Business Laws

Confusion about bank guarantees settled

M Ramesh | Updated on: Jun 05, 2022

Under Section 28 of the Indian Contract Act, 1872 , a clause in the contract that limits the time within which a party’s rights are to be enforced is void, if such period is shorter than the statutory period of limitation. The statutory period is, three years for non-governmental beneficiaries and 30 years for governmental beneficiaries.

However, one exception to this principle is in the ‘third exception’ to Section 28 of the Contract Act, which allows banks to issue Bank Guarantees with claim periods of not less than one year— less than the limitation period. This created a confusion about whether the claim period is one year or the enforcement of contractual rights has to be a minimum of one year. “It is important to understand the nuances since for any BG applicant the requirement to pay commission for the entire limitation period is commercially burdensome,” observes Rishi Thakur of the law firm, ZBA, in an article in Mondaq

A recent verdict of the Delhi High Court has put this confusion to rest. In  Larsen & Toubro vs Punjab National Bank, the court concluded that it is the enforcement period for the beneficiary to approach a court that is one year not the period within which the beneficiary can claim against the BG bank.

“This must not be confused with the claim period for invocation of the BG, which is clearly a contractual matter between bank, applicant and beneficiary,” notes Thakur.

The Court was only of the view that no beneficiary can be restricted from approaching a court for a period less than one year. “This area that has not had sufficient jurisprudence and this judgement provides much needed clarity of approach to the banking industry on bank guarantees. We may see further market and jurisprudence in this area over the coming years,” says Thakur. 

Published on June 05, 2022
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