller on hiscustomer or a creditor on his debtor
UNNI IIM-CSpecial Contracts In the case of a promissory note, bill of exchange and acheque another similarity is that the amount of money to bepaid must be certain and should be specified clearly Promissory notes, bill of exchanges and a cheques must bepayable either to order or to bearer Time of payment: A cheque is always payable on demandwhile in the case of a bill of exchange and promissory note itmust be payable after a period of time specified in theinstrument
UNNI IIM-CSpecial Contracts A negotiable instrument is valid only if it bears the signatureof the drawer/promisor In the case of a cheque, signature of the drawer must tally withthe specimen signature given to the bank at the time ofopening of account In the case of a promissory note, bill of exchange they must bestamped while in the case of a cheque this is not required The valuation depends upon the value of the note or bill If it is not stamped it cannot be admitted in evidence in case ofany disputes
UNNI IIM-CSpecial Contracts Another similarity in the case of promissory note, bill ofexchange and a cheque is that the holder of these instrumentshas the right to sue in his own name for the recovery of theamount mentioned in it All negotiable instruments are transferable from one person toanother Thus the negotiable instrument confers upon the person whoacquired it bona fide and for value good title to the instrument,in spite of any defect in the transferors title Such a person is called a holder in due course and he gets titleagainst the entire world
UNNI IIM-CSpecial ContractsConcept of NegotiabilityIllustration : Assume that A has sold his laptop to Bfor Rs 40,000/- on three months credit. In order to ensure that B will pay the money afterthree months, A may write an order addressed to Bthat he has to pay after three months, for value ofgoods received by him, (i.e.Rs.40,000/) to A oranyone holding the order and presenting it beforehim (B) for payment.
UNNI IIM-CSpecial Contracts This order which A writes is called a Bill of Exchange, Ais the Drawer, B is the Drawee, This written document has to be signed by B to show hisacceptance of the order, then B becomes the acceptor Thus A can hold the document with him for three monthsand on the due date can collect the money from B or Acan use the document for meeting different businesstransactions Thus after a few days if A wants he can borrow moneyfrom C for a period of 2 months and pass on thisdocument to C.
UNNI IIM-CSpecial Contracts For transferring the Bill of Exchange to C, A just has to write onthe back of the document an instruction to pay money to C, andsign it. After doing so A has to deliver the Bill of Exchange to C The above said act of signing on the back of the document iscalled endorsement, A is the endorser and C is the endorsee Now C becomes the owner of this document and he can claimmoney from B on the due date. In the alternative, C can further pass on the document to D afterinstructing and signing on the back of the document. This passing on process may continue further till the finalpayment is made
UNNI IIM-CSpecial Contracts The ease at which the property in a document transfers from oneperson to another signifies the negotiability of the instrument.This very often happens in the case of a cheque also if A issues a “ICICI Bank” cheque worth Rs. 5,000/ in favour of B,then B can claim Rs. 5,000/- from ICICI Bank, (A-Drawer, ICICI-Drawee, B-Payee) or B can transfer it to C to meet any obligation, like paying back a loanthat he might have taken from C. (B-Endorser, C-Endorsee) Once B transfers it, C gets a right to Rs. 5,000/- and C can transfer itto D if needed. Such transfers may continue till the payment is finally made tosomebody.