Bank guarantees fall under section 126 of the Indian
Contract Act 1872 i.e., the Contract of guarantee. They are furnished by the
promisor from the bank to pay the promisee in case of the promisor’s default.
When the promisor or the principal debtor fails to give money to the creditor or
the promisee, the bank pays on his behalf. The amount to be given is clearly
specified in the bank guarantee.
Though the contract was first in place between
the promisee and promisor, now with the bank guarantee coming into the picture,
the then two-party contract turns into a three -party contract. The beneficiary
(promisee) and the bank form a separate contract, different from that entered
into by the promisor (at whose instance the bank guarantee is furnished) and
promisee. With large scale transactions taking place each day, the bank
guarantees have carved out a niche for themselves in the corporate world.
huge amount at stake during a contract, the parties in a contract furnish bank
guarantees so as to escape from a loss. The beneficiary is able to get the whole
amount stipulated in the contract in spite of any dispute between him and the
other party. An illustration for a contract having a bank guarantee can be as
“Mr. A contracts with Mr. B to sell to him 5 tonnes of sugar. Mr. A
furnished a bank guarantee of Rs. 5 lakhs from the bank. In case of non-payment
by Mr. A, Mr. B can invoke the guarantee of Rs. 5 lakhs from the bank.”
guarantees are of two types: Unconditional bank guarantees and conditional bank
guarantees. The covid situation, saw a number of disputes regarding the bank
guarantee. Force majeure clause was invoked by the government due to this
unprecedented situation and the beneficiaries were eager to invoke the
guarantees as most of the promisors failed to perform. The courts were divided
on the issue and we saw different interpretation. Also, the Insolvency and
Bankruptcy Code 2016 brought developments in the concept of bank guarantee.
Types of bank guarantees
There are two types of bank guarantees:
- Conditional bank guarantees
A conditional performance guarantee is a type of bank
guarantee which is invoked on the breach of a condition in a contract or on the
evidence of proof of breach as well as some loss. A specific clause is taken
into consideration in the contract. In Hindustan Construction Co. Ltd. vs.
State of Bihar and Ors. it was held that the beneficiary has no right to
demand immediate payment. As the name itself suggests, certain conditions have
to be fulfilled if the person in whose name the guarantee is furnished wants the
money. A clause (9) in the particular agreement between the defendants and
plaintiffs clearly mentioned that the bank would pay to the executive engineer
only on the non -fulfillment of obligation of HCCL and thus the bank guarantee
was not unconditional.
- Unconditional bank guarantees
These guarantees promise to pay on demand without any
excuse. The guarantee would be unconditional if it does not have any ifs and
buts. Any current or existing dispute would not cast a shadow on such a
guarantee. Only fraud or instances when there is an apprehension of injustice to
the parties can lead to the interference by the courts on the unconditional bank
guarantees. Otherwise, they need to be fulfilled and the money should be given
to the beneficiary as soon as possible. UP Coop Federation Ltd. vs Singh
Consultants and engineers (P) Ltd was one such case where the supreme court
affirmed this view and set aside the order passed by the high court. Here
appellant promised the respondent to construct a Vanaspati plant and furnished
two bank guarantees for the same in name of appellant. On default the appellant
wanted to invoke the guarantees which was contested by the respondent and thus
the case went from the arbitration to the high court and then the apex court
which gave this decision.
Bank guarantees have been usually found out by the
courts as a matter that should be kept separate from judicial interference. In Tarapore
and Co. v VO Tractors Export, the court held that as the bank guarantee is a
separate contract distinguishable from the original contract, the bank’s
undertaking to the creditor is absolute. The very purpose of such guarantees is
to avoid legal proceedings and enables the creditor to recover his money.
judicial intervention would do injustice and would destroy the very purpose of
such provision of bank guarantee. United Commercial Bank v Bank of
India was also one such case wherein the supreme court ruled out a temporary
injunction stating that if such injunctions would be granted then the whole
banking system would fail. Here the case was regarding the supply of mustard oil
and herein letters of credit were issued with the appellant bank.
bank asked the respondent bank to pay the amount under the guarantee when there
was a dispute between two parties. Also, the court said that the bank has
nothing to do with the original contract. It has an absolute obligation towards
the parties. But the courts have taken a different stand on cases where it found
it that the invocation of such guarantees would lead to injustice and has led
down certain exceptions when bank guarantee cannot be revoked.
Injunctions on bank guarantees
The bank and the promisor enter into a
contract of guarantee for the benefit of the promisee so that he can be
reimbursed in case the debtor is not able to pay. Thus, in toto we can say that
bank guarantee is a noble concept with an aim to secure the promisee from a
great loss. But the chances are no less that the promisee misconducts and
creates a scenario so as to get the money promised under the bank guarantee.
such a situation, either the bank or the promisor i.e., the person who has
furnished the bank guarantee can go to the court demanding an injunction for the
same. Before discussing when can an injunction can be granted let us first
briefly understand what is an injunction.
Injunction is a civil remedy provided under the
Specific relief act (SRA) 1963. Lord Halsbury defines injunction as , “A
judicial process whereby a party is ordered to refrain from doing or to do a
particular act or a thing.” Injunctions can be temporary, perpetual or mandatory
and are elaborated under section 37, 38 and 39 of the SRA. They provide relief
to a party and their disobedience is regarded as contempt of court.
Injunctions on bank guarantees (Explained)
Though not mentioned explicitly in the India contract act 1872, with the help of
judicial precedents we have figured out certain exceptions wherein injunction
can be granted. Also, in a recent supreme court judgment of 2019 the court
affirmed that an injunction against bank guarantees can be granted only in case
of fraud, irretrievable injustice and special equities.
Following are the three exceptions wherein injunction can be granted:
Covid-19 as a ground for granting Injunctions?
The courts have straightforwardly granted
injunction whenever there was a fraud. ‘Fraud’ is defined under section 17 of
the Indian contract act as an intentional wrong committed and contracts entered
under the garb of fraud are deemed to be void. UP State Sugar Corp. vs Sumac
International Ltd is taken as the supreme authority whenever we restrain any
bank guarantee on account of fraud. Also, it lays down that the fraud should be
such as to vitiate the very foundation of the bank guarantee.
Electric Technical Services Company Inc.Vs. Punj Sons (P) Ltd. and Ors.
the order of the high court was quashed as there was no evidence of fraud
and the bank was allowed to go forward with its commitment. Bank cannot
reject to fulfill the payment under the guarantee merely on suspicion that
the other party is wrong and the fact that the fraud has been committed
should be proved. 
- Irretrievable injustice
Whenever granting a bank guarantee leads to
an injustice which cannot be reversed by the courts, then an injunction on the
bank guarantees can be granted. In a case where the defendant had no assets in
India was altogether rejected as a ground that would cause irretrievable injury
The harm or injustice contemplated under this header must be of such
an exceptional and irretrievable nature that it would override the terms of the
guarantee and the adverse effect of such an injunction on commercial dealings in
the country would be severe. Special equities can also be included under the
header of irretrievable injustice and in practice the same has been done several
A war is always a devastating situation which is mostly unprecedent. The
situation of war in Iran coupled with a fraud on the part of beneficiary was
taken as a ground to issue an injunction against the issuance of bank
guarantee. Economic duress can also be one reason for granting injunctions
but the economic duress should be separated from the normal commercial problems
Whenever we are dealing in large amount of money, there is always
a risk of loss. Therefore ,any economic problem arising during fulfillment of a
bank guarantee should be more than mere loss and also on the basis that one
party has more bargaining power than the other.
Upsurge of Covid-19 was an unprecedent, unimagined
event that shook whole India. The business industry was shaken too. A lot of
contracts were paused and their future was uncertain. But the government of
India vide an order dated 13 May 2020 declared covid -19 as force majeure.
Declaring covid as a force majeure also had an effect on bank guarantees. Can
covid be taken as an excuse against bank guarantees? Bombay high court and Delhi
high court had a conflicting view regarding the same. The applicability of
section 56 that is when a contract becomes impossible was applied differently in
both of these cases.
In Haliburton Offshore services vs Vedanta
.  case the plaintiff was only going to complete its contractual
obligations when the lockdown was announced due to which he was not able to
discharge his obligations under the contract. The defendant wanted the
invocation of bank guarantees as there was a default on the part of the
plaintiff. The plaintiff wanted an injunction on these bank guarantees.
court provided relief to the plaintiff and held that since covid and
lockdown was the reason for the default on the part of plaintiff, his bank
guarantees cannot be invoked merely on this factor. It is a situation of special
equities. While in Bombay High court judgment the court took a definitely
In Standard Retail Pvt. Ltd. Vs. Global Corp.
. , a South Korea based party exported certain steel to the other party
based in India. The Indian party due to the lockdown enforcement could not
perform its part of the contract. The Korean company invoked the bank guarantee
and the Indian company went to the court against the invocation of bank
guarantees and instead wanted injunction.
The court held that the defence of
force majeure cannot be used here and the party can invoke its bank guarantee.
Thus, we got two different judgments from two different authorities and now we
are looking up for a Supreme Court decision. Whatever the Supreme court decides
would become the law as precedents of Supreme court are binding on all
Insolvency and Bankruptcy Code 2016 and Bank Guarantee
The banks have an obligation to revoke
the guarantee but the conflict arises when third party guarantees are enforced
during the moratorium period of a corporate debtor in relation to which a CIRP
(Corporate Insolvency Resolution Process) has been initiated. The mention of the
same through the Insolvency and Bankruptcy code is a recent development in the
field of bank guarantee.
According to this act Non-performance guarantee cannot
be invoked during the moratorium period. While performance guarantee can.
Security interest mentioned under section 14 of the IBC 2016 include
non-performance guarantee but not performance guarantee. GAIL (India) Ltd.
Vs. Rajeev Manaadiar
 held the same and the recent cases of NCLAT showed us
certain new developments in the law of bank guarantees.
But a contradictory view
was expressed in the case of ICICI Bank Ltd. V. Vista Steel Pvt. Ltd.
the invocation of bank guarantee was stayed owing to the fact that the
moratorium period was under operation. Thus, we see that the law is still
evolving and we need more decisions to validate the same.
Bank guarantees have emerged as the backbone
of several commercial transactions. Big companies enter into such guarantees so
as to secure their money. Judges have interpreted such guarantees as a contract
between the bank and the promisor and have said that they should not interfere
in the same. Banks have an obligation to fulfill the same without any excuse of
either the bank or the debtor. Importance of bank guarantee cannot be neglected
But it itself has suffered from certain problems. Covid-19 emerged as
a recent issue in the grant of such guarantees and we saw two High courts taking
two opposite decisions. Judicial precedents have chalked out exceptions when
such guarantees cannot be invoked ensuring that justice prevails. The insolvency
and bankruptcy code added the factor of moratorium in such guarantees.
bank guarantees are not new and have been included in section 126 of the Indian
Contract Act 1872, other mercantile laws like IBC, arbitration have influenced
it and we can see more developments in the coming future. IBC being a newly
enacted code with just five year of enactment would see amendments coming up and
with amendments in it, we would see changes in grant of bank guarantees too.
Bank guarantees need to be made more bank friendly as sometimes banks end up
with losses when they are not indemnified by the principal debtor then only, we
will end up having a fair system.
- Hindustan Construction Co. Ltd. vs. State of Bihar and
- UP Coop Federation Ltd. vs Singh Consultants and engineers (P)
- Tarapore and Co. v VO Tractors Export ,AIR 1970 SC 891
- United Commercial Bank v Bank of India,1981 AIR 1426
- Standard Chartered Bank vs . Heavy Engineering Corporation Ltd . and
- UP State Sugar Corp. vs Sumac International Ltd., (1997) 1 SCC 568
- General Electric Technical Services Company Inc.Vs. Punj Sons (P) Ltd.
and Ors MANU/SC/0442/1991
- Zillion Infra Projects (P) Ltd v. Fab-Tech Works & Constructions Pvt
Ltd. & Another.,1978 QB 159
- Himadri Chemicals Industries Ltd. vs. Coal Tar Refining Company,
- U.P. State Sugar Corporation v. Sumac International Ltd., (1997) 1 SCC
- Itek Corp. V. First National Bank 730 F.2d 19
- Haliburton Offshore services vs Vedanta Ltd. 2020 SCC OnLine Del 542
- Standard Retail Pvt. Ltd. Vs. Global Corp. Co. 2020 SCC OnLine Bom 704
- Insolvency and Bankruptcy Code 2016, § 14,No. 31,Acts of
- Insolvency and Bankruptcy Code 2016 , § 3(31), No. 31,Acts of
- GAIL (India) Ltd. Vs. Rajeev Manaadiar Company Appeal 2018 SCC OnLine
- ICICI Bank Ltd. V. Vista Steel Pvt. Ltd. 2018 SCC OnLine NCLAT 230