The term indemnity means a promise to save a person harmless from the consequences of an act. For example; in a contract of employment the employee signed up for minimum period of three years and if the employee leaves the establishment earlier, three months’ remuneration will be recovered. So, the employer protected himself from any future financial risks by entering into a contact of indemnity. The definition of indemnity is given under section 124 of Indian Contract Act,1872 which explains it as a contract where one person undertakes to save another person from any loss. The loss may be caused by the same person or a third party. The contract of guarantee, on the other hand, is to perform the promise of a third party in case of his default. For example; A and B enters into a contact where A promises to pay 10,000/- to B and within 3 months B will repay. C acts as a surety and promises to pay the debt in case B fails to repay. Section 126 of Indian Contract Act,1872 explains it as a contract where one party promises another to compensate and perform the liability of a person entered into the same contract.
The contract of indemnity does not cover the loss caused by natural occurrence such as accident or act of God. Every contact of insurance other than life insurance is a contract of indemnity. But in a contract of guarantee, the surety has to pay the creditor even if the principal debtor dies.
There are two parties to the contract of indemnity; one called indemnifier who promises to compensate the loss and; second called indemnity-holder who suffered the loss. There are three people involved in such contracts namely; surety who gives the guarantee to pay, the principal-debtor who may commit the default and, the creditor to whom guarantee is given.
The contract of indemnity there is only one contract. On the other hand, the contract of guarantee contains three contracts where the secondary contract will only arise after the failure of the primary contract between creditor and principal debtor.