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Sufficiency of Past Consideration in Guarantee Agreements

The author is Aditi Bhojnagarwala, a second year student at NALSAR University of Law.


There has been a long-standing controversy on whether an act done for the benefit of the principal debtor (“PD”) in the past would constitute a valid consideration for an agreement of guarantee with the surety (“S”). While there has been no decisive judgment on this issue by the Supreme Court, various High Courts have swung both ways, hence creating an inconsistency in the application of law.

S. 127 of the Indian Contract Act, 1872 (“ICA”) states that “Anything done, or any promise made, for the benefit of the principal debtor, may be a sufficient consideration to the surety for giving the guarantee”. However, Illustration (c) to the section essentially points to a situation where past consideration is not considered sufficient for a valid guarantee agreement. The primary debate is in regards to whether the word ‘done’ in S. 127 ICA should be interpreted to include actions done in the past, or whether Illustration (c) should be used as an aid to interpret the invalidity of past consideration.

The aim of this paper is to argue that past consideration would amount to sufficient consideration, and hence would render valid a guarantee agreement relying on the same. To prove the admissibility of past consideration in guarantee agreements, an examination of S. 127 ICA along with Illustration (c) has been done in light of the rules of interpretation of statutes. The conventional method of analyzing precedents has been abandoned for the reason that High Court judgments do not have authoritative value, and hence the Supreme Court, when it chooses to decide on this issue, will have to primarily rely on its power of interpreting the statute.

Grammatical meaning of the word ‘done’ as used in the statute

At the outset, it is imperative to understand the plain grammatical meaning of the word ‘done’ as used in the context of S. 127 of ICA. Done’ is the past participle form of the verb ‘do’ and is used as an adjective to describe a state of things, particularly the state of the indefinite pronoun ‘anything’. In the context of S. 127 ICA, ‘done’ suggests that ‘anything’ has been completed, finished, or accomplished. This is the clear, precise and unambiguous grammatical use of the word.

Conflict between Section and Illustration

The primary conflict is in the wordings of S. 127 ICA, which legitimizes past consideration as valid through use of the word ‘done’ and Illustration (c) which lays down past consideration as insufficient. It is widely agreed that illustrations themselves do not form a part of the statute and hence have no authoritative value on the courts. They exist to provide a clear meaning when the wordings of the section might be ambiguous, but in case of repugnancy the Section must always be preferred and prioritized over the illustration. Moreover, an illustration must always be read in reference to the subject and wordings of the section itself. Further, the original language of the section must be given high regard and an illustration must not be used to modify the language and thereby change the scope of the Act.

A particularly important judgment to consider in this regard is Aniruddha Mitra v. The Administrator General of Bengal.The court held that illustrations must not be utilized as tools to modify the scope of a section, especially when such modification leads to the curtailment of such rights as the plain reading of the section might confer. In the context of a guarantee agreement, the rights of the creditor (“C”) are greatly affected depending on whether past consideration is considered sufficient. A plain reading of S. 127 ICA confers the right on C to demand repayment by S in case of default, even when the S signs the agreement of guarantee after the time at which benefit has been conferred on the PD. However, Illustration (c) serves to deprive C of these rights by restricting the operation of the section. Hence, such an illustration must be ignored.

Similarly, Union Bank of India v. Avinash P. Bhonsle, held that the language of S. 127 ICA was clear, unambiguous and wide enough to include past consideration within its ambit and should thereby not be curtailed to only envisage that as consideration which is contemporaneously done.

Literal Rule of Interpretation must be applied

There are three primary methods of interpreting statutes- (i) The Literal Interpretation Rule; (ii) The Golden Rule, and; (iii) The Mischief Rule.

The Literal Rule of Interpretation should be applied when interpreting S. 127 ICA. This rule states that a statute must be taken to mean what it says; if the words used in a statute are unambiguous and have a clear and plain meaning, the court in such a case cannot create doubts as to the true meaning of such words used. S. 127 ICA uses the word ‘done’ which has a clear and unambiguous meaning denoting an act that has ended. Hence, the judiciary is not at liberty to create doubts as to the intended meaning. Consequently, there is no confusion as to the meaning of the section, and Illustration (c) being contradictory to such an interpretation of the section must be ignored.

The Golden Rule permits for the plain meaning of a term or phrase to be departed from, if the Strict Interpretation of the same is bound to create ambiguity. Moreover, in Warburton v Loveland, it was held that the grammatical meaning of a word must be given the greatest priority, and only if it blatantly inconsistent with the purpose of a statute, should the meaning of such a grammatical word be modified. However, as has been elucidated, the plain interpretation of the word ‘done’ creates no ambiguity and hence Strict Interpretation itself must be adhered to.

The Mischief Rule, too, must be discarded. The purpose of the Mischief Rule is to ‘suppress the mischief and advance the remedy’, enabling courts to consider the possible rationale of introducing a law in order to interpret its meaning. However, to apply this rule, the following prerequisites must be met: firstly, the mischief that the act intends to remedy must be determinable and identifiable; secondly, it must be apparent that the lawmakers have obviously ignored a particular aspect which is relevant to the purpose behind formulating the statute, and; thirdly, it must be possible to state the exact words which would have been inserted by the draftsmen, had the omission come to their notice. Neither of these three pre-conditions are satisfied, and hence the Mischief Rule cannot be applied.

Hence, the Strict Interpretation Rule must be abided by, which directs a plain and simple interpretation of the word ‘done’ to mean an act that has been completed in the past, thereby deeming past consideration as sufficient in a guarantee agreement.

Other criteria to be kept in mind

A common assumption to be followed while interpreting statutes is that the legislature does not commit mistakes, and that the legislature must always be deemed to have intended to say what it has actually said. Moreover, another important assumption is that “words are used in Acts correctly and exactly and not loosely and inexactly”. It has also been held that contracts must be interpreted in light of the maxim "Ut res magis quam vel pereat" i.e. in such a way so as to make it valid. Further, words of ordinary use are to be interpreted in their plain and common sense, especially when they convey a clear meaning. Hence, when the legislature has actually used the word ‘done’, which in its ordinary sense denotes any act that has been completed, it must be assumed that the term was used correctly and exactly, and it was the intention of the legislature to include ‘anything’ done by C for the benefit of PD in the past as valid consideration.

Rebutting the Rationale of Dissenting Judgments

In Ram Narain v. Lt. Col. Hari Singh the court relied on Illustration (c) to justify that past consideration must not be deemed as valid. However, as discussed above, in case of a conflict between the section and its illustration, the latter must give way to the former. Another argument was that Ghulam Husain Khan gives the word ‘done’ an unnatural meaning. Such views have been resonated by Pollock and Mulla as well as by other courts in cases such as Nanak Ram v. Mehin Laland Mir Niyamath Ali Khan v Commercial and Industrial Bank. However, it has been elucidated in much detail that ‘done’ being the past participle of ‘do’ is used as an adjective to describe the state of ‘anything’ in S.127 ICA. Hence, read in context, the only plain and natural meaning that could be deciphered would be that any act that has been completed for the benefit of the PD would constitute consideration, thereby proving that past consideration is sufficient. Hence, the rationale of the dissenting judgments does not hold well.

It can thus be positively concluded that an act done for the benefit of the principal debtor in the past would constitute a valid consideration for an agreement of guarantee with the surety.

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1 Comment

Isn't it contrary to the fact that any contract made without a consideration is void ? The section taken upon i.e. 127 illustration c which states that a A sells and delivers goods to B. C afterwards, without consideration, agrees .....The agreement is void.

How can it be said a past consideration when it is subsequent to the contract and not even forming any consideration for C?

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