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CA - INTERMEDIATE - GR.

I INDEMNITY AND GUARANTEE

1 SPECIAL CONTRACTS - 1A : INDEMNITY AND GUARANTEE

CONTRACTS OF INDEMNITY
Meaning of Contract of Indemnity (Sec. 124) :
Indemnity literally means compensating a person for any loss. This is a typical contingent contract. “ In a
contract of indemnity one party promises to save other party from loss caused to him -
i) by the conduct of the promisor himself, or
ii) by the conduct of any other person.”
There are only two parties in a contract of indemnity.
The person who promises to make good the loss is called “Indemnifier” and the person to
whom the promise is made is called “Indemnified” or “Indemnity Holder”.
These contracts are entered for :
- Making good the loss incurred by another person.
- Compensating the party who has suffered some loss,
- Protecting a party from incurring a loss.
For Example :
1. A and B went to a shop. A says to the shopkeeper, “Give goods to B; I shall ensure that amount is paid
to you.” It is a contract of indemnity. A is indemnifier and shopkeeper is indemnity holder / indemnified.
2. X is a shareholder of XYZ Ltd and he has lost his share certificate. He has requested to the company for
issue of duplicate share certificate. Company has asked for indemnity bond from Mr. X as compensation
for any loss that may be incurred due to issue of duplicate share certificate in future.
Essential Elements of contract of Indemnity
- Contract : The basic requirements like consideration, free consent, competency of contract of contract,
lawful object, should be present for a valid contract of indemnity. It may be express or implied.
For Example : A ask B to beat C and promises to indemnify him against conseuqences. Upon beating
of C by B, A refused to indemnify, here B cannot compell to A and file suit to get compensated as
contract was unlawful.
- Loss / Certainty of loss
A person can indemnify another only if such other person incurs some loss. Existence of loss is essential
to enforce contract of indemnity.
- Reason for loss
The contract must specify that indemnity holder shall be protected from loss due to the conduct of
promisor / other person. Therefore, loss caused by accident or an act of God is not covered by contract
of indemnity.
Rights of Indemnity Holder, when sued (Sec. 125) :
The promisee (i.e. Indemnity-Holder) in a contract of indemnity, acting within the scope of his authority,
is entitled to recover from the promisor (i.e. Indemnifier) -
i) All costs, which indemnity-holder may be compelled to pay under any suit ;
ii) All costs paid by him in filing and defending the suit ;
iii) All sums paid by him as compromise of any such suit.

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CA - INTERMEDIATE - GR. I INDEMNITY AND GUARANTEE

CONTRACTS OF GUARANTEE
Meaning of Contract of Guarantee (Sec. 126) :
A contract of guarantee is a contract (i) to perform the promise or (ii) discharge the liability of a third
person in case of his default.
The person who gives the guarantee is called the ‘surety’, the person for whom the guarantee is given
is called the ‘principal-debtor’, and the person to whom the guarantee is given is called the ‘creditor’.
A guarantee may be either oral or written.
For example : X asks Y to give a loan of ` 100000 to Z promising that if Z does not return the amount,
he (X) will pay the amount.
In the above example X is the surety, Y is the creditor and Z is the principal-debtor.
For example : If ‘A’ obtains housing loan from LIC Housing and if ‘B’ promises to pay LIC
Housing in the event of ‘A’ failing to repay, it is a contract of guarantee.
Features of the Contract of Guarantee :
1. There are three parties, known as surety, principal debtor and creditor under the contract of indemnity.
2. There are three contracts under the contract of guarantee.
a) Principal contract between principal debtor and creditor, in which principal debtor is primiarily liable.
b) A secondary contract between the creditor and surety, in which liability of surety is secondary.
c) An implied contract between surety and principal debtor under which principal debtor is bound to
compensate or indemnify the surety, if surety discharges the original obligation of principal debtor.
This right of surety does not affect by the fact that creditor has refused to sue the debtor or he has
not demanded the sum due from him.
3. Conditional Promise : The liability of surety is secondary and conditional it arises only if debtor makes
default.
4. Consideration to Surety for Guarantee is not required Sec 127: Consideration received by principal
debtor, such as “anything done or any promise made for the benefit of principal debtor is a sufficient
consideration to the surety in respect of guarantee given.
For example : Bikram requests Abir to sell and deliver to him wheat on credit. Abir agrees to deliver
provided that Chander will guarantee the payment of price of wheat in the event of Bikram’s failure.
Chander promises to guarantee the payment in considerations of Abir’s promise to deliver the wheat.
The promise of Abir to deliver wheat is sufficient consideration for Chander’s guarantee.
For example : If Abir delivers wheat to Bikram. Chander after delivery of goods gives guarantee
without any consideration (without further benefit to principal debtor) to Abir for Bikram’s failure to pay
then such guarantee is void. In other words, consideration must be there for surety in terms of
benefit of the principal debtor at the time of contract itself.
Essentials of the Valid Contract of Guarantee :
1. There should be a principal debtor.
2. Anything done for the benefit to the principal debtor is sufficient consideration for surey, but past
consideration is no consideration.
3. Consent for guarantee from surety shall not have been obtained by way of misrepresentation or
concealment. The creditor must disclose all the facts which are likely to affect the surety liability.
4. Contract may be oral or written and all other essential of a valid contract are necessary.
5. Creditor may file suit against surety immediately upon the default without proceeding against principal
debtor first.
6. If co-surety does not join, the contract of guarantee becomes void.

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DIFFERENCE BETWEEN INDEMNITY AND GUARANTEE


Basis Indemnity Guarantee
1. Meaning It is a contract to make good the loss of It is a contract to perform the promise or
the other party. discharge the liability of the other party in
the case of his default.
2. Parties There are 2 parties, i.e. indemnifier and There are 3 parties, i.e. the surety, the
indemnified. creditor and the principal debtor.
3. Number of There is only one contract between the In this case, there are 3 contracts -
contracts indemnifier and the indemnified. - One between the creditor and the
principal debtor,
- Second between the creditor and the
surety, and
- Third between surety and principal
debtor.
4. Contingency In this case, the liability of the indemnifier In this case, the liability of the surety is
is dependent upon the happening of or contingent upon non-payment by debtor.
contingency of occurence of loss
5. Nature of The liability of the indemnifier is primary. Here, the liability of the surety is secondary.
Liability
6. Request to act The indemnifier does not act at the request A surety has to act at the request of the
of the indemnified. debtor.
7. Capacity to All the parties must have capacity to The principal debtor may be a person, who
contract contract. has no capacity to contract, he may be
minor.
8. Right to sue Indemnifier cannot sue a third party to Surety can recover from principal debtor
third party recover loss in his own name as there is in his own right as he gets all rights of
no privity of contract. creditor.
9. Purpose Reimbursement or compensation of loss. Providing security to the creditor.

NATURE OF SURETY’S LIABILITY (SEC 128)


1. Surety’s Liability is Co-extensive : In the absence of a contract to the contrary,
i) the liability of the surety is equal to that of the principal-debtor.
ii) if debtor cannot be held liable due any defect in the contract then the surety also cannot be held
liable.
iii) surety is liable even if principal debtor has not been sued because liability of surety is seperate.
2. Time when the liability of the surety arises : The liability of the surety arises only on default by the
principal-debtor. Therefore, the surety will not be liable unless there is a default by the principal-debtor.
However, when the default has been committed, then immediately the liability of the surety begins. A suit
can be filed against the surety without suing the principal-debtor or giving notice before. In othe words,
a creditor may choose to proceed against a surety first, unless there is contract to contrary.
3. Surety’s liability may be limited, conditional or continuous upto certain amount or cetain period or both.

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RIGHTS OF SURETY
The various rights of the surety can be divided into the following three categories :
I) Rights against Principal-Debtor
II) Rights against Creditor
III) Rights against Co-Sureties
I. Rights against the principal debtor :
1. Right of subrogation (Sec 140) : When surety makes payment of dues on default by principal debtor,
he entitles to claim all the rights which were available to creditor against principal debtor, in nutshell
surety steps into the shoes of the creditor.
2. Right of implied indemnify (Sec 145) : There is implied right of indemnity in evey contract of guarantee
by which principal debtor has implied promise to compensate surety.
In case of continuing guarantee, a surety can ask the creditor not to sell goods on credit in future.
Similarly, in case of a fidelity guarantee, the surety can ask the creditor (employer) to dismiss the employee.
Example 1 : Bikram is indebted to Chander, and Abir is surety for the debt. Chander demands payment
from Abir, and on his refusal sues him for the amount. Abir defends the suit, having reasonable grounds
for doing so, but is compelled to pay the amount of the debt with costs. He can recover form Bikram the
amount paid by him for costs, as well as the principal debt.
Example 2 : Chander lends Bikram a sum of money, and Abir, at the request of Bikram, accepts a bill of
exchange drawn by Bikram upon Abir to secure the amount, Chander holder of the bill demands paymen
of it form Abir and on Abir’s refual to pay sues him upon the bill. Abir without having reasonable grounds
for doing so defends the suit and has to pay the amount of the bill and costs. He can recover from Bikram
the amount of the bill but not the sum paid for costs as there was no real ground for defending theaction.
Example 3 : Abir guarantees to Chander, to the extent of ` 1 lakhs, payment for wheat to be supplied
by Chander to Bikram. Chander supplies to Bikram wheat for ` 2 lakh. Abir cannot recover from Bikram
anything more than 1 lakh rupees.

II. Rights against the Creditor :


Rights to benefit of creditor’s securities (Sec. 141) : A surety is entitled to the benefit of every
security, which the creditor has against the principal-debtor at the time, when the contract of suretyship
is entered into, whether the surety knows of the existence of such security or not.
If the creditor loses or without the consent of the surety, parts with such security, the surety is discharged
to the extent of the value of the security.
For Example C advances to B ` 20,000 on the guarantee of A. C has a security for ` 20,000 in the form
of B’s furniture. C returns the furniture. B becomes insolvent, and C sues A on his guarantee. A is
discharged from his liability to the extent of the value of the furniture due to cancellation of mortgage.

III. Rights against Co- sureties :


When a debt is guaranteed by two or more sureties, each of them is called a co-surety.
1. Co-sureties liable to contribute equally (Sec. 146) : In the absence of any contract to the contrary,
the co-sureties are liable as between themselves, to pay each an equal share of the whole debt, or of that
part of it which remains unpaid by the principal-debtor. This rule will apply, even if one co-surety does not
have the knowledge of the existence of the other co-surety.

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For Example : (i) X, Y and Z jointly guarantee a sum of ` 30,000 lent by A to B. B makes a default in
payment. X, Y and Z are liable to contribute ` 10,000 each.
(ii) In the above case, if X, Y and Z agree to share the guarantee in the ratio of 3 : 2 : 1, then their liability
will be 15,000, 10,000 and 5,000 rupees respectively.
2. Liability of Co-sureties bound in different sums (Sec. 147) : Co-sureties who are bound in different
sums are liable to pay equally as far as limits of their respective obligations permit.
For Example : X, Y and Z are sureties for P for ` 10,000, 20,000 and 40,000 respectively. P makes
default to the extent of - (i) ` 30,000; (ii) ` 40,000; (iii) ` 60,000
In case of (i), X, Y and Z, each are liable to pay ` 10,000
In case of (ii), X is liable to pay ` 10,000 and Y and Z for ` 15,000 each.
In case of (iii), X, Yand Z are liable to pay `10,000, ` 20,000 and ` 30,000 respectively.

DISCHARGE OF SURETY
A surety is said to be discharged, when his liability comes to an end. A surety may be discharged in the
following ways :
I. Discharge of surety by revocation :
1. Revocation of continuing guarantee by Notice (Sec. 130) : A continuing guarantee may be revoked
at any time by the surety as to future transactions, by giving notice to the creditor. But a specific guarantee
cannot be revoked.
For example : Abir guarantees to Bikram, to the extent of ` 1 lakh that Chander shall pay all the bills
that Bikram shall draw upon him. Bikram draws upon Chander. Chander accepts the bill. Abir gives
notice of revocation. Chander dishonours the bill at maturity. Abir is liable upon his guarantee.
2. Revocation by Death (Sec. 131) : In the absence of any contract to the contrary, the death of a surety
revokes continuing guarantee for future transactions. Surety’s property will be used for discharge of
liabilities arose before death but not after the death. For example, surety dies on 1st April 2018 then he
shall not be laible for transactions occured after 1st April 2018 but shall remain liable for transactions
ocurred before 1st April 2018.
II. Discharge of surety by the act or conduct of the creditor :
1. By variation in terms of contract (Sec. 133) :
If any change is made in the terms of the contract between the principal-debtor and the creditor without
the consent of surety, then the surety will be discharged for the transactions subsequent to the changes:
However, the surety continues to be liable for the transactions, which were entered into before the
change took place.
For Example :
i) C contracts to lend P ` 500 on 1st March. S guarantees repayment. C pays the amount to P on 1st
January. S is discharged from his liability, as the terms of the contract have been changed.
ii) A guarantees B’s conduct as a clerk in a bank. B misappropriated a sum of money. Afterwards the
bank without A’s consent transferred him (B) to a lower post and B again misappropriated the funds.
A is liable for the first misappropriation, but not for the second.
Further, it is immaterial whether the change is for the good or bad of the surety. The only thing is that
there must be change in terms of the contract.

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2. By Release or Discharge of Principal-Debtor (Sec. 134) :


A surety is discharged by ­
i) any contract between creditor and principal-debtor which realeses the principal-debtor’s liability ,
or
ii) by an act or omission of the creditor, which discharges of the principal­debtor.
For Example : A contracts with B for a fixed price to build a house for B within a month on a condition
that B supplies the necessary timber. C guarantees A’s performance of the contract. B fails to supply the
timber. C is discharged from his suretyship.
3. Compounding by the creditor with the Principal-Debtor (Sec. 135-138) :
If there is a contract between the creditor and the principal-debtor by which the creditor -
i) makes a composition with principal debtor, or
ii) promises to give time to or not to sue the principal-debtor, then such contract will discharge the
surety, unless such contract is made with the consent of the surety.
But under this head the surety is not discharged in the following cases :
a) If a contract to give time to the principal debtor is made by the creditor with a third person, and not
with the principal debtor (Section 136).
For example : Chander, the holder of an overdue bill of exchange drawn by Abir as surety for
Bikram and accepted Bikram, contracts with Mahesh to give time to B. Abir is not discharged.
b) Mere forbearance on the part of the creditor to sue the principal debtor to enforce any other remedy
. against him does not discharge the surety (Section 137)
For example : Bikram owes to Chander a debt guaranteed by Abir. The debt becomes payable.
Chander does not sues for a year after the debt has become payable. Abir is not discharged from his
suretyship.
4. Creditor’s act or omission impairing surety’s eventual remedy (Sec 139) :
If the creditor does any inconsistent act, or omits to do any act which is his duty, and the remedy of the
surety against the principal debtor, is reduced/impaired or lost, then surety is discharged.
Example : Abir puts Mahesh as trainee under Bikram, and gives guarantee to Bikram for Mahesh’s
fidelity. Bikram promises on his part that he will, at least once in a month, see that Mahesh keeps cash
properly. Bikram omits to check the working of Mahesh as it was promised and Mahesh defalcates cash.
Abir is discharged from his guarantee as Bikram fails to dicharge his duty.
Example : B contracts to build a car for C for a sum of ` 2 lakh to be paid by instalments as the work
reaches certain stages. A guarantees B’s performance to C. C, without the knowledge of A, pre-pays the
last two instalments without the work being completed. A is discharged by the pre-payment.

III. Discharge of Surety by Invalidation of the Contract :


1. By Obtaining Guarantee by Misrepresentation (Sec.142) : If any guarantee is obtained by means
of misrepresentation made by the creditor, or with his knowledge, the guarantee will be invalid.
2. By Obtaining Guarantee by Concealment (Sec. 143) : If any guarantee is obtained by creditor by
means of keeping silence as to material facts of circumstances, then the guarantee will be invalid.

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For Example : X engaged Y as a cashier. Y misappropriates some cash. Thereupon, X asks Y to bring
some surety who can guarantee his good conduct. Z gives his guarantee for Y’s good conduct. X does
not inform Z about Y’s previous misconduct. Y again misappropriates cash. Z is not liable as a surety.
3. By Failure of the co-surety to Join (Sec. 144) : If a person gives guarantee on a condtion that other
co-sureties shall also join then until the other’ co-surety has joined, the guarantee is not valid.

CONTINUING GUARANTEE (SEC. 129)


It means a guarantee which extends to series of transactions is called as continuing guarantee. For
example, Abir agrees to be surety for Bikram for any amount lent by Chander to from time to time during the
next three months subject to maximum of of ` 50000.
In the continuing guarantee, the liability of surety continues till the performance or discharge of all the
transactions entered into or guarantee is revoked. Continuing guarantee can be revoked by giving notice to
the creditor or death of surety also revokes the continuing guarantee.
The continuing guarantee can be revoked by the surety for the future transactions. After revocation
surety will not be held responsible for any transaction entered after such revocation but surety shall still be
liable for the transactions entered before the revocation.
Death of surety also brings continuing guarantee to an end hence surety gets discharged from future
transactions unless contract to contrary.

REVOCATION OF GUARANTEE
Revocation of Specific Guarantee :
Specific guarantee cannot be revoked, as once an offer is accepted it becomes final.
For example : X asks Y to give a loan of ` 1,00,000 to Z promising that if Z does not return the amount, he
(X) will pay the amount. On the guarantee of X, Mr. Y have given loan to Mr. Z. Now, X cannot revoke his
guarantee.

Revocation of Continuing Guarantee :


A guarantee for a future debt or continuing guarantee can be revoked for future transactions.

Arrangement between primarily liable parties (Sec. 132)


If two persons contract with a third person to undertake a certain liability, and also contract with each other
that one of them shall be liable only, on the default of the other, the third person not being party to such
contract, the liability of each of such two persons to the third person under the first contract is not affected by
the existence of the second contract, although such third person may have been aware of its existence.

For example : A and B makes a joint and several promise to pay C. A has arrangement with B that, on
failure of B to make payment, only A shall be liable to pay to C. In other words though apparently both A and
B are liable as principal debtor but A is acting as surety for B. Here this arrangement does not affects the first
contract made between A along with B and C.

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CASE STUDIES
Q. Whether continuing guarantee can be revoked in respect of future transactions and transactions already
done? (Sec.130 Nov. 2002)
‘A’ stands surety for ‘B’ for any amount which ‘C’ may lend to B from time to time during the next three
months subject to a maximum of ` 50,000. One month later A revokes the guarantee, when C had lent
to B ` 5,000. Referring to the provisions of the Indian Contract Act, 1872 decide whether ‘A’ is
discharged from all the liabilities to ‘C’ for any subsequent loan. What would be your answer in case ‘B’
makes a default in paying back to ‘C’ the money already borrowed i.e. ` 5,000?
OR
‘Amit’ stands surety for ‘Bikram’ for any amount which ‘Chander’ may lend to ‘Bikram’ from time to
time during the next three months subject to a maximum of ` 1,00,000 (one lakh only). One month later
‘Amit’ revokes the surety, when ‘Chander’ had lent to ‘Bikram’ ` 10,000 (ten thousand). Referring to
the provisions of the Indian Contract Act, 1872 decide:
i) Whether ‘A’ is discharged from all the liabilities to ‘Chander’ for any subsequent loan given to
‘Bikram’.
ii) What would be your answer in case ‘Bikram’ makes a default in paying back to ‘Chander’ the
already borrowed amount of ` 10,000?
Answer :
A is discharged - from all the liabilities in respect of any loan given by C to B after the
date of revocation of continuing guarantee.
A is not discharged - for the loan of ` 5,000 already given by C to B.

Q. Whether continuing guarantee can be revoked in respect of future treansactions and transactions already
done? (Sec. 130 May 2006)
Ravi becomes guarantor for Ashok for the amount which may be given to him by Nalin within six
months. The maximum limit of the said amount is ` 1 lakhs. After two month Ravi withdraws his
guarantee. Upto the time of revocation of guarantee. Nalin had given to Ashok ` 20,000.
Referring to the provisions of the Indian Contract Act, 1872 decide -
i) Whether Ravi is discharged from his liabilities to Nalin for any subsequent loan ?
ii) Whether is a liable if Ashok fails to pay the amount of ` 20,000 to Nalin?
Answer :
Ravi is discharged - from all the liabilities in respect of any loan given by Nalin to Ashok
after the date of revocation of continuing guarantee.
Ravi is not discharged - for the loan of ` 20,000 already given by Nalin to Ashok.

Q. Whether a surety is liable if variation is made by the creditor and the principal debtor ?
(Sec. 133 Nov. 2008)
A give to C a continuing guarantee to the extent of ` 5,000 for the vegetables to be supplied by C to B
from time to time on credit. Afterwords, B become embarrassed, and without the knowledge of A, B and
C contract that C shall continue to supply B with vegetables for ready money, and that the payments
shall be applied to the then existing debts between B and C.
Examining the provision of the Indian Contract Act, 1872, decide whether A is liable on his guarantee
given to C.

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Answer :
A is not liable to C - for the transactions that take place after variation between B and C.
- since a surety is discharged if any variation is made in a contract
of guarantee without the consist of the surety.

Q. Whether non - supply of necessary material by the creditor results in discharge of surety ?
(Sec. 134 Nov. 2006)
A contracts with B for a fixed price to construct a house for B within a stipulated time. B would supply
the necesary material to be used in the construction. C guarantees A’s per formance of the contract. B
does not supply the material as per the agreement. Is C discharged from his liability ?
Answer :
C is dischargded from - since the surety is discharged by any act or omission of the creditor, the
liability legal consequences of which is the discharge of the principal debtor
(Sec. 134)
- since failure to supply the necessary material by B (i.e., the creditor)
amounts to an omission on the part of the creditor resulting in
discharge of A (i.e., the principal debtor), and consequently, discharging
C (i.e., the surety).

Q. Whether a contract with a third person to give time to the principal debtor discharges the surety ?
(Sec. 136 Nov. 2006)
C, the holder of an over due bill of exchange drawn by A as surety for B, and accepted by B, contracts
with X to give time to B. Is A discharged from his liability ?
Answer :
A is not discharged - since, where a contract to give time to the principal debtor is made by
the from his liability creditor with a third person, and not with the principal debtor, the surety
is not discharged (Sec. 136)

Q. Whether surety is discharged due to forbearance of creditor to sue the principal debtor ?
(Sec. 137 Nov. 2008)
B owes C a debt guaranteed by A. C does not sue B for a year after the debt has become payable. In
the meantime, B becomes insolvents. Is A discharged ? Decide with reference to the provisions of the
Indian Contract Act, 1872.
Answer :
A is not discharged - since mere forbearance on the part of the creditor to sue the principal
debtor does not discharge the Surety.
Q. Ramesh and Suresh are engaged in business having smae naure. Ramesh stands surety for Suresh for
any amnount which Kamlesh may lend to Suresh from time to time during the next 6 months subject to
a maximum of ` 85,000. 3 months later Ramesh revokes the guarantee when kamlesh had lent to Suresh
` 35,000. Decide whether Ramesh is discharged from all the liabilities to Kamlesh for any subsequent
loan under the provisions of Indian Contract Act, 1872. Would your answer differ in case Suresh makes
default in paying back to Kamlesh the money already borrowed i.e. ` 35,000. (Nov. 2017)

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Q. A gives to M a continuing guarantee to the extent of ` 8,000 for the fruits to be supplied by M to S from
time to time on credit. Afterwards, S become embarrassed and without the knowledge of A, M and S
contract that M shall continue to supply S with fruits for ready money and that payments shall be applied
to the then existing debts between S and M. Examining the provisins of the Indian Contract Act. 1872,
decide whether A is liable on his guarantee given to M. (Nov. 2017)
Q. Distinguish between ‘Contract of Indemnity’ and ‘Contract of Guarantee’. (Nov. 2017)

MULTIPLE CHOICE QUESTIONS


1. A contract of indemnity is a
a) Contingent Contract b) Wagering contract
c) Quasi Contract d) Void agreement
2. A contracts to save B against the consequences of any proceedings, which C may take against B in
respect of a certain sum of 500 rupees. This is a :
a) Contract of guarantee b) Quasi contract
c) Contract of indemnity d) Void contract
3. In a Contract of Guarantee there is/are :
a) One contract b) Two contracts
c) Three contracts d) Four contracts.
4. S and P go into a shop. S says to the shopkeeper, C, “Let P have the goods, and if he does not pay you,
I will. “This is a
a) Contract of Guarantee b) Contract of Indemnity
c) Wagering agreement d) Quasi-contract
5. A guarantee obtained by a creditor by keeping silence as to material circumstances is :
a) valid b) voidable
c) unenforceable d) invalid
Ans. 1. (d) 2. (b) 3. (c) 4. (c) 5. (b)

PRACTICAL QUESTIONS AND ANSWERS


1. M advances to ` 5,000 on the guarantee of P. The loan carries interest at ten percent per annum.
Subsequently, N becomes financially embarrassed. On N’s request, M reduces the interest to six per
cent per annum and does not sue N for one year after the loan becomes due. N becomes insolvent.
Can M sue P?
Ans. M cannot sue P, because a surety is discharged from liability when, without his consent, the creditor
makes any change in the terms of his contract with the principal debtor, no matter whether the variation
is beneficial to the surety or does not materially affect the position of the surety (Section 133, Indian
Contract Act, 1872).
2. What are the rights of the indemnity-holder when sued ?
Ans. Rights of Indemnity- holder when sued (Section 125) :The promisee in a contract of indemnity,
acting within the scope of his authority, is entitled to recover from the promisor -
1) all damages which he may be compelled to pay in any suit in respect of any matter to which the
promise to indemnify applies;

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2) all costs which he may be compelled to pay in any such suit if, in bringing or defending it, he did
not contravene the orders of the promisor, and acted as it would have been prudent for him to act
in the absence of any contract of indemnity, or if the promisor authorised him to bring or defend
the suit;
3) all sums which he may have paid under the terms of any compromise of any such suit, if the
compromise was not contrary to the orders of the promisor, and was one which it would have
been prudent for the promisee to make in the absence of any contract of indemnity, or if the
promisor authorised him to compromise the suit.
It may be understood that the rights contemplated under section 125 are not exhaustive.
The indemnity holder/ indemnified has other rights besides those mentioned above.
If he has incurred a liability and that liability is absolute, he is entitled to call upon his indemnifier to save
him from the liability and to pay it off.
3. Define contract of indemnity and contract of guarantee and state the conditions when guarantee is
considered invalid ?
Ans. Section 124 of the Indian Contract Act,1872 says that “A contract by which one party promises to save
the other from loss caused to him by the conduct of the promisor himself, or the conduct of any
person”, is called a “contract of indemnity”.
Section 126 of the Indian ContractAct says that “A contract to perform the promise made or discharge
liability incurred by a third person in case of his default.” is called as “contract of guarantee”.
The conditions under which the guarantee is invalid or void are stated in section 142,143 and 144 of the
Indian Contract Act are :
i) Guarantee obtained by means of misrepresentation.
ii) creditor obtained any guarantee by means of keeping silence as to material circumstances.
iii) When contract of guarantee is entered into on the condition that the creditor shall not act upon it
until another person has joined in it as co-surety and that other party fails to join as such.
4. Mr. X, is employed as a cashier on a monthly salary of ` 2,000 by ABC bank for a period of three
years. Y gave surety for X’s good conduct. After nine months, the financial position of the bank
deteriorates. Then X agrees to accept a lower salary of ` 1,500/- per month from Bank. Two months
later, it was found that X has misappropriated cash since the time of his appointment. What is the
liability of Y ?
Ans. If the creditor makes any variance (i.e. change in terms) without the consent of the surety, then surety
is discharged as to the transactions subsequent to the change. In the instant case Y is liable as a surety
for the loss suffered by the bank due to misappropriation of cash by X during the first nine months but
not for misappropriations committed after the reduction in salary. [Section 133, Indian Contract Act,
1872].
5. A contracts with B for a fixed price to construct a house for B within a stipulated time. B would supply
the necessary material to be used in the construction. C guarantees A’s performance of the contract.
B does not supply the material as per the agreement. Is C discharged from his liability.
Ans. According to Section 134 of the Indian Contract Act, 1872, the surety is discharged by any contract
between the creditor and the principal debtor, by which the principal debtor is released or by any act or
omission for the creditor, the legal consequence of which is the discharge of the principal debtor. In the
given case the B omits to supply the timber. Hence C is discharged from his liability.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

1 SPECIAL CONTRACTS - 1B : BAILMENT AND PLEDGE

Meaning of Contract of Bailment (Handing over/ Change of possession) :


In our daily life, we enter into transactions of bailment. Bailment means change of possession.
For example : When we keep our vehicle at workshop for repair, we enter into a contract of bailment.
“A bailment is the delivery of goods by one person to another for some purpose, under a contract that when
the purpose is over, the goods shall be returned or otherwise disposed of according to the directions of the
person delivering them.” [Sec. 148]
The person delivering the goods is called the ‘bailor’. The person to whom the goods are delivered is
called the’ bailee’ and the transaction is called bailment.
For Examples : A gave his book to his friend B for reading. The book is to be returned to Mr. A, when the
purpose is over. The relationship between A and B is that of Bailor and Bailee.
Essentials Characteristics of Bailment :
1. There should be a contract. The contract of bailment may be express or implied as in case of finder
of lost goods.
2. The possession of goods is transferred by one person to other person & not mere the custody
i) Possession means control of goods to the exclusion of others. Mere custody of goods is not sufficient.
- For example, A master, while giving his goods to his servant, retains the possession with ‘himself
and gives only the custody of the goods to the servant. Consider the following example­
A lady handed over her old jewellery to a jeweller for melting and making it into a new one.
Every evening, she used to collect the half-made jewellery and put it into a box kept in the shop
of the jeweller. She used to keep the key of the box with her. One day, the box was stolen.
Held that, the jeweller was not liable, as the jeweller had re-delivered the jewellery to the lady
and the jeweller could not any more be treated as a bailee. The lady must bear the loss herself
[Kaliaperumal Pillai v Visolakshmi (1938) Mad]
- Deposit of ornaments in a bank locker is not bailment as the keys of the locker are with the
owner & not with the bank.
- Deposit money in a bank is not bailment since the money returned by the banker would not be
identical currency notes.
ii) The transfer of possession may be actual or constructive (where bailee is already in possession).
iii) There is no transfer of ownership of the goods. Bailor continues to be the owner of goods as there
is no change in ownership.
iv) Only movable goods can be bailed as immovable goods cannot be delivered.
3. The goods are delivered for certain purpose. The purpose may be safe-custody, repairing or changing
the form of the goods etc.
4. The same goods must be returned & not other even with a higher value, when the purpose is
over.
i) If money is deposited in a bank account, it is not a transaction of bailment, because the bank does not
return the same currency notes, but will return only an equivalent amount.
ii) However, the term ‘Same Goods’ does not mean that its form cannot change. For example, old
ornaments can be changed into new one. A piece of cloth can be stitched into a shirt.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

5. Consideration is not necessary in case of contract of Bailment.


Generally, in the contract of bailment, consideration is there for both the parties. Such as A gives his
watch for repair to B for ` 100. For A, consideration is repair of his watch and for B, consideration is
` 100.
HOWEVER, CONSIDERATION IS NOT ESSENTIAL TO FORM A CONTRACT OF BAILMENT
Types of Delivery (Sec. 149)
a) Actual Delivery
Transfer of physical possession of goods.
b) Symbolic Delivery
Goods are not transferred physically, but some act is done resulting in the transfer of possession.
Examples - Keys of car, railway receipt, etc.
c) Constructive Delivery
If a person is already in possession of goods of the owner and such person contracts to hold the goods as
bailee, then such person becomes the bailee.
KINDS OF BAILMENT

On the Basis On the Basis


of Benefit of Reward Or Consideration

1. 2. 3. 1. 2.
Bailment for Bailment for Bailment for Gratuitous Non-gratuitous
the Benefit of the Benefit of the Benefit of Bailment, i.e. a Bailment, i.e. a
Bailor alone Bailee alone Both-Bailor and bailment bailment with
Bailee without consideration
For Example : For example : For Example : Consideration For Example :
A, while going A borrows B’s A gives his For Example : A gives his
out of station, book for a Watch for A borrows B’s Watch for
leaves his week for repair to B book for a repair to B
scooter with his reading week for
friend-B, for reading.
safe custody.

Question : Examine whether the following constitute a contract of ‘Bailment’ under the provisions of the
Indian Contract Act, 1872 :
i) V parks his car at a parking lot, locks it, and keeps the keys with himself.
ii) Seizure of goods by customs authorities.
Answer :
i) No. Mere custody of goods does not mean possession. For a bailment to exist the bailor must give
possession of the bailed property and the bailee must accept it, Section 148, of the Indian Contract
Act, 1872 is not applicable.
ii) Yes, the possession of the goods is transferred to the custom authorities. Therefore bailment exists and
section 148 is applicable.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

DIFFERENCE BETWEEN GRATUITOUS BAILMENT AND NON- GRATUITOUS BAILMENT

Gratuitous Bailment Non-Gratuitous Bailment

1. It is bailment without any hire charges, by bailee 1. It is a bailment where hire charges are paid by
OR custody charges by bailor. the bailee AND / OR custody charges are paid
by bailor.
2. Bailor is liable to pay both the ordinary & extra 2. Bailee is liable to pay ordinary necessary
ordinary expenses on the goods. expenses, but the extraordinary expenses are to
be paid by the bailor.
3. The Bailor is liable to disclose all faults known to 3. The Bailor is liable for all the faults whether known
him, which are material for the use of the goods to him or not.
& which may put the bailee to extraordinary
expenses.

DUTIES OF THE BAILOR


1. To disclose known faults/defects in the Goods bailed (Sec. 150) :
i) In case of gratuitous bailment, if the bailor does not disclose or fails to disclose all faults known to
him, he is responsible for any damage caused to the bailee from such faults.
For Example : A knows that his horse is vicious. A, while lending it to B, does not tell him that horse
is vicious. B is thrown by the horse, resulting in injuries to B. A is liable to make good B’s loss.
ii) In case the goods are bailed for hire, (i.e. non-gratuitous bailment) the duty of the bailor is still
greater. He is responsible even for those faults which are not known to him.
For Example : A hires a motor from B for holiday on a river. The motor caught fire and A was
unable to extinguish it as the fire-fighting equipment was out of order. As such, he was injured and
suffered losses.
Held, B was liable to make good the losses. - Read v Dean (1949)
2. To bear expenses of bailment (Sec. 158) :
i) Where condition of bailment requires bailee to to keep the goods or do work upon such goods for
remuneration then bailor is liable to pay such remuneration to bailee.
ii) When the bailment is gratuitous, the bailor must bear all the necessary expenses, whether ordinary or
extraordinary .
iii) If the bailment is non-gratuitous, then the bailor will bear extraordinary expenses, while ordinary
expenses will be borne by the bailee himself.
For Examples :
1. A leaves his cow in the custody of his neighbour B (without any reward), while going out of station.
Expenses of feeding the cow will be reimbursed by A. If the cow meets with an accident, A will have
to repay B the medical expenses incurred by him (B).
2. A lends his horse to B for 10 days @ ` 100 per day. B will bear the feeding expenses. If the horse
meets with an accident, A will have to repay B the medical expenses incurred .by B.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

3. To Indemnify the Bailee for any loss due to :


a) Defect of Title (Sec. 164) : When the title of the bailor over the goods is defective, due to which
the bailee suffers any loss, the bailor is liable to indemnify the bailee for such loss.
For Example : A gave his vehicle to B for his person use. C a very good friend B showed desire to ride
the vehicle as he thought that vehicle is owned by B. B also gave the vehicle and in the mid of the road
A cought C and took him to Police Station as he without the permission from A rode his vehicle. Police
fined him and recorded the crime. B is liable to C.
b) Loss in the process of returning the goods or complying with other directions.
For example, it was agreed between bailor and bialee that bailee shall return goods by way of road
transport but bailor demanded that goods to be returned by air so that he can received the goods
early. For this bailee has to spent more money which he can recover.
c) Termination of gratuitous bailment berfore the expiry of of period of bailement when
bailee has suffered damages more than benifits it received.
4. To bear loss for wrongful refusal to take back the goods :
A bailor is liable to take back the goods when the purpose is over. If the bailor refuses to take back the
goods, then he shall be responsible for any loss / damage to the goods & has to reimburse the bailee, for
any loss due to such refusal or for keeping the goods safely.
For Example : A gave his coat for dry-cleaning. One of the conditions printed on the receipt was that
the customer should take delivery within 15 days of due date. In case of default, he will have to pay
extra-charge ` 1 per week or part there of. If A does not take delivery within the stipulated time, he will
have to pay extra-charges.
DUTIES OF THE BAILEE
1. To Take Reasonable Care of the goods bailed (Sec. 151):
It is the duty of the bailee to take reasonable care of the goods bailed as a man of ordinary prudence
would take care of his own goods under similar circumstances. As per Sec 152 also, tf he has taken
reasonable care, he is no more liable.
For Example :
1. Some cattle belonging to A are left in the custody of B. One day, the cattle were stolen without B’s
negligence. B did not inform either the owner or the police, under the impression that it will be of no
use. Held that, B was liable for the loss. - Cold man v Hill (1919)
2. A customer entered a restaurant for dinner. His coat was taken over by a waiter. He hanged it on a
hook behind A. The coat was stolen.
Held that, proprietor of the restaurant became bailee of the coat and so, he was liable for the coat.
- Ultzen v Nicols (1894)
2. Not to make any unauthorised use of goods bailed (Sec. 154):
It is the duty of a bailee to use the goods according to the terms of the agreement. If he makes any
unauthorised use of the goods, he will be liable to make good the loss.
Further, if the bailee makes unauthorised use of the goods, he will be liable, even if he is not guilty of
negligence or even if the loss is the result of an accident.
For Example : A lends his horse to B for his own riding. B allows his son C to ride the horse. C rides the
horse with care, but the horse accidentally falls and is injured. B is liable to A for the injury caused to the
horse.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

3. Not to mix the goods of bailor with his own goods (Sec. 155-157) :
Bailee has no right to mix his goods with bailor’s goods without the consent and if he mixes the goods, the
following shall be the consequences :
a) With the consent of the bailor : In this case, the bailor and bailee shall have proportionate interest
in the mixture, i.e., the goods mixed.
b) Without the consent of the bailor ­
i) When the goods can be separated, then the bailee is bound to bear the expenses of separation
and any loss or damage arising from the mixture.
For Example : Anil bails 100 bales of contton marked with A+ to B. B, mixes those bales with
his own marked with B+. A can compell to take his bales returned marked with A + and B shall
be laible to bear expenses of separation.
ii) When the goods cannot be separated, then the bailor shall be entitled to get compensation from
bailee for the loss of goods.
For Example : A delivers 10 kg pure ghee to B. B without A’s consent mixes the ghee with his
Dalda ghee (vegetable oil). It is not possible to separate pure ghee from Dalda ghee. Hence, B
must compensate A for the loss i.e. 10 kg of pure ghee.
4. Bailement by several joint owners (Sec 165) :
Except contract to contrary, if several joint owners of goods, bail goods to bailee then on completion of
purpose of bailement, bailee may deliver them back according to the direction of one joint owner without
the consent of all.
5. To return the Goods Bailed (Sec. 160-161) :
A bailee is under a duty to return or dispose off the goods bailed according to the directions of the bailor
as soon as the purpose is over or the time for which they were bailed has expired.
Further, in case he fails to return the goods, he will be responsible to the bailor for any loss, destruction or
deterioration of the goods thereafter, even if he exercises reasonable care on his part.
For Example : A left his scooter at B’s workshop for repair. B delays the scooter unreasonably. Thereafter,
the scooter was destroyed in an accidental fire. B is liable to make good the loss, although B is not
negligent.
6. To return any accretion to the goods (Sec. 163) :
In the absence of a contract to the contrary, a bailee is bound to return any increase or accretion to the
goods bailed. For example, A leaves his cow with B. The cow gives birth to a calf. A is entitled to both
the cow and the calf.
RIGHTS OF THE BAILOR
The duties of the bailee are the rights of the bailor. In addition, bailor has following rights:
1. To claim compensation for unauthorised use (Sec 154) :
If bailee makes any unauthorised use of goods which is not as per the terms of bailement then bailor has
right to claim compensation from bailee for loss caused to bailor due to such unauthorised use.
Example : A gives his horse to B for his riding only but B allows C to ride horse. C knows how to ride
and with care he rides but the horse falls and gets injured. B is liable to compensate to A for loss caused
due to injury of horse.
2. To claim compensation if bailee mixes his goods with the goods of bailor (Sec. 155-157) :
Bailee has no right to mix his goods with bailor’s goods without consent and if he mixes the goods, the
following shall be the consequences :

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

a) With the consent of the bailor (Sec 155) : In this case, the bailor and bailee shall have proportionate
interest in the mixture, i.e., the goods mixed.
b) Without the consent of the bailor ­
i) Sec 156 : When the goods can be separated, then the bailee is bound to bear the expenses of
separation and any loss or damage arising from the mixture.
For Example : Anil bails 100 bales of contton marked with A+ to B. B, mixes those bales with
his own marked with B+. A can compell to take his bales returned marked with A + and B shall
be laible to bear expenses of separation.
ii) Sec 157 : When the goods cannot be separated, then the bailor shall be entitled to get compensation
from bailee for the loss of goods.
For Example : A delivers 10 kg pure ghee to B. B without A’s consent mixes the ghee with his
Dalda ghee (vegetable oil). It is not possible to separate pure ghee from Dalda ghee. Hence, B
must compensate A for the loss.
3. To take back the goods (Sec. 159) :
i) In non-gratuitous bailment, the bailor has a right to, take back the goods after the purpose is over.
ii) In gratuitous bailment, he has a right to recover back the goods even before the purpose is over.
But he will have to indemnify the bailee for any loss incurred by the bailee. However, in such a case, the
loss to the bailee should not exceed the benefit derived by him.
4. To Terminate Bailment due to inconsistent act (Sec. 153) :
If the bailee does an act, which is not in accordance with the terms of bailment, the bailor has a right to
terminate the bailment at his own option.
For Example : A gives a horse to B for his own riding only. B gives the horse to C for riding. A can
terminate the bailment.
5. Right against a wrong doer (Sec. 180) :
If a third party wrongfully does not allow bailee to use or keeo possession of the goods bailed, then either
bailor or bailee is entitled to file a suit against such wrong doer.
Whatever is received by way of relief or compensation, in any such suit, is divisible between the bailor
and the bailee in accordance with their respective interest.
6. Right to recover increament of profit on goods bailled (Sec 163) :
Bailee is laible to return any accretion to goods bailled by the bailor. For example, A leaves a cow with B
to take care of it. The cow delivered a calf, B is liable to give cow as well as calf.
7. Right to get goods back before the purpose is over :
In case of gratuitous bailment, bailor has right to demand the goods back before the expiry of period or
purpose is over but if any loss is caused to bailee then the bailor is bound to compensate bailee.
RIGHTS OF THE BAILEE
It is to be noted that the duties of the bailor are the rights of the bailee. In addition, the bailee has following
rights:
1. Rights to return goods to one of the several joint owners (Sec. 165) :
In the absence of any contract to the contrary, if there are several joint owners of goods bailed, the bailee
may deliver them back to or dispose them off according to the directions of anyone joint owner without
the consent of other joint owners. For example, A, B and C joint owner of the goods bailed with D for
three months. He returned the goods B on expirty of three months. Here, A and C cannot claim goods
from D again.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

2. Delivery of Goods to the bailor without Title (Sec. 166) :


If the bailor has no title to the goods, and the bailee, in good faith, delivers them back to, or according to
the directions of the bailor, the bailee is not responsible to the true owner in respect of such delivery.
3. Right of particular lien (Sec. 170) :
Where the bailee expends labour and skill in respect of the goods bailed, he has, in the absence of a
contract to the contrary, a right to retain (particular lien) such goods until he receives the remuneration
for the services rendered in respect of such goods. Bailee can exercise particular lien which means
bailee has right to retain those goods in respect of which some labour has been expended by him and he
has not been paid with the agreed remuneration.
4. Right against a wrong doer (Sec. 180) :
Bailee has right to take action as the owner would have taken against third parties if that party wrongfully
denies the bailee of his rigth to use or have possession of the goods as per the direction of bailement.
5. Right to claim compensation any loss arising from non disclosure of defects in the goods :
In case of non - gratuitous bailement, bailee has right to claim compensation for any loss arising out non
- disclosure of known as well as unknown defects in the goods.
In case of gratuituous bailement, bailee has right to claim compensation for any loss arising from non -
disclosure of known defects in the goods.
6. Claim damages for loss due to defective title.

Termination of Bailment (Sec. 153- 162)


i) When the period or purpose of Bailment is over,
ii) When the bailee makes unauthorised use of the goods. In this case, the bailment is voidable at the option
of the bailor.
iii) When the subject-matter is destroyed or becomes illegal,
iv) At the will of Bailor (Sec. 159) :
i) In non-gratuitous bailment, the bailor has a right to take back the goods only after the purpose is over.
ii) In gratuitous bailment, he has a right to recover back the goods even before the purpose is over.
However, in such a case, the loss to the bailee should not exceed the benefit derived by him.

LAW RELATING TO LIEN


What is Lien ? A lien is a right of one person to retain the possession of some goods, belonging to
another person, until some debt or the liability is discharged. It should be noted that lien is possessory in
nature. Hence if possession is lost, the lien is also lost.

Types of Lien
1. Particular Lien (Sec. 170) :
A particular lien is one, which is available only against those goods in respect of which the bailee has
expended labour and skill and he has not been paid with the remuneration he is entitled to.
For Example : A gives two cars one black and other white, for repairs to B. B repaired only the black
car. A took delivery of the black car without making the payment of the repair charges. B cannot retain
the white car for the repair charges of the black car.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

Conditions for Exercise of Particular Lien :


i) Right of lien can be exercised only when the bailee has expended his labour and skill on the goods bailed.
Therefore, mere custody of goods does not give a right of lien.
For Example : Mr. A parks his car in B’s area for safe custody. A does not pay the agreed rent. B
cannot retain the car.
ii) Right of lien can be exercised only when the work has been completed in time. If the work has not been
completed in time, the lien cannot be exercised.
iii) Right of lien can be exercised only if the payment is due but not paid. In case, the payment is to be made,
not on delivery, but at a future date, then the lien cannot be exercised.
For Example : A agrees to repair B’s car and to take payment after 1 week. On repairing the car, B
cannot exercise his right of lien till the expiry of 1 week.
iv) If bailee exercises lien then he cannot sue bailor for remuneration but if bailee returned the goods to
bailor and bailor refuses to pay remuneration in that case since possession has been lost bailee cannot
exercise lien but he may sue bailor.
2. General Lien (Sec. 171) :
A general lien is a right of one person to retain the possession of any goods, belonging to another person,
until some debt or the liability is discharged. General lien is available to bankers, factors, wharfingers,
attorneys of High Court and policy brokers. The right of general lien can be waived by the terms of
contract.
For Example : A borrows 500 rupees form the bank without security and subsequently again borrows
another 1000 rupees but with security of jewellery. In this case if A repaid 1000 rupees but the banker
can retain the possession of security for the repayment of first loan of 500 rupees.

DIFFERENCE BETWEEN PARTICULAR LIEN AND GENERAL LIEN


Basis Particular Lien General Lien

1. Skill or This right is available to the bailee in This right can be exercised against any
Labour respect of those goods only on which he property belonging to the bailor for
has expended skill or labour & for which outstanding general balance of account.
remuneration is due.

2. Type of This right can be exercised only to This right can be exercised for any amount.
Charge recover charges for skill or labour
employed for expenses incurred on those
goods.

3. Who can avail This right is available to bailee, finder of This right is available to bankers, factors,
the right goods, unpaid seller, agent, partner etc. wharfingers, attorneys of High Court and
policy brokers. Others can exercise only
if there is an agreement.

4. Availability It is automatically or generally available. It is available through the terms of contract.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

FINDER OF LOST GOODS (SEC. 71, 168 & 169)


Meaning :
A person who finds goods belonging to another and takes into his custody is known as finder of goods.

Such person is subject to the same responsibility as that of bailee (Sec. 71) :
Rights of Finder of Goods :
1. Right of Lien : As per Sec. 168, a finder of goods has a right of lien over the goods found for the
expenses incurred or troubles undertaken in finding out the true owner. If the true owner refuses to pay
the lawful charges, then the finder can exercise his right of lien, i.e., he can refuse to deliver the goods.
However, it should be noted that a finder has no right to file a suit against the owner to recover such
expenses.
2. Right to receive Specific Reward : As per Sec. 168, where the owner has offered a specific reward
for the return of the goods, the finder can file a suit to recover that reward and may retain the goods until
he receives the reward.
3. Right of Sale : As per Sec. 169, a finder also has a right to sell the goods found in the following
circumstances :
The true owner cannot be found with reasonable diligence; or true owner refuses to pay the lawful
charges of the finder and
i) If the goods are in danger of perishing or of losing the greater part of their value; or
ii) If the lawful charges of the finder, in respect of the goods found, amount to two-third or more of
their value.
4. Right of reimbursement : Right of reimbursement for expenses incurred for preservation of goods &
searching of true owner. But if true owner refuses for reimbursement then bailee cannot sue but retain
the goods.

Obligations of finder of goods :


i) He must take reasonable care of the goods found. If he has taken reasonable care, he is not responsible
for any loss.
ii) He must not use the goods found, until true owner is found within a reasonable time.
iii) He must not mix the goods found with his own goods until the true owner is found within a reasonable
time.
iv) He must take reasonable steps to trace the true owner otherwise, he will be guilty of wrongful conversion
of goods.

Right of third person to the goods to be bailed (Sec 167) :


If a person other than the bailor claims goods bailed he may apply to the Court to stop the delivery of the
goods to the bailor, and to decide the title of the goods.
For example : A had given car to B for his use but bailed the car with C here A can apply to the court
to stop C from delivering back the Car to the B.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

PLEDGE
“When the goods are bailed as security for the payment of a debt or performance of a promise, then
such bailment is called Pledge.”
The bailor is called the ‘Pawnor/Pledger’. The bailee is called the ‘Pawnee/Pledgee.
As Pledge is a special type of bailment, so all the essentials of a valid bailment are necessary for the
creation of a pledge. All pledges are bailement but all bailment are not pledge.
DIFFERENCE BETWEEN BAILMENT AND PLEDGE
Basis Bailment Pledge
1. Purpose Bailment may be for safe custody, repair Pledge is for repayment of a debt or
etc. performance of a promise.(Limited
Purpose)
2. Right to sell A bailee cannot sell the goods, he can only A pawnee can sell the goods after giving
retain the goods or sue for his charges. notice.
3. Lien In case of bailment, lien can be exercised In case of pledge, lien can be exercised
only for the labour and skill. even for non-payment of principal and
interest.
4. Right to use A bailee can use the goods, if the contract A pawnee has no right to use the goods
goods so provides. pledged.
5. Consideration Bailment can be of without consideration. Pledge always has consideration.
6. Discharge of Contract is discharge on the completion Contract is discharge on the payment of
Contract of purpose or expiry of time. debt or performace of promise.
7. Return of In gratuitous bailement, bailee is liable to Pledgee is not liable to return the goods
goods on return the goods on demand made by until the debt has been discharged or
demand bailor. promise has been performed.

Essential Elements of Pledge :


1. There must be contract of bailement for sucurity for the payment of debt or performance of promise.
2. Goods must be the subject of matter of contract.
3. The goods must be in existence at the time of contract of pledge.
4. Goods must be delivered by pawnor to pawnee.

Rights of Pawnee :
1. Right to retain the goods (Sec. 173) : Pawnee may retain the goods pledged for the following:
i) Repayment of the debt or the performance of the promise,
ii) Interest due on the debt, and
iii) All necessary expenses incurred by him in respect of the possession or for the preservation of the
goods pledged.
For example : A took loan from B by pledging jewellery here B can retain the possession of jewellery
for both principal and interest. If A repays principal & refuses to pay interest then B can retain the
jewellery.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

2. Right of Lien (Sec. 174) : The pawnee has right to retain goods in respect of subsequent advances also
if contract so provides.
For example : A took a loan of ` 5,000 and pledged valuable goods with B. A took a further loan of
same amount but A did not give any security here in this case B can retain those goods for the repayment
of subsequent loan also.
3. Right to recover extraordinary expenses (Sec. 175) : Right to recover extraordinary expenses
incurred by him for the preservation of the goods pledged. But for the recovery of extraordinary expenses
pledgee cannot retain the goods but may file a suit.
4. Rights on default by Pawnor (Sec 176) :
i) Suit against the Pawnor to recover the amount and keep the goods pledged as a collateral security.
OR
ii) Sell the goods after giving a notice of sale. If there is deficit on sale, then the pawnee can recover the
deficit. If there is a surplus on sale, he will have to return such surplus to the pawnor.
5. Right to retain goods obtained by pawnor under voidable contract (Sec 178A) :
When the pawnor has obtained the goods under voidable contract and he pledged them with pawnee, in
this case pawnee may still retain the goods if pawnor makes any defualt provided that pawnee acts in
good faith and without the knowledge of voidable contract.
For example : A bought a car from B representing himself as the authorised representative of True
Value, a second hand car dealer. A pledged car with C. A after coming to know that B is not the
reperesentative and he concealed is original identity as representative of Turu Value. Here though the
contract of sale of car is voidable at option of A but he cannot demand car from C provided that C was
not aware of the voidable contract.

Rights of Pawnor :
1. Right to redeem debt (Sec. 177) : Generally, a time is fixed for the payment of the debt or performance
of the promise. If the pawnor makes a default in payment of the debt or performance of the promise
within the prescribed time, he may still redeem the goods pledged at any subsequent time, before the
goods are sold by the pawnee. But in that case, he must pay, in addition, any expenses which may have
arisen from his default.
2. Right to pledge goods to the extent pawnor has interest in the goods (Sec 179) :
Pawnor can pledge to the extent he has interest in it. For example A and B baught a necklace jointly by
contributing ` 50,000 each here A or B can pledge necklace to the extent of 50000 rupees in individual
case but jointly they can pledge upto ` 1 lakh.
3. Right to enforce preservation and proper maintenance of goods : If the pawnee is careless in
preserving and maintaining the property pledged, the pawnor can file a suit to enforce preservation and
maintenance of the property pledged.
4. Right to receive back the goods : Pawnor has a right to receive back the goods after the payment of
debt or performance of the promise.
5. Right to receive accretion or profit related to the goods.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

Pledge by Non- Owners :


As a rule, pledge can be made only by the owner of the goods. However, the following are exceptions to this
rule:
1. Mercantile Agent (Sec. 178) :
According to the Sale of Goods Act 1930, a mercantile agent is one, who in the customary/ordinary
course of business has authority to sell or buy the goods or to raise money on the security of goods.
A mercantile agent can make a valid pledge of the goods, if­
i) he is in possession of the goods or documents of title of goods with the consent of the owner,
ii) he has acted as a mercantile agent in the ordinary course of the business.
The aforesaid pledge will be valid, even if the agent has no authority to pledge the goods., provided that
the pawnee acts in good faith and has no notice, at the time of pledge, that the pawnor has no authority
to pledge.
2. Pledge by persons in Possession of Goods under a Voidable contract (Sec. 178A) :
When a person, who has obtained possession of goods under a voidable contract, pledges these goods,
the pledge shall be valid, if the following conditions are satisfied:
i) The pledge is made before the rescission of the contract,
ii) The pawnee should have acted in good faith and without notice that the Pawnor had no authority
to sell.
For Example : A purchased some goods from B by fraud. A pledges the goods to C, who has acted in
good faith. The pledge is valid and Mr. C gets good title. B cannot compel C to return the goods due to
fraud.
3. Pledge by a person having only a Limited Interest (Sec. 179) :
Where a person has a limited interest, he can make a valid pledge to the extent of that interest.
For Example : A finds B’s goods. In spite of making reasonable search, A could not find the true owner.
A spent ` 200 on the goods and pledged it for ` 1000 with C. B can get the goods, but only on paying
` 200 to C.
4. Pledge by a Co-Owner in Possession :
When the goods is pledged by one of the several joint owners, the pledge shall be valid, if the following
conditions are satisfied:
i) The joint owner, who makes the pledge, must be in the possession of the goods with permission of the
other joint owners,
ii) The pawnee should have acted in good faith.

Note :
Mortgage and Pledge : Mortgage is legal agreement by which a bank or society lends money at the
interest in exchange for taking title of the debtor’s property, with condition that on the repayment of loan such
mortgage will be discharged. Mortgage is covered under the Transfer of Property Act 1882.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

CASE STUDIES

Q. Whether there is bailment in certain given cases ? (Sec. 148 May 2007)
Examine whether the following constitute a contract of ‘Bailment’ under the provisions of the Indian
Contract Act, 1872 :
i) V parks his car at a parking lot, locks it, and keeps the kyes with himself.
ii) Seizure of goods by customs authorities.
Answer :
i) Parking the car - does not result in a valid contract of bailment;
and keeping key - since delivery of goods does not take place in such a case (delivery
here with himself would refer to symbolic delivery, viz. delivery of keys of the car)

ii) Seizure of goods - results in a valid contract of bailment;


by custom - since all the essentials of a valid contract of bailment are satisfied in
authorities such a case.
Q. Goods agreed to be pleged, although not delivered and held in trust by the owner thereof -
Whether it amounts to pledge? (Sec. 149 June 2009)
A, the bailor, pledges cinema projector and other accessories with Cine Association Co-operative Bank
Limited, the bailee, for loan. A requests the bank to allow the pledged goods to remain in his possession
and promises to hold the same in trust for the bailee and also further promises to handover the possession
of the bank whenever demanded.
Examining the provisions of Indian Contract Act, 1872 decide, whether a valid contract of pledge has
been made between A, the bailor and Bank, the bailee?
Answer :
There is a valid - since Mr. A has pledged the goods with the Bank as a security for the
contract of pledge loan;
- although the Bank has given permission to Mr. A to continue to process
the goods in trust for the Bank;
- since the Bank is legally entitled to the possession of the goods, although
the physical possession of goods is with Mr. A
- since ‘constructive delivery’ of cinema projector’ from Mr. A to the
Bank has taken place in the given case.
Q. Unsafe goods, though the bailor is unware of it, are given to bailee on hire - Consequence where bailee
is injured (Sec. 150 May 2005)
A hires a carriage of B and agrees to pay ` 500 as hire charges The carriage is unsafe, though B is
unware of it. A is injured and claims compensation for injuries suffered by him. B refuses to pay. Discuss
the liability of B.
Answer :
Nature of bailment - Hire of carriage of B by A amounts to non-gratuitous bailment.
Duty of B - To disclose to A that the carriage was unsafe (even though he was
unware about it)
A is entitled to - for injuries suffered by him due to non-disclosure of faults in the
compensation carriage.

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

Q. Whether the pawnor is entitled to the bonus shares ? (Sec. 163 Nov. 2008)
M lends a sum of ` 5,000 to B, on the security of two shares of a Limited Company on 1st April 2007.
On 15the June. 2007, the company issued to bonus shares. B returns the loan amount of ` 5,000 with
interest but M returns only two shares which were pledged and refuses to give the two bonus shares.
Advise B in the light of the provisions of the Indian Contract Act, 1872.
Answer :
B is entitled to the - since the bailor (pawnor, in case of pledge of goods) is entitled to any
two bonus shares accretion to the goods;
- since the issue of two bonus shares by the company amounts to accretion
to the goods.

Q. Loss of goods bailed but not returned within reasonable time - Consequences
(Sec. 160 & 161 Nov. 2003)
Sunil delivered his car to Mahesh for repairs. Mahesh completed the work, but did not return the car to
Sunil within resasonable time, thought Sunil repeatedly reminded Mahesh for the return of car. In the
meantime a big fire occurred in the neighbourhood and the car was distroyed. Decide whether Mahesh
can be held liable under the provisions of the Indian Contract Act, 1872.
Answer :
Duty of Mahesh - To return the car to Sunil, without demand by Sunil, after completion
of repairs (Sec. 160)
Mahes is liable for - since Mahesh failed to return the car within reasonable time of
the loss of car by fire completion of repairs
- even though the car was destroyed without Mahesh’s fault or negligence
or due to extraordinary circumstances or acts of God (Sec. 161)

Q. Whether the Bank which has given an advance on the security of certain goods
(Sec. 180 & Sec. 181 May 2008, Nov. 2010, Nov. 2014)
Case I : Ravi sent a consignment of goods worth ` 60,000 by railway and got railway receipt. He
abtained an advance of ` 30,000 from the bank and endorsed and delivered the railway receipt in
favour of the bank by way of security. The railway failed to deliver the goods at the destination. The
bank filed a suit against the railway for ` 60,000.
Decide in the light of provisions of the Indian Contract Act. 1872, whether the bank would succeed int he
said suit ? (May 2008)
OR
Case II : X sent a consignment of mobile phones worth ` 60,000 to Y and obtained a railway receipt
therefore. Later, he borrowed a loan of ` 40,000 from Star Bank and endrosed the railway receipt in
favour of the Bank as security. In transit the consignment of mobile phones was lost. The Bank failes a
suit against the railway for a claim of ` 60,000, the value of the consignment. The railway contended
that the Bank is entitled to recover the amount of loan i.e. ` 40,000 only. Examining the provisions of
the Indian Contract Act, 1872, decide whether the contention of the railway is valid. (Nov. 2010)

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

OR
Case III : X sent a consignment of goods worth ` 2,90,000 by railway and got railway receipt for the
same. He obtained an advance of ` 2,60,000 from the bank and endrosed and delivered the railway
receipt in favour of the bank by way of security for the advance. The railway railed to deliver the goods
at the destination. The Bank filed a suit against the railway for ` 2,90,000. Decide in the light of
provisions of the Indian Contract Act, 1872, whether the bank would succeed in the said suit?
(Nov. 2014)
Answer :
The contract between - since deposit of title deeds with the bank as security against an advance
Ravi / X and Bank is a constitutes a pledge.
contract of pledge
Rights of pawnee - If a third person wrongfully deprives the pawnee of the goods, or causes
any damage to the goods, the pawnee is entitled to all the remedies as the
owner (viz. the pawnar) might have exercised as if the goods were not
pledged (Sec. 180).
The Bank would - since in case of pledge, the pawnee can exercise all the rights which the
succeed in suit filed pawner could exercise in respect of such goods, if the goods are damaged
against the railway for or some third party deprives the pawnee of such goods (Marvi Mercantile
entire value of the Bank Ltd. vs. Union of India)
consignment - The compensation received by the pawnee shall be divided among the
pawner and pawnee as per their respective interests (sec. 181)
Case I : The bank shall pay over to Ravi - ` 30,000 (viz. ` 60,000 less ` 30,000).
Case II : The bank shall pay over to X - ` 20,000 (viz. ` 60,000 less ` 20,000).
Case III : The bank shall pay over to X - ` 30,000 (viz. ` 2,90,000 less ` 2,60,000).

MULTIPLE CHOICE QUESTIONS


1. A bailee has
a) a right of particular lien over the goods bailed
b) a right of generation
c) a right of both particular and general lien
d) no lien at all over the goods bailed.
2. The delivery of goods by one person to another as security for the payment of a debt is called
a) Bailment b) Pledge
c) Mortgage d) Hypothecation
3. The position of a finder of lost goods is that of a
a) bailor b) bailee
c) surety d) principal debtor
4. The delivery of goods by one person to another for some specific purpose and time is known as:
a) Mortgage b) Pledge
c) Bailment d) Charge
Ans. 1. (c) 2. (b) 3. (b) 4. (c)

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CA - INTERMEDIATE - GR. I BAILMENT AND PLEDGE

PRACTICAL QUESTIONS AND ANSWERS


1. Examine whether the following constitute a contract of `Bailment’ under the provisions of the Indian
Contract Act, 1872 :
i) V parks his car at a parking lot, locks it, and keeps the keys with himself.
ii) Seizure of goods by customs authorities.
Ans. i) No. Mere custody of goods does not mean possession. For a bailment to exist the bailor must give
possession of the bailed property and the bailee must accept it, Section 148, of the Indian Contract
Act, 1872 is not applicable.
ii) Yes, the possession of the goods is transferred to the custom authorities. Therefore bailment
exists and section 148 is applicable.
2. A hires a carriage of B and agrees to pay ` 500 as hire charges. The carriage is unsafe, though B is
unaware of it. A is injured and claims compensation for injuries suffered by him. B refuses to pay.
Discuss the liability of B.
Ans. Problem asked in the question is based on the provisions of the Indian Contract Act, 1872 as contained
in Section 150. The section provides that if the goods are bailed for hire, the bailor is responsible for
such damage, whether he was or was not aware of the existence of such faults in the goods bailed.
Accordingly, applying the above provisions in the given case B is responsible to compensate A for the
injuries sustained even if he was not aware of the defect in the carriage.
3. A bails his jewelry with B on the condition to safeguard in bank’s safe locker. However, B kept in safe
locker at his residents, where he usually keeps his own jewelry. After a month all jewelry was lost in a
religious riot. A filed a suit against B for recovery. Referring to provisions of the Indian Contract Act,
1872, state whether A will succeed.
Ans. Referring to the Section 152 of the Indian Contract Act, 1872, B is liable to compensate A for his
negligence to keep jewelry at his resident. Here, A and B agreed to keep the jewelry at the Bank’s safe
locker and not at the latter’s residence.
4. R gives his umbrella to M during raining season to be used for two days during Examinations. M keeps
the umbrella for a week. While going to R’s house to return the umbrella, M accidently slips and the
umbrella is badly damaged. Who bear the loss and why ?
Ans. M shall have to bear the loss since he failed to return the umbrella within the stipulated time and
Section 161 clearly says that where a bailee fails to return the goods within the agreed time, he shall be
responsible to the bailor for any loss, destruction or deterioration of the goods from that time
notwithstanding the exercise of reasonable care on his part.
5. State the essential elements of a contract of bailment. Distinguish between the ‘contract of bailment’
and ‘contract of pledge’.
Ans. Essential elements of a contract of bailment: Section 148 of the Indian Contract Act, 1872 defines the
term ‘Bailment’. A ‘bailment’ is the delivery of goods by one person to another for some purpose upon
a contract that they shall, when the purpose is accomplished, be returned or otherwise disposed of
according to the directions of the person delivering them. The essential elements of the contract of the
bailment are :
1. Delivery of goods - The essence of bailment is delivery of goods by one person to another.
2. Bailment is a contract - In bailment, the delivery of goods is upon a contract that when the
purpose is accomplished, the goods shall be returned to the bailor.

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3. Return of goods in specific - The goods are delivered for some purpose and it is agreed that the
specific goods shall be returned.
4. Ownership of goods - In a bailment, it is only the possession of goods which is transferred and
the bailor continues to be the owner of the goods.
5. Property must be movable - Bailment is only for movable goods and never for immovable goods
or money.
Difference between contract of bailment and contract of pledge :
1. Right of sale - In case of pledge, the pawnee (pledgee) can sell the goods and recover his debt,
if pawnor (pledger) does not pay while in bailment the bailee can retain the goods and sue for
damages, but he has no authority to sell the goods.
2. Purpose - Pledge is specifically for securing a debt, while bailment may be for any purpose e.g.
for repairs, safe custody etc.
3. Right to use the goods - In case of pledge, pawnee cannot use the goods pledged but bailee can
use the bailed goods if contract so provides.

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CA-INTERMEDIATE - GR. I LAW OF AGENCY

1 SPECIAL CONTRACTS - 1C : LAW OF AGENCY

The Indian Contract Act, 1872 does not define the word ‘Agency’. However the word ‘Agent’ is defined
“as a person employed to do any act for another or to represent another in dealings with third persons. The
another person for whom the act is done or is so represented is called “Principal”.
Thus ‘Agency’ is a comprehensive word used to describe the relationship between one person and
another, where the first mentioned person brings the second mentioned person into legal relation with others.
Who is an agent ? [Sec. 182]
An “agent” is a person employed
- to do any act for another, or
- to represent another in dealing with third persons.
The person for whom such act is done, or who is so represented, is called the “principal.”
Thus, an agent brings two parties together and he is merely a connecting link. As soon as the contract is
established, the agent drops out and the principal and third parties are bound to each other.

True Test of Agency :


Test of agency depends upon the answer to following questions :
1. Whether a person has capacity to bind the principal to third parties?
2. Whether a person can establish Privity of Contract between the principal and third party?
If the answer to these questions is yes then there is agency, otherwise not.
The law of agency is based on the maxim “Quit facit per alium, facit per se” which means “he who
acts through an agent, is himself acting”. Agent is a person who brings the principal into the legal
relations with others or third parties.
Rules Regarding Agency :
There are two important principles of law on which the whole law of agency is based :
1. Whatever, a person can do himself can do through an agent. However, there are some exceptions to this
rule, such as, no one gets married through an agent etc.
2. The acts of the agent are the acts of the principal. Therefore, contract entered into through an agent may
be enforced in the same manner, as if the contract had been entered into by the principal (Sec. 226).
Essential Elements to form Agency :
1. Two Parties : To form Agency, there should be two Parties - Principal and Agent.
(a) Who can be Any person who is major and who is of sound mind may employ an agent. Thus a
Principal minor or a person of unsound mind cannot appoint an agent (Sec. 183).

(b) Who can be As per Sec 184, between the principal and third persons any person who is not
Agent minor and unsound mind can become an agent. This is because an agent is liable to
his principal.
But, any person, whether he is competent or not to enter into contract may be
appointed as an agent. Thus even a minor or a person of unsound mind may be
appointed as an agent.

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However, if a minor is appointed as an agent, he will not be personally liable


only principal shall be liable in such case. There is no need for an agent to have
contractual capacity as he makes contract on behalf of the principal.
Ex : Kabir appoints Bhavesh, a minor, to sell his vehicle for fifty thousand rupees.
But Bhavesh sells at forty thousand to Raghvan. Here, Kabir cannot repudiate the
contract and he cannot held liable to Bhavesh for the loss of ten thousand rupees.
The appointment was at the risk of Kabir and he has to bear such loss.
2. Agreement : There should be an agreement between agent and principal, but not necessarily a
contract. That is why, even a minor or a person of unsound mind may be an agent.
3. Consideration : No consideration is necessary to create an agency (Sec. 185).

HOW THE AGENCY IS CREATED ?

Modes of creation of Agency

By Express By Implied Agreement By Ratification By Necessity By Opertaion


Agreement (a) Estoppel, (b) Holding Out of Acts of Laws

1. Express Agency (Sec. 187) :


Such Agency is created either by words spoken or in writing e.g. Power of Attorney.
For example : Kabir is residing in Mumbai and he has a house in Coimbatore. Kabir appoints Raghvan
as agent by giving written power of attorney to take care of his house and to sell his house on his behalf.
2. Implied Agency / Agency by Ostensible Authority :
Where the authority of the agent is inferred by the conduct of the principal, there the agency through
ostensible authority is born. Such Agency is created by the conduct of parties. Here, the agent’s authority
is ostensible and the principal is bound by the acts of agent. The implied agency includes (a) agency by
estoppel & (b) agency by holding out.
a. Agency by Estoppel : If a person by his conduct or words spoken or written willfully makes
another to believe that a certain person is acting as his agent, he will be estopped later on from
denying that such a person is not his agent.
For Example : A tells B in the presence of C that he (A) is C’s agent. C does not object to this
statement and keeps quiet. Later on, B enters into a transaction with A bona fide, believing that A is
C’s agent.
C is bound by this transaction and will be estopped from denying that A was not his agent, even
though A was not in reality his agent.
b. Agency by Holding Out : It is a corollary of the first rule. Under the principle of holding out anyone
who holds himself out as an agent of another, then a relationship of agent and principal comes in
place. The process of holding out happens through willful conduct done to create a deliberate impression.
In the case of agency by estoppel, the role of the principal is passive; while in the case of agency by
holding out the role of the principal is somewhat positive.

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For Example : X allows his servant habitually to buy goods on credit from local dealer and pays for
them. One day, he terminated the services of his servant without any notice to the dealer. The
servant purchased goods worth ` 10000 on credit, as usual, after his termination. X is liable for the
purchase made by his servant.
3. Agency by Ratification :
In the following two situations, the principal is not bound by the act of agent :
i) If the agent acts on behalf of another without his consent or even without his knowledge. or
ii) If the agent acts on behalf of his principal with his consent, but he exceeds his authority.
However, the principal may reject or accept the contract, and if he accepts it, then it will be called
ratification and the act shall be treated as if it was done with the authority due to which, the principal shall
be bound to it.
For Example : A, without P’s authority, purchases certain goods on the behalf of P. P is at liberty to
reject the goods. But if P decides to accept the goods purchased without authority, then P is said to have
ratified the contract entered into by A. In that case P shall be liable to third parties.

Requisites of a valid Ratification


i) Ratification may be express or implied in the conduct of the person on whose behalf the
acts are done (Sec. 197).
For Example : X, without Y’s authority, buys goods for Y. Afterwards, Y sells those goods to Z.
Y’s conduct implies a ratification of the purchases made for him by X.
ii) A person, ratifying the contract, must have full knowledge of the facts. However, the
principal may choose to ratify without full knowledge of the facts (Sec. 198).
For Example : B authorises A to buy certain goods at the market price. A buys at a higher price,
but B accepts the purchase. Later on, B comes to know that those goods belonged to A himself.
The ratification is not binding on B.
iii) The contract can be ratified only as a whole. He cannot ratify a part and at the same time
reject the other. He cannot accept the profitable part and reject the unprofitable one
(Sec. 199).
For Example : Batuk Bhai authorises Anil to buy “A+” quality of goods. Anil buys “B+ and C+”
quality of goods. Both the goods were bought in a combo offer in which discount was received of
thousand rupees on “B+” goods. Here Batuk Bhai cannot ratify purchase of “B+” qulaity of goods
because discount was received on them and refuse to take “C+” qulaity of goods.
iv) Ratifaction should not cause damages or injury to a third party (Sec. 200).
For Example : A has taken land on lease from B. C is a freind of B but an unauthorised person,
gives notice of termination of lease to A. The notice cannot be ratified by B, as this will have the
effect of terminating B’s contract with A which may causes damage to third party.
v) Ratification must be done within a reasonable time.
vi) Ratification can be done of a lawful contract, not of unlawful acts.
vii) Ratification to be valid must be communicated to the other party.
viii) Act to be ratified must be within the power of the principal. Thus a company cannot ratify
an act which ultra vires the powers of the company.

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4. Agency by Necessity: Agent exceeding his authority in case of emergency :


i) Emergency : As a general rule, the agents have to act within the power conferred upon them by
principal. However, in the case of emergency, agent can exceed his powers and can take all the
steps to minimise the loss of his principal.
ii) Property belonging to another : A person becomes an agent, if he is in possession of goods
belonging to another and is under compulsion to protect the same from loss or destruction.
Agency by necessity will bind the principal, if the following conditions are satisfied:
i) The agent must act in actual and definite commercial emergency or necessity to act promptly.
ii) It should not have been possible for the agent to communicate in time with the principal.
iii) The agent must act bonafide manner and in good faith to protect the interest of the parties concerned,
iv) The agent must act in a reasonable manner, i.e. as a man of ordinary prudence would act in similar
circumstances.
v) The agent have the possession of the goods belonging to the principal.
For Example
1. Great Northern Railway Co. v. Swafield
A horse sent by rail was not taken delivery at the destination. The Station master had to feed
the horse. The Station master becomes an Agent by necessity and hence the owner shall compensate him.
2. Sims & Co. v. Midland Rly. Co. (1913)
Facts of Case Certain quantity of butter was handed over to a railway company. The transit
was delayed due to strike. The railway company sold the butter as it was
perishable.
Decision of Case Held, the company was justified in selling the butter, as it was not possible to
communicate with the principal.
5. Agency by Operation of Law :
Agency by operation of law arises where the law treats one person as an agent of another.

EXTENT OF AGENT’S AUTHORITY


Principles for determination of extent of agent’s authority : The extent of agent’s authority whether
expressed or implied is determined by :
1. Purpose or nature of act or the business for which agent has been appointed to do.
2. Acts or things which are incidental or ordinarily associated with the business.
3. Custom or usage of the business.
4. Agent’s authority includes the following :
a) to do every necessary and lawful act for which he has been appointed as an agent.
b) to do every lawful act which is justified by the customs or usage of the trade or business.
c) in case of necessity or emergency, to do all such acts which protects the principal from the loss, as
a person of ordinary prudence will do to protect his own interest.

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Extent of Agent’s Authority :


1. Agent’s Authority in normal circumstances :
a) An agent having an authority to do an act, has authority to do every lawful thing which is necessary
in order to do such act (Sec. 188).
For Example : A is employed by B, residing in Delhi, to recover a debt due from C, residing in
Bombay. A may adopt any legal process necessary for the purpose of recovering the debt, and may
give a valid discharge for the same.
b) Again, an agent having an authority to carry on a business has authority to do every lawful thing
necessary for the purpose, or usually done in the course of conducting such business (Sec. 188).
For Example : A employs B his agent to carry on his business of a ship builder. B may purchase
timber and other materials and hire workmen for the purpose of carrying on the business.
2. Agent’s Authority in Emergency (Agency by Necessity):
An agent has authority in an emergency to do all such acts for the purposes of protecting his principal
from loss as would be done by a person of ordinary prudence, in his own case, under similar circumstances
(Sec. 189). To constitute a valid agency in an emergency (in necessity) following conditions must be
satisfied.
i) The agent must act in actual and definite commercial emergency or necessity to act promptly.
ii) It should not have been possible for the agent to communicate in time with the principal.
iii) The agent must act bonafide in good faith to protect the interest of the parties concerned,
iv) The agent must act in a reasonable manner, i.e. as a man of ordinary prudence would act in similar
circumstances.
v) The agent have the possession of the goods belonging to the principal.
For Example : A consigns goods to B at Calcutta with directions to send them immediately to Bombay.
B may sell the goodss at Calcutta, if they are likely to perish during the journey to Bombay.

DELEGATION OF AUTHORITY
The delegatee “Delegatus non potest delegare” is the governing principle, which means
cannot further that a person to whom authority has been delegated cannot delegate further.
delegate The contract of agency is of a fiduciary character, i.e., it depends upon agent’s
(Sec 190) skill, experience and honesty, etc. Hence, an agent is appointed by the principal
on the basis of his personal qualities, which are likely to be sacrificed, if the
agent is allowed to appoint another person in his place.
Exception to In practice, however, there are well-recognised exceptions to this general rule.
the above Rule (See below points 1 to 4 of Sub agent)
SUB AGENT (SEC. 191)
When an agent delegates a part of his authority to another person, this another person is called ‘sub-agent’.
He can be appointed by the agent only.
As per Sec. 191, A sub-agent is a person -
- employed by, and
- acting under the control of the original agent in the business of agency.

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Thus, the original agent really acts in the double capacity. He is an agent of the principal and at the same
time is the principal of the sub-agent.
In the following cases, sub-agents may be appointed by the original agent and therefore principal shall be
liable for the acts of sub-agent:
i) If principal expressly or impliedly allows the appointment of a sub-agent.
ii) If there is a custom of the trade to appoint a sub-agent.
iii) Where an emergency makes it necessary to appoint a sub-agent.
iv) Where the nature of the work is such that a sub-agent is necessary.

Relationship Between Principal, Agent & Sub- Agent


1. When the appointment of sub-agent is proper, legal or justified (Sec. 192) :
In this case, the legal relations of the principal, agent and sub-agent may be summarised as follows :
i) The principal is bound by the acts of the sub-agent.
ii) The agent is responsible for the acts of sub-agent to the principal.
iii) The sub-agent is responsible to the agent but not to the principal except in case of fruad and wilful
wrong.
iv) The agent is liable to both, i.e., to the principal for the acts of the sub-agent and to the sub-agent for
the acts of the principal.
2. When the appointment of the sub-agent is not proper, legal or justified (Sec. 193):
In this case, the legal relations of the principal, agent and sub-agent may be summarised as follows :
i) The principal, in such a case, is not responsible for the acts of the sub-agent ; nor is the sub-agent
responsible to the principal. Sub-agent is answerable/liable to the agent only.
ii) For the acts of sub-agent, the agent will be personally liable to the principal as well as the
third parties as if such agent is principal for the sub-agent.
iii) Where the sub-agent purportedly (supposedly) acts in the name of first principal then the principal
can ratify the act. But if sub-agent acts in the name of agent who appointed him, then first principal
cannot ratify it.
POSITION OF SUB AGENT VIS- A- VIS THIRD PARTIES (SECTIONS 190, 192 AND 193)
Properly appointed Appointment without authority
Principal bound by his acts and liable to third parties Principal is not bound by his acts and hence not
liable to third parties. Agent is liable to the third
parties as if he is the principal.
Sub-agent is not responsible to principal, except in Sub-agent is not responsible to principal but to the
case of fraud, willful wrong. agent

SUBSTITUTED AGENT (SEC. 194 & 195)


1. Meaning An agent can appoint another person to act as agent for the principal, the person so
appointed is called as ‘substituted agent’.
Sec. 194 of the Indian Contract Act, 1872 defines the substituted agent as follows:
Where -

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- If an agent has express or implied authority to appoint another person to act for the
principal in the business of the agency, then that another person is not a sub-agent,
but an agent of the principal for such part of the business of the agency which has
been given to him.
The substituted agent is directly responsible to the principal. The privity of contract is
maintained between the principal and substituted agent.
For Example : X directs Y, his solicitor, to sell his estate by auction and to employ an
auctioneer for the purpose. Y names Z as an auctioneer to conduct the sale. Z is not a
sub-agent, but is X’s agent for the conduct of the sale.
2. Duty of In selecting substituted agent for his principal, the agent is bound to exercise the same
Agent amount of discretion as a man of ordinary prudence would exercise in his own case and
if he does this, he is not responsible to the principal for the acts of negligence of the
agent so selected (Sec. 195)
For Example : P instructs Q to buy a ship for him. Q employs a ship surveyor of good
reputation to choose a ship for P. The surveyor makes the choice negligently and the
ship turns out to be unseaworthy and is lost. Q is not, but the surveyor is responsible to
P for the loss.
For Example : A authorises B to recover the money from C and for this B appoints
solictor D for legal proceedings. Solicitor D is not experienced one. In the legal proceedings
the case was lost due to unprofessional and careless attitude of the D. Here A can
recover loss from B because he failed to appoint professional solicitor.

SUB- AGENT VS. SUBSTITUTED AGENT


Basis Sub-Agent Substituted Agent

1. Appointment It is appointed by Agent, and also acts It is only named by the agent, but acts under
under the control of agent. the control or instructions of the principal.

2. Delegation Agent delegates some part of his own Agent does not delegate any part of his
duties. duties to substituted agent.

3. Privity of There is no privity of contract between There is privity of contract between the
Contract sub agent and principal. substituted agent and the principal.

4. Remuneration Sub Agent cannot claim the remuneration A substituted agent can claim remuneration
from the original principal. from the principal.

5. Right to hold The principal cannot hold the sub agent The principal can hold the substituted agent
liable liable except in case of fraud. liable.

6. Liability of An agent is liable for the acts of sub An agent is not liable for the acts of
Agent agents. substituted agent.

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PRETENDED AGENT
Meaning : A pretended agent is one who represents to be an agent of another when in reality he has no such
authority from him at all. “A” representing as an agent of “B” without B’s authority. Here A is pretended
agent.
Liability of Pretended Agent (Sec. 235) : A person untruly representing himself to be an authorised agent
of another, and inducing a third person to deal with him as such Agent, then that pretended agent is liable (if
his alleged principal does not ratify his acts) to make compensation for any loss or damage incurred by such
third person from such dealing.
No right to insist performance : The pretended agent has no right to proceed against third party for
performance of the Contract.
Position of Pretended Agent :
a) He is personally liable, if the act is not ratified.
b) Principal is liable if he ratifies the act.
b) No Liability, if the third party had knowledge that the agent had no authority.
c) No right to enforce the performance of contract.

UNDISCLOSED PRINCIPAL
Meaning : A person contracts with third parties as if he is not acting as an agent of another person. In other
words, third party enters into a contract with the agent as if agent is not the agent of another person, the
principal. Such principal is known as “undisclosed principal”.
In this case, the agent is personally liable on the contract. He can sue and be sued by the third party. If
the undisclosed principal intervenes, then, principal and third parties have the following rights and liabilities:
- Right of the Principal :
As per Sec. 231, if an agent makes a contract with a person, who neither knows nor has reasons to
suspect, that he is an agent, his principal may require the performance of the contract but the other party
shall also has right against the principal as he would have against the agent as if agent had been the
principal.
- Right of Third Party :
1. Right to Repudiate the Contract [Sec. 231] : If principal discloses himself before the contract is
complete, the third party can repudiate the contract, if he can show that, he would not have entered into
the contract if he had known who was the principal or that the agent was not a principal himself.
2. Right to Set-off [Sec. 232] : If the principal requires the performance of the contract, the third party
has a right to claim set off the amount due to or receivable from Agent.
For Example : A owes ` 500 to B. He sells ` 1,000 worth of rice to B. A is acting as agent for C in the
transaction, but B has no knowledge nor reasonable ground of suspicion that such is the case. C cannot
compel B to take the rice without allowing him to set off A’s debt. B can deduct ` 500 out of ` 1000
payable to A.
3. Right to Sue [Sec. 233] : Finally, third party has the option to sue either the principal or the agent or
both.
For Example : A enters into a contract with B to sell him 100 bales of cotton, and afterwards, discovers
that B was acting as agent for C. A may sue either B or C, or both, for the price of the cotton.

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DUTIES OF AN AGENT
1. To conduct principal’s business according to his directions [Sec. 211] :
An agent is bound to conduct the business of his principal, according to the directions given by the
principal. If the principal does not give any directions, then the agent has to conduct the business according
to the prevailing custom.
If the agent acts otherwise and the principal suffers any loss thereby, he must make good his loss.
For Example : Mr. P asks his agent Mr. Q to sell goods on cash basis. Q sells goods on credit and the
amount becomes irrecoverable due to the buyer’s insolvency. Mr. Q must make good the loss.
2. To conduct business with reasonable skill and due diligence and care [Sec. 212] :
An agent is bound to conduct the business of the agency with as much skill as is generally possessed by
a person engaged in similar business. If the principal suffers any direct loss due to the agent’s negligence,
the agent must make compensation to his principal. However, an agent is not liable for remote or indirect
loss.
For Example : A is an agent for the sale of goods on behalf of P. A has an authority to sell goods on
credit. He sells to B on credit without making proper and usual enquiries as to the solvency of B.
B, at the time of such sale, is insolvent. A must make compensation to his principal in respect of any loss
thereby sustained.
3. To pay all sums received and give proper accounts to his principal on demand [Sec. 213]:
Accounts must be given with supported vouchers and documents evidencing receipts and payments.
4. To communicate and obtain instructions in case of difficulty [Sec. 214] :
In case of difficulty, it is the duty of an agent to use all reasonable diligence in communicating with his
principal, and to obtain his instructions.
However, in an emergency, when an agent cannot communicate with his principal, he should take reasonable
steps to protect his principal’s interest.
5. Not to deal on his own account [Sec. 215] : If the agent deals on his account without obtainig the
consent of principal first or without disclosing material facts then the principal may repudiate the act, if
principal proves that material facts were concealed dishonestly and deliberately.
For Example : A directs B to sell A’s estate. B buys the estate for himself in the name of C. A, on
discovering that B has bought the estate for himself, may repudiate the sale if he can show that B has
dishonestly concealed any material fact, or that the sale has been disadvantageous to him.
6. Not to make any secret profit [Sec. 216] :
For Example : A directs B to sell A’s estate. B, on looking over the estate before selling it, finds a mine
on the estate which is unknown to A. B informs A that he wishes to buy the estate for himself, but
conceals the discovery of the mine. A allow B to buy, in ignorance of the existence of the mine. A, on
discovering that B know of the mine at the time he bought the estate, may either repudiate or adopt the
sale at his option.
For Example :Mr. Ahuja of Delhi engaged Mr. Singh as his agent to buy a house in West Extension
area. Mr. Singh bought a house for 20 lakhs in the name of a nominee and then purchased it himself for
24 lakhs. He then sold the same house to Mr. Ahuja for 26 lakhs. Mr. Ahuja later comes to know the
mischief of Mr. Singh and tries to recover the excess amount paid to Mr. Singh. Mr. Ahuja is entitled to
recover 6 lakhs from Mr. Singh being the amount of profit earned by Mr. Singh out of the transaction.

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7. To account for the money received for the principal [Secs. 217 and 218] :
An agent, after deducting all sums due to himself by the principal, is bound to pay to his principal all sums
received on his account.
RIGHTS OF AN AGENT
1. Rights to retain out of sums received on principal’s behalf [Sec. 217] :
Out of the money received on account of principal, an agent has a right to retain all money’s due to
himself by the principal, such as -
- advances made by agent,
- expenses properly incurred by him in conducting business of agency, and
- also such remuneration as may be payable to him for acting as agent.
2. Right to Receive Remuneration [Sec. 219] :
a) The agent has a right to receive agreed remuneration.
b) However, in the absence of an agreement, he is entitled to receive a reasonable remuneration which
is payable customary in the business.
For Example : An agent was appointed to introduce customers to purchase the principal’s property.
The agent introduced a customer. The sale was settled and the earnest money paid. However, the
sale could not be materalised due to customer’s inability to find money.
Held, the agent was entitled to his agreed commission.
- Sheikh Farid Baksh v Hargulal Singh, 1937
c) An agent, who is guilty of misconduct in the business of agency, is not entitled to any remuneration in
respect of that part of the business which he has misconducted [Sec. 220].
For Example : A employs B to recover 1,000 rupees from C. Due to B’s misconduct, the money is
not recovered. B is not entitled to any remuneration for his services and must make good the loss.
3. Right of Lien [Sec. 221] :
In the absence of any contract to the contrary, an agent is entitled to retain goods, papers, and other
property of the principal received by him, until the amount due to himself for commission, disbursements
and services in respect of the same has been paid or accounted for, to him. But the possession should be
lawful.
This right of the agent is possessory right and so, if the possession is lost, the right is also lost.
4. Right of Indemnity :
a) If the agent does any lawful act within his authority and as a result of such act, he suffers any loss,
then the employer of the agent is bound to indemnify him against such loss [Sec. 222].
For Example : B, under instructions from A of Calcutta, contracts with C to deliver certain goods to
him. A does not send the goods to B, and C sues B for breach of contract. B informs A of the suit,
and A authorises him to defend the suit. B defends the suit, and is compelled to pay damages and
costs, and incurs expenses. A is liable to B for such damages, costs and expenses.
b) It should be noted that this right to indemnification extends to acts done in good faith on instructions
of the principal, even if such acts cause injury to the right of third person / persons [Sec. 223].
For Example : B, at the request of A, sells goods in the possession of A, but which A had no right
to dispose off, B does not know this, and hands over the proceeds of the sale to A. Afterwards C, the
true owner of the goods, sues B and recovers the value of the goods and costs. A is liable to
indemnify B for what he has been compelled to pay to C, and for B’s own expenses.

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c) However, an employer (principal) is not liable to indemnify an agent for any loss caused by criminal
act [Sec. 224]
For Example : A employs B to beat C, and agrees to indemnify him against all consequences of the
act. B thereupon beats C, and has to pay damages to C for doing so. A is not liable to indemnify B for
those damages.
5. Right to compensation for injury caused due to negligence of the principal [Sec. 225] :
The principal must make compensation to his agent in respect of injury caused to such agent by the
principal’s neglect or want of skill.
For Example : A employs B as a bricklayer in building a house, and put up the scaffolding himself. The
scaffolding is unskillfully put up, and B is in consequence hurt. A must make compensation to B.

LIABILITY OF THE PRINCIPAL AND AGENT FOR THE ACTS OF THE AGENT TO THIRD PARTIES
1. Principal’s liability acts within the scope of actual or apparent authority :
If the act has been done within the scope of his actual or apparent authority, the principal is bound by the
act of the agent.
The contracts, arising from such acts of agent may be enforced in the same manner, as if the contract
had been entered into by the principal in person [Sec. 226].
For Example : A buys goods from B, knowing that he is an agent for their sale, but not knowing who is
the principal. B’s principal is the person entitled to claim from A the price of the goods, and A cannot, in
a suit by the principal, set off against that claim a debt due to himself from B.
For Example : A, being B’s agent with authority to receive money on his behalf, receives from C, a sum
of money due to B. C is discharged of his· obligation to pay the sum to B.
2. When acts done exceed the scope of actual or apparent authority :
a) When excess of In this case, the principal is bound by that part of the agent’s act, which is
agent’s authority is within his authority and is separable.
separable (Sec. 227) For Example : A, owner of a ship and cargo, authorises B to procure an
insurance for ` 4,000 on the ship. B procures a policy for ` 4,000 on the
ship, and another for the like sum on the cargo. A is bound to pay the
premium for the policy on the ship, but not the premium for the policy on the
cargo.
b) Where excess of In this case, the principal is not bound by the contract.
agent’s authority is For Example : A authorises B to buy 500 sheep for him. B buys 500 sheep
not separable and 200 lambs for a sum of ` 6,000. A may repudiate the whole
(Sec.228) transaction.
3. Notice given to agent deemed to be notice to principal [Sec. 229] :
When a notice is given to the agent or an information obtained by the agent in the course of the business
transacted by him for the principal, it is treated to be a notice or information to the principal.
For Example : C is employed by B to buy from A certain goods of which A is the apparent owner, and
buys them accordingly. A owes ` 500 to B. In the course of sale, C learns that the goods really belonged
to D, but B is ignorant of that fact. B is not entitled to set off a debt of ` 500 owing to him from A against
the price of the goods.

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For Example : C is employed by B to buy from A goods of which A is the apparent owner. A owes ` 500
to B. C was, before he was so employed, a servant of A, and then learnt that the goods really belonged
to D, but B is ignorant of that fact. In spite of the knowledge of his agent, B may set off against the price
of the goods a debt of ` 500 owing to him from A.
4. Misrepresentation or fraud by Agent [Sec. 238] :
The principal is liable for misrepresentation made or fraud committed by the agent, if -
i) Misrepresentation or fraud is committed during the course of the business, and
ii) the same are within the scope of his actual or apparent authority.
For Example : A was a managing clerk in a Solicitor’s firm. His duty was to interview the clients
and advise them. While interviewing a lady client, who sought advice as to the value of certain
houses, the clerk asked the lady to sign a document telling her that it was necessary. In fact, he got
a conveyance deed signed in his own favour and disposed off the property.
Held, the solicitor was liable, because the fraud was committed by the agent (clerk) in course of his
business and within the scope of his duties. - Loyd v Grace, Smith & Co. (1912)
For Example : A, being B’s agent for the sale of goods, induces C to buy them by a misrepresentation,
which he was not authorized by B to make. The contract is voidable, as between B and C, at the option
of C.
5. Consequence of inducing agent or principal to act on belief that principal or agent will be
held exclusively liable [Section 234] :
When a person who has made a contract with an agent induces the agent to act upon the belief that the
principal only will be held liable, or induces the principal to act upon the belief that the agent only will be
held liable, he cannot afterwards hold liable the agent or principal respectively.
For Example : A an agent of C made a contract, not in his authority, with B and B promised that in
case of failure, B will take action against principal and not against him. On failure B cannot held agent
liable.
6. Liability of pretended agent [Section 235] : A pretended agent is a person who represents himself to
be an agent of another, when infact he has no authority from him, whatsoever if the principal ratifies his
acts as agent, he has no liability. But if the principal refuses to ratify his acts, he becomes personally liable
to third party for any loss or damage caused to him. It is to be noted that where agent is personally liable,
the third party can sue the principal or the agent or both the principal and the agent, as the liability of the
principal and agent is joint and several.
For Example : A enters into a contract with B as an agent of C, in fact he is not the agent of C. In this
case if C ratifies the act of A, C will be liable to B and not the A. If C refuses to ratify his acts, then A
becomes personally liable to third party. Where agent becomes personally laible in that case other party
can take action agains agent, or prinicipal or both.
7. Person falsely contracting agent not entitled to performance [Section 236] : A person with
whom a contract has been entered into in the character of agent, is not entitled to require the performance
of it if he was in reality acting, not as agent, but on his own account.
For Example : A acted as agent of B and contracted with C. In this case A cannot require the
performance of contract from C since agent is not the privity to the contract, it is the B who can demand
the performance of contract.

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8. Liability of principal inducing belief that agent’s unauthorized acts were authorized [Sec.237] :
When an agent has, without authority, done acts or incurred obligations to third persons on behalf of his
principal, the principal is bound by such acts or obligations, if he has by his words or conduct induced such
third persons to believe that such acts and obligations were within the scope of the agent’s authority.
For Example : A consigns goods to B for sale at price which is reasonably fetch by the goods. B sold
goods at different price based on negotiation with the buyers. But after one month, A gave him instructions
not to sell the goods below the price fixed by A. C, being ignorant of A’s instructions, enters into a
contract with B to buy the goods at a price lower than the reserved price. A is bound by the contract he
has to honour the sale since C has reasons to believe that B has authority to sell at lower price also, based
on past experience of sale at different prices he had with the B .
9. Undisclosed Principal, i.e., where the agent neither discloses the existence of the principal
nor the name of the principal :
In this case, the agent is personally liable on the contract. He can sue and be sued by the third party. If
the undisclosed principal intervenes, then, principal and third parties have the following rights and liabilities:
- Right of the Principal :
As per Sec. 231, if an agent makes a contract with a person, who neither knows nor has reasons to
suspect, that he is an agent, his principal may require the performance of the contract, but the other
party shall also right against the principal as he would have against the agent as if agent had been the
principal.
- Right of Third Party :
i) Right to Repudiate the Contract [Sec. 231] : Third party can repudiate the contract, if he can
show that, he would not have entered into the contract if he had known that the agent was not a
principal.
ii) Right to Set-off [Sec. 232] : If the principal requires the performance of the contract, the third
party has a right to claim set off the amount due to or receivable from Agent.
For Example : A owes ` 500/- to B. He sells 1,000 rupees worth of rice to B. A is acting as agent
for C in the transaction, but B has no knowledge nor reasonable ground of suspicion that such is the
case. C cannot compel B to take the rice without allowing him to set off A’s debt.
iii) Right to Sue [Sec. 233] : Finally, third party has the option to sue either the principal or the agent
or both.
For Example : A enters into a contract with B to sell him 100 bales of cotton, and afterwards,
discovers that B was acting as agent for C. A may sue either B or C, or both, for the price of
the cotton.
10. Agent cannot personally enforce the contract nor he is bound by the contracts entered on
behalf of principal [ Sec. 230] :
In the absence of contract to the contrary, an agent cannot personally enforce contract entered by him on
behalf of his principal, nor he is personally bound by it.
Presumption of existence of such contract to contrary, in other words agnent is personally
liablein the following cases :
i) Where the agent acts for a foreign principal [Sec. 230] :
ii) Where the agent acts for an undisclosed principal [Sec. 230]
iii) Where the principal cannot be sued [Sec 230]. For Example, Foreign Ambassador, a Foreign Sovereign.

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TERMINATION OF AGENCY
I. Termination by Act of Parties
1. Agreement An agency is generally created by an agreement. So, it may also be terminated
by an agreement. However, the transactions that took place prior to the
termination shall continue to bind the principal.

2. Revocation The following points are worthwhile to be noted in this regard :


by the a) Sec. 203 provides that the principal may revoke the agency at any time,
Principal subject to the following provisions :
i) the authority must not be exercised by the agent, so as to bind the
principal
ii) the agency should not be coupled with interest, or
b) As per Sec 204, where the authority has been partly exercised, the principal
cannot revoke the authority in respect of acts and obligations already
undertaken.
Ex : A authorizes B to buy 1,000 bales of cotton on account of A, and to pay
for it out of A’s money remaining in B’s hands. B buys 1,000 bales of
cotton in A’s name, and so as not to render himself personally liable for
the price. A cannot revoke B’s authority to pay for the cotton.
c) Where the agent has himself an interest in the subject-matter of the agency,
the agency cannot, in the absence of an express contract, be terminated to
the prejudice of such interest (Sec 202). Consider the following examples :
i) A, gives authority to B to sell A’s land, and to pay himself, out of the
proceeds, the debt due to him from A. A cannot revoke this authority,
nor can it be terminated by his insanity or death.
ii) A consigns 1,000 bales of cotton to B, who has made advances to him
on such cotton, and desires B to sell the cotton, and to repay himself out
of the price, the amount of his own advances. A cannot revoke this
authority, nor is it terminated by his insanity or death.
d) As per Sec 205, if the agency is for a particular period and it is revoked
earlier, without sufficient cause, the principal must compensate the agent.
e) As per Sec 206, a reasonable notice of revocation to the agent and third
parties must be given, otherwise the principal will be liable to third parties
for the acts of the agent.
f) As per Sec 207, revocation may be express or implied :
Ex : A empowers B to let A’s house. Afterwards A lets it himself. This is an
implied revocation of B’s authority.

3. Revocation An agent has also a right to revoke the agency by giving a reasonable notice in
by the agent the same manner as in the case of revocation by the Principal.

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II. Termination by Operation of Law


1. Performance It is the most usual manner, in which an agency is terminated. After the act, for
of contract which the agency was created, has been completed, the agency is terminated.
2. Expiry of If the agency is appointed for a particular period, the agency is terminated, on
Time the expiry of that period, even if the whole of the work or purpose of the agency
has not been accomplished.
3. Death or Knowledge of the death or insanity of either the principal or the agent terminates
Insanity the agency. Agent is liable to take reasonable stepts on behalf of legal
representative of principal.
4. Insolvency Knowledge of the insolvency of the principal will terminate the agency. As
of Principal regards the insolvency of the agent, the Act is silent. However, it is logical to
say that the insolvency of the agent will also terminate the agency.
5. Termination A sub-agent derives his authority through the agent. Hence termination of an
of sub-agent’s agent’s authority terminates the sub-agent’s authority (Sec. 210).
Authority
When Termination of Agency Takes Effect ?
As per Sec. 208, the termination of authority of an agent does not take effect, until it becomes known to
the parties concerned, i.e., the agent and third parties.
For Example : A directs B to sell goods for him, and agrees to give B 5% commission on the price fetched
by the goods. A afterwards by letter, revokes B’s authority. B after the letter is sent, but before he
receives it, sells the goods for ` 100. The sale is binding on A, and B is entitled to ` 5 as his commission.
Sec. 210 provides that the termination of the agent’s authority will also terminate the sub-agent’s authority.
However, termination of an agent’s authority does not ipso facto terminates the authority of the substitued
agent. Therefore, a separate notice of termination of substitued agent’s authority is necessary.
IRREVOCABLE AGENCY
1. Where agency is coupled with interest [Sec. 202] :
Where the agent has himself an interest in the subject-matter of the agency, the agency cannot, in the
absence of an express contract, be terminated to the prejudice of such interest even the death, insanity or
insovency of principal does not affect agency. Consider the following examples :
a) A, gives authority to B to sell A’s land, and to pay himself, out of the proceeds, the debts due to him
from A. A cannot revoke this authority, nor can it be terminated by his insanity or death.
b) A consigns 1,000 bales of cotton to B, who has made advances to him on such cotton, and desires B
to sell the cotton, and to repay himself out of the price the amount of his own advances. A cannot
revoke this authority, not is it terminated by his insanity or death.
2. Where the authority has been partly exercised [Sec. 204] :
Where the authority has been partly exercised, the principal cannot revoke the authority in respect of
acts and obligations already undertaken.
Example : A authorizes B to buy 1,000 bales of cotton on account of A, and to pay for it out of A’s
money remaining in B’s hands. B buys 1,000 bales of cotton in A’s name, and so as not to render himself
personally liable for the price. A can revoke B’s authority to pay for the cotton.

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CA-INTERMEDIATE - GR. I LAW OF AGENCY

CASE STUDIES

Q. Whether a prindipal is liable to a third party for goods pruchased on credit by his agent?
(Sec. 237 June 2009)
R of New Delhi sends his agent M to pruchase certain goods from Globle Enterprise, Mumbai on credit
for him. Later on R pays the amount for the goods pruchased. On another occasion, he again sends M
to purchase goods but this time pays sufficient cash to M for the prupose. M, however again purchases
the goods from Global Enterprises but on credit and soon thereafter he dies. Global Enterprise files a suit
against R for recovery of the said amount. Decide whether Global Enterprise would be given any relief
bythe Court under the provisions of the Indian Contract Act, 1872.
Answer :
R is liable to Global - since the principal is bound to third parties for all such acts of the agent
Enterprise for goods as are within to scope of authority of the agent;
purchase by M - since on a previous occasion, purchase of goods by M on behalf of R,
and subsequent payment for such goods by R, established that it was
within the scope of authority of M to pruchase goods on credit on
behalf of R.

Q. Secret profit earned by the agent - Remedies available to the principle


(Sec. 215 & 216 Nov. 2005, May 2016)
Mr. Ahuja of Delhi engaged Mr. Singh as his agent to buy a house in West Extension area. Mr. Singh
bought a house for Rs. 20 lakhs in the name of a nominee and then purchased it himself for Rs. 24 lakhs.
He then sold the same house to Mr. Ahuja for Rs. 26 lakhs. Mr. Ahuja later comes to know the michief
of Mr. Singh and tries to recover the excess amount paid to Mr. Singh. Is he entitled to recover any
amount from Mr. Singh ? If so, how much? Explain (Nov. 2008)
OR
Mr. A of Alwar engaged Mr. S as his agent to buy a house. Mr. S bought a house for Rs. 40 lakhs in the
name of a nominee and then purchased it himself for Rs. 44 lakhs. He then sold the same house to Mr.
A for Rs. 46 lakhs. Mr. A later comes to know about the mischief of Mr. S and tries to recover the
excess amount paid to Mr. S. Is he entitled to recover any amount from Mr. S? If so, how much?
Explain. (May. 2016)
Answer :
Non-disclosure of - since Mr. Singh, without disclosing all material facts and without obtaining
profit Rs. 6 lakhs the consent of Mr. Ahuja, dealt in the business of agency on his own
amounts to breach of account (Sec. 215);
duty by Mr. Singh - since Mr. Singh made a secret profit (Sec. 2016)

Right of Mr. Ahuja - Mr. Ahuja is entitled to requdiate the contract or to claim from Mr.
Singh Rs. 6 lakhs.

Q. Whether an agent is liable to the principal if he makes a profit by concealing a material fact w.r.t the
subject matter of the agency ? (Sec. 215 & 216 May 2008)

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CA-INTERMEDIATE - GR. I LAW OF AGENCY

P appoints A as his agent to sell his estate. A, on looking over the estate before selling it, finds the
existence of a good quality Granite-Mine on the estate, which is unknown to P. A buys the estate himself
after informing P that he (A) wishes to buy the estate for himself but conceals the existence of
Granite-Mine. P allows A to buy the estate, in ignorance of the existence of Mine. State giving reasons
in brief the rights of P, the principal, against A, the agent.
What would be your answer if A had informed P about the existence of Mine before he purchased the
estate, but after two months, he sold the estate at a profit of Rs. 1 lac ?
Answer :
1. Non-disclosure of fact of existence of mine amounts to breach of duty by A - since A,
without disclosing all material facts and without obtaining the consent of P, dealt in the business of
agency on his own account.
2. If A had informed P about the existence of mine - then, A would not be liable, even though he
makes a profit of Rs. 1 lakh, since in such a case, there is no breach of duty of disclosure and
obtaining consent.

Q. Agent appointed for selling land so that borrowed money can be repaid - Whether the agency can be
revoked ? (Sec. 202 May 2014)
Sunil borrowed a sum of Rs. 3 lakh from Rajendra. Sunil appointed Rajendra as his agent to sell his land
and authorized him to appropriate the amount of loan out of the sale proceeds. Afterwards, Sunil revoked
the agency. Decide under the provisions of the Indian Contract Act, 1872 whether the revocation of the
said agency by sunil is lawful?
Answer :
Agency in the given case is - an agency coupled with interest.
Revocation of agency by - since the agency coupled with interest cannot be revoked.
Sunil is not valid

MULTIPLE CHOICE QUESTIONS

1. .................. is one who represents to be an agent of another when in reality he has no such authority
from the other at all.
a) Substituted agent b) Subordinate agent
c) Pretended agent d) Both (a) & (b)
2. Out of the following, who can appoint an Agent ?
a) Minor b) Person of sound mind
c) Person of unsound mind d) None of the above
3. When an authority of agent is said to be implied :
a) given by words b) spoken
c) inferred from the circumstances of the case d) written
4. Substituted Agent is agent of the ................... :
a) Agent b) Principal
c) Sub-agent d) Third party

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CA-INTERMEDIATE - GR. I LAW OF AGENCY

5. L made an offer to MD of a company. MD accepted the offer though he had no authority to do so.
Subsequently L withdrew the offer but the company ratified the MD’s acceptance. State which of the
statement given hereunder is correct :
a) L was bound with the offer b) An offer once accepted cannot be withdrawn
c) Both option (a) & (b) is correct d) L is not bound to an offer.
6. A is residing in Delhi and has a house in Mumbai. A appoints B by a power of attorney to take care of his
house. State the nature of agency created between A and B :
a) Implied agency b) Agency by ratification
c) Agency by necessity d) Express agency
Ans. 1. (c) 2. (b) 3. (c) 4. (b) 5. (c) 6. (d)

PRACTICAL QUESTIONS AND ANSWERS


1. A appoints M, a minor, as his agent to sell his watch for cash at a price not less than ` 700. M sells it
to D for ` 350. Is the sale valid? Explain the legal position of M and D, referring to the provisions of the
Indian Contract Act, 1872.
Ans. According to the provisions of Section 184 of the Indian Contract Act, 1872, as between the principal
and a third person, any person, even a minor may become an agent. But no person who is not of the
age of majority and of sound mind can become an agent, so as to be responsible to his principal. Thus,
if a person who is not competent to contract is appointed as an agent, the principal is liable to the third
party for the acts of the agent. Thus, in the given case, D gets a good title to the watch . M is not liable
to A for his negligence in the performance of his duties.
2. State with reason whether the following statement is correct or incorrect Ratification of agency is valid
even if knowledge of the principal is materially defective.
Ans. Incorrect : Section 198 of the Indian Contract Act, 1872 provides that for a valid ratification, the person
who ratifies the already performed act must be without defect and have clear knowledge of the facts
of the case. If the principal’s knowledge is materially defective, the ratification is not avlid and hence
no agency
3. Ramesh instructed Suresh, a transporter, to send a consignment of apples to Mumbai. After covering
half the distance, Suresh found that the apples will perish before reaching Mumbai. He sold the same
at half the market price. Ramesh sued Suresh. Will he succeed ?
Ans. An agent has the authority in an emergency to do all such acts as a man of ordinary prudence would do
for protecting his principal from losses which the principal would have done under similar circumstances.
A typical case is where the ‘agent’ handling perishable goods like ‘apples’ can decide the time, date
and place of sale, not necessarily as per instructions of the principal, with the intention of protecting the
principal from losses. Here the agent acts in an emergency and acts as a man of ordinary prudence. In
the given case Suresh had acted in an emergency situation and Ramesh will not succeed against him.
4. Mr. Ahuja of Delhi engaged Mr. Singh as his agent to buy a house in West Extension area. Mr. Singh
bought a house for ` 20 lakhs in the name of a nominee and then purchased it himself for ` 24 lakhs.
He then sold the same house to Mr. Ahuja for ` 26 lakhs. Mr. Ahuja later comes to know the mischief
of Mr. Singh and tries to recover the excess amount paid to Mr. Singh. Is he entitled to recover any
amount from Mr. Singh? If so, how much ? Explain.

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CA-INTERMEDIATE - GR. I LAW OF AGENCY

Ans. The problem in this case, is based on the provisions of the Indian Contract Act, 1872 as contained in
Section 215 read with Section 216. The two sections provide that where an agent without the knowledge
of the principal, deals in the business of agency on his own account, the principal may :
1) repudiate the transaction, if the case shows, either that the agent has dishonestly concealed any
material fact from him, or that the dealings of the agent have been disadvantageous to him.
2) claim from the agent any benefit, which may have resulted to him from the transaction.
Therefore, based on the above provisions, Mr. Ahuja is entitled to recover ` 6 lakhs from Mr. Singh
being the amount of profit earned by Mr. Singh out of the transaction.
5. Comment on the following :
‘Principal is not always bound by the acts of a sub-agent ’.
Ans. The statement is correct. Normally, a sub-agent is not appointed, since it is a delegation of power by an
agent given to him by his principal. The governing principle is, a delegate cannot delegate’. (Latin
version of this principle is, “delegates non potest delegare”). However, there are certain circumstances
where an agent can appoint sub-agent.
In case of proper appointment of a sub-agent, by virtue of Section 192 of the Indian Contract Act, 1872
the principal is bound by and is held responsible for the acts of the sub-agent. Their relationship is
treated to be as if the sub-agent is appointed by the principal himself.
However, if a sub-agent is not properly appointed, the principal shall not be bound by the acts of the
sub-agent. Under the circumstances the agent appointing the subagent shall be bound by these acts
and he (the agent) shall be bound to the principal for the acts of the sub-agent.

47
CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

2 THE NEGOTIABLE INSTRUMENTS ACT, 1881

MEANING OF NEGOITABLE INSTRUMENT


The term negotiable instrument consists of two words - Negotiable and Instrument. ‘Negotiable’ means
transferable from one person to other person for consideration. ‘Instrument’ means a ‘written document,
giving legal right to claim money and sue responsible person. Thus, negotiable instrument means those written
document, which are transferable from one person to other person for consideration.
Sec. 13 : A Negotiable Instrument means -
- a promissory note,
- bill of exchange or
- cheque
- payable either to bearer or order.
A negotiable instrument may be made payable to - two or more payees jointly, or it may be made payable
to one of two, or one or some of several payees.
Characteristics of Negotiable Instruments
1. It must be in writing and it is considered as complete and effective when it is duly signed.
2. Freely Transferable
Negotiable instruments are freely transferable. There are two well-known mode of transfer
a) Merely by Delivery : If the instrument is payable to bearer (Here, Endorsement is optional)
b) Delivery and Endorsement : If the instrument is payable to order.
3. Better title to holder in due course even if title of transferor is defective.
For Example : Mr. X is the holder of a cheque payable to the bearer. His peon steals the cheque from his
pocket. In this case, the peon is not entitled to recover the amount on the instrument. However, if the
peon gives the same cheque to Mr. Y, who obtains the cheque in bonafide and for valuable consideration
and therefor he is a holder in due course, then Mr. Y can recover the amount of cheque from the drawer
of the cheque. This principle is exception of general rule that “no one can give a better title than he
himself has”.
4. It can be transfered any number of times before its maturity.
5. ‘Means’ Definition :
Although the definition u/s 13 is defined by using the word ‘means’, even then there may be certain other
negotiable instruments, which have acquired the character of negotiability by usage/custom, like share
warrants, treasury bills, bearer debentures, hundis, delivery orders, railway receipts for goods, bank draft
etc.
RULES OF PRESUMPTION (SEC. 118 & 119)
Unless the contrary is proved, the following presumption shall be applied :-
(a) Consideration : Every negotiable instrument is presumed to be made, drawn, accepted, endorsed,
negotiated or transferred for consideration.
(b) Date : The date, appearing on the instrument is presumed to be the date of making or
drawing of the instrument.
(c) Time of Every accepted bill of exchange is presumed to have been accepted within a
Acceptance : reasonable time after its date and before its maturity.

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CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

(d) Time of Every transfer of a negotiable instrument is presumed to have been made before its
Transfer : maturity.
(e) Order of The order in which the endorsements appearing upon a negotiable instrument is
Endorsements presumed to be the order of Negotiable Instruments.
(f) Stamps : In the case of a lost promissory note, bill of exchange, it is presumed that the
instrument was duly stamped.
(g) Holder in Holder of negotiable instrument is to be presumed as holder in due course.
Due Course
PROMISSORY NOTE (SEC. 4)
“A Promissory Note is an instrument in writing -
- (not being a bank-note or a currency-note)
- containing an unconditional undertaking
- signed by the maker,
- to pay a certain sum of money
- only to, or to the order of, a certain person, or to the bearer of the instrument.”
Two parties of Promissory Note - (i) maker ; (ii) payee

To, Tuesday, February 12, 2016


Ramesh
51 Rathi Nagar,
Amravati.
Three months after the date, I promise to pay to Ramesh or order a sum of Rupees one thousand
only, for value received.

1000/- Signed by
Mohan
Stamp 20 Rajapeth
Amravati.

Characteristics of Promissory Notes


1. Writing : The Instrument must be in writing. Mere verbal acknowledgement or oral promise is not
enough.
2. Bank Note or Currency Note cannot be promissory note for the purpose of this Act.
3. Promise to Pay : The instrument must contain an express promise to pay. Mere acknowledgement of
debt or implied promise is not sufficient. For Example :
The following instruments signed by Mr. X are not promissory notes :
a) “Mr. Y, I.O.U (I Owe You) ` 1,000.”
b) “I am bound to pay a sum of ` 1,000, which I received from you.”
However, the following is a valid promissory note
“We have received ` 10,000 from Mr. A. This amount will be repaid on demand.”
4. The promise to pay must be definite and unconditional : The following instruments are not promissory
notes :
a) “I promise to pay Y a sum of ` 1000, whenever I had money.”
b) “I promise to pay Y ` 1000, when he delivers the goods.”
Exceptions : However ‘promise to pay’ may be conditional in the following 2 cases :

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CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

i) If it is payable after the occurrence of an event, which is certain to happen according to ordinary
expectation of mankind.
For example :
a) X promises Y to pay ` 1000/- after the death of Z. It is a valid promissory note, as the death of
Z is an event, which is certain to happen.
b) X promises Y to pay ` 1000/- after the marriage of Mr. Z. It is not a valid promissory note, as
the marriage of Z is not a certain event.
c) I promise to pay Y ` 1000 after three months, with a proviso that no payment shall be made
after my death. It is not a valid promissory note.
ii) Conditions, to pay at a particular place or at a particular time may be validly attached.
5. It must be signed by the Maker : His signature is essential, even if it is written by the maker himself.
6. Certain Parties : The Instrument must clearly point out the parties of the instrument, i.e. who is the
maker and who is the payee ? Otherwise, it will have no legal effect. If name of payee is not mentioned
then it becomes invalid.
Notable Judgments
1. The payee may sometimes be misnamed or designated by description only. In such a case, the note
is valid, if the payee can be ascertained by evidence. -Willis v Barret, (1816)
2. A promissory note cannot be made payable to the maker himself. Such a note is a nullity. Thus, a
note which runs ‘I promise to pay myself ..............’ is not a promissory note and hence invalid.
But, if it is endorsed by the maker to some other person or indorsed in blank, it becomes a valid promissory
note. - Gay v Lander
7. The sum payable must be certain :
For Example : The following Instruments signed by X are not promissory notes :
a) “I promise to pay Y ` 1000 and all the other sums due to him.”
b) “I promise to pay Y ` 1000 and the fine according to the rules.”
Where amount is stated differently in figures and words (Sec. 18) : In this case, the instrument will
remain valid for the amount stated in words.
However, in the following case, the Instruments signed by X will be valid :
“I promise to pay Y ` 1000 after three months, together with interest @ 10% p.a.”
8. Promise to pay money only : If the Instrument contains a promise to pay something other than money
or something in addition to money, it cannot be a promissory note. For Example :
The following Instruments signed by X are not promissory notes :
a) “I promise to deliver Y my white car after 3 months.”
b) “I promise to pay Y ` 1000/- along with my white car after the period of 3 months.”
9. It may be payable on demand or after a definite period of time.
10. It cannot be payable to bearer (Sec. 31 of RBI Act 1934).
11. The instrument must bear the necessary stamp under the Indian Stamp Act, 1899.
Check Your Understanding
1. Are the following Instruments, signed by Mr. X, promissory notes ? -
a) ‘I promise to pay Y ` 15,000 on the death of Z, provided he leaves me sufficient amount to pay
the sum.’
b) ‘Received from Y the sum of ` 1,000 to be paid after 3 months with Internet at 10% p.a.’

50
CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

c) ‘I acknowledge myself to be indebted to Y in ` 15,000 to be paid on demand to Y on his attaining


the age of majority.’
d) ‘I promise to pay ` 400 and deliver to him my black horse on 1st July 2017.’
e) ‘Mr. B I.O.U ` 500.
f) ‘I promise to pay B ` 500 seven days after my marriage with C’
g) ‘I promise to pay X, a sum of ` 10,000 after deducting any any money which he may owe me.’
h) ‘I have received from Mr. A ` 10,000. I have to repay this amount.’
i) ‘I have received from Mr. A ` 10,000. I have to repay this amount on demand.’
j) ‘I promise to pay ` 7000 or ` 5000 to Mr. Ram.’
k) ‘I promise to pay to Mohan ` 500, if he secures 60% marks in the examination.’
l) ‘I promise to pay ` 3000 to Ravi after 15 days of the death of A.
[Answer : (a) No, (b) yes, (c) Yes, (d) No, (e) No, (f) No, (g) No, (h) No, (i) Yes, (j) No, (k) No, (l) Yes].
2. Mr. X promises by way of a promissory note to pay Mr. Y, his partner, a sum of ` 10,000 in the event
of the latter’s retirement from the partnership firm. Is it a valid Promissory Note ?
[Answer : No, as the promise is conditional and based on uncertain event]
BILL OF EXCHANGE (SEC. 5)
A Bill of Exchange is an instrument in writing -
- containing an unconditional order,
- signed by the maker (drawer),
- directing a certain person
- to pay a certain sum of money
- only to or to the order of a certain person or to the bearer of the instrument.
Generally 3 Parties - (i) Drawer (maker), (ii) Drawee (iii) Payee

To, Tuesday, February 12, 2016


Ramesh
51 Vimlesh Bhawan, New Rajapeth
Amravati.
Three months after the date, pay to me or my order a sum of Rupees one thousand only, for value
received.

1000/- Signed by
Mohan
Stamp Accepted by 20 Moti Nagar
Ramesh
Amravati.

Characteristics of Bill of Exchange


1. It must be in Writing.
2. There must be an ‘order to pay’.
For Example : The following instruments signed by Mr. X are not Bills of Exchange :
“Mr. Y, You are REQUESTED to pay ` 1000/- to Z.”
However, the followings are valid Bills of Exchange -
“Mr. Y will much OBLIGE me by paying ` 10000/- to me or my order on Demand.”
3. The order to pay must be definite and unconditional.
4. It must be signed by the drawer.
5. Certain Parties

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CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

6. Certain sum of money.


7. Order to pay money only.
8. It may be payable on demand or after a definite period of time.
9. It can be payable to bearer after a specified time, but cannot be payable to bearer on demand (Sec. 31
of RBI Act).
10. Others : Same as for Promissory note.
Important Points :
1. Promise or order must not be conditonal. A promise or order is not “conditional” if payment of amount or
any installment is payable on occurence of an event which is certain to happen in the ordinary expectation
of mankind although its time of happening is uncertain.
For example : Mr. Kabir has made a promissory note
‘I promise to pay total ` 30,000 as follows :
- ` 15,000 to Ravi after 15 days of the death of Anil;
- ` 15,000 to Suresh after 15 days of the death Ravi
2. Promise or order for certain sum may also includes rate of interest in case of default.
3. Certain person means that person shall also be included whose name was misnamed. Even if a person is
identified by his designation or address and who can be identified with such designation or address then
that person shall be considered as certain person.
For example : Mr. Kabir has made a promissory note
‘I promise to pay total ` 30,000 to the Manager of Roseneft Ltd”.
It is valid promissory note if Roseneft has only one manager.

Check Your Understanding


1. A bill is drawn, payable at 51 New Raja Mandi Agra, but does not contain the name of the drawee. B
who resides at 51 New Raja Mandi Agra, accepts the bill. Is it a valid bill ? Answer : [Yes]
2. A bill is drawn “Pay to A or order the sum of one thousand rupees.” In the margin the amount stated is
` 10,000. (a) Is this a valid bill ? (b) If so, for what amount ? Answer : (a) Yes, (b) ` 1,000 (Sec. 18)]

CHEQUE (SEC 6)
“A Cheque is a bill of exchange, which -
- is drawn on a specified banker, and is always payable on demand.
It includes -
- the electronic image of a truncated cheque, and
- a cheque in the electronic form.”
Thus, a bill of exchange will become a cheque, if only the two additional requirements are satisfied, i.e.
it must be drawn on specified banker and it must be payable on demand. Therefore, all cheques are bills of
exchange, but all bills of exchange are not cheques.
Explanat ions
1. A cheque in the It means a cheque,
Electronic Form : - drawn in electronic form by using any computer and
- signed with a digital signature (with or without biometric signature) and
assymetric crypto system or electronic signature, as the case may be.

52
CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

2. A Truncated It means a cheque, which is truncated during the course of a clearing cycle,
Cheque : either by the clearing house/by the collecting banker / by drawee banker,
immediately on generation of an electronic image for transmission. It substitutes
the further physical movement of the cheque in writing.

3. Clearing House : Clearing House means the clearing house, managed or recognised by the RBI.

4. Banker : Banker includes any person acting as banker and any post office saving bank.
I
/ SB Faderal Bank
e
ye
c Pa
A/ Date :....../....../.............

Pay or Bearer

a sum or Rupees

A/c. no. 5544332211

Faderal Bank Signature


07-Andheri (E)
121314 2456987 145087 47

Types of Crossing

General Special
ny
pa

Crossing Crossing
I
m

SB
Co
d
an

TYPES OF CHEQUES
1. Stale Cheques : If the payment of a cheque is not claimed within its validity period i.e. within 3 months
from the date of cheque, it becomes stale.
2. Uncrossed Cheques : The uncrossed cheque is known as open cheque. It is payable in cash by bank.
3. Crossed Cheques : Crossing of cheque is safety to prevent payment of cheque made to wrong person.
The payment of such cheque can be obtained only through a bank i.e. amount can be credited into the
bank account only. There are three modes for crossing :
a) General Crossing [Sec. 123] : In this case, two parallel transverse lines are drawn with or without
the following words and no name of any banker is written between the parallel and transverse lines:-
“And Company or & Co”
Effect : In the case of general crossing, the drawee banker will not make the payment on counter.
The payment can be collected only through a banker i.e. credited to bank account only. [Sec. 126]

53
CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

b) Special Crossing [Sec. 124] : In this case, two parallel transverse lines are drawn with or without
the following words and the name of a banker is also written between the parallel and transverse
lines :- “And Company or & Co”.
Effect : In this case, the drawee banker shall make the payment on the cheque to only that banker
whose name is specified between the transverse lines. [Sec. 126]
c) Restrictive Crossing : It is to be noted that such crossing is not recognized in our Negotiable
Instruments Act, 1881, but it is adopted by our banking practice. Examples of this crossing are:
i) Account Payee Only ii) Account Payee iii) Payee’s A/c
Efect: The legal position of this crossing is as under. In this case, the collecting banker should credit
amount to the account payee only.
DIFFERENCE BETWEEN BILL OF EXCHANGE & PROMISSORY NOTE
Head of Difference Promissory Note Bills of Exchange
1. Nature It contains a promise to pay. It contains an order to pay.

2. No. of Parties In a note, there are two parties - In a bill, there are three parties -
(i) Maker ; (ii) Payee (i) Drawer, (ii) Drawee, (iii) Payee

3. Maker v/s In this case, they cannot be same person. Here, drawer and payee may be same
Payee person.

4. Nature of The liability of maker is primary. Drawer’s liability is secondary & arises,
Liability if drawee fails to pay on maturity.

5. Acceptance Does not require acceptance. Requires acceptance by drawee.

DIFFERENCE BETWEEN BILL OF EXCHANGE AND CHEQUE


Head of Difference Bills of Exchange Cheque
. 1. Acceptance A bill must be accepted before holding No such acceptance is required in case
the drawee liable on the bill. of a cheque.
2. Drawee A bill of exchange may be drawn on any A cheque is always drawn on a banker.
person, including a banker.
3. Days of Grace Time bills are entitled to 3 days of grace. Such grace period is not allowed in the
case of a cheque.
4. Payable on A Bill may be time instrument or demand However, a cheque is always demand
Demand Instrument. instrument.
5. Crossing A bill cannot be crossed. A cheque may be crossed.
6. Stamping A bill must be stamped. A cheque does not require any stamp.
7. Stop Payment The payment of a bill cannot be The payment of a cheque may be
countermanded. countermanded by the drawer.

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CA - INTERMEDIATE - GR. I THE NEGOTIABLE INSTRUMENTS ACT, 1881

BANK DRAFT (SEC. 85A)


1. Introduction A draft is drawn either against cash deposit or against debit to the customer’s account.
The banker charges commission for issue of draft.
2. Definition A Bank Draft is a bill of exchange, drawn by one bank upon itself or another bank
for a certain sum of money payable to order on demand.
3. Crossing All rules regarding the crossed cheques are also applicable on bank draft.
[Sec. 131A].
4. Discharge of Where the draft is endorsed by or on the behalf of the payee, the paying bank is
Banker’s discharged from the liability by its payment in due course, even though the
liability endorsement of the payee has been forged.
PAYMENT IN DUE COURSE [SEC. 10]
Payment-in-Due-Course discharges negotiable instrument. As per Sec. 10, a payment shall be treated as
payment in due course, if the following conditions are satisfied :
1. The payment must be in accordance with the apparent tenor of the instrument. “Apparent
tenor” means payment according to what appears on the face of the instrument. Thus, a payment before
maturity is not a payment according to the apparent tenor of the instrument.
2. Payment must be made in Money. Money here includes cheques and currency notes.
3. Payment by Whom : The payment must be made by acceptor or maker.
4. Payment to Whom :
a) Payment to be made only to the lawful holder.
b) In case of bearer instrument, the possessor of instrument may be presumed to be a lawful holder.
c) However, in case of order instrument, payment to any person in actual possession is not payment in
due course. The person demanding payment must be indicated in the instrument as either payee or
last endorsee. For this purpose he must make sufficient enquiry
5. The payment should be made in good faith, without negligence and under bonafide
circumstances.
This means the payer should not have reasonable ground for believing that the person to whom the
payment is made is not entitled to receive the amount. If there is doubt then the person making the
payment must make enquiry and if he without making enquiry makes the payment then such payment
would be otherwise than payment in due course.

PARTIES OF A NEGOTIABLE INSTRUMENT

Bills of Exchange Promissory Note Cheque


1. Drawer 1. Maker 1. Drawer
2. Drawee / Acceptor 2. Payee 2. Drawee
3. Payee 3. Endorser 3. Payee
4. Endorser 4. Endorsee 4. Endorser
5. Endorsee 5. Holder 5. Endorsee
6. Drawee in case of Need 6. Holder in due 6. Holder
7. Acceptor for Honour course 7. Holder in
8. Payer for Honour due course
9. Holder
10. Holder in due Course

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1. Drawer : The person who draws a bill of exchange or a cheque or any other instrument.
2. Maker : The person who makes a promissory note.
3. Drawee The person on whom bill is drawn or a person who is directed to pay on the bill is known
as drawee. In case of a cheque, the drawee is always a banker.
4. Acceptor : The drawee when gives his assent to the bill becomes an ‘acceptor’. The acceptor
becomes liable only when he gives his assent.
4. Payee : Payee is the person -
- who is named in the instrument, and
- to whom or to whose order the money is to be paid.
5. Endorser : The person, who indorses the bill, note or cheque to another person.
6. Endorsee : The person to whom the bill, note or cheque is endorsed.
7. Drawee in Drawee in case of need is the person, -
Case of Need :- whose name is given in the bill or in any endorsement thereon in addition to the
drawee, and
- who is to be made liable in case of need, i.e. in case of dishonour of bill by non-
acceptance or non-payment by the drawee.
Thus, the liability of ‘drawee in case of need’ is secondary and conditional.
Further, as per Sec. 115, Where a ‘drawee in case of need’ is named to a bill or in any
indorsement thereon, the bill is not dishonoured, until it has been dishonoured by such
drawee in case of need.
8. Acceptor for Honour [Sec. 7 Para - 4] : When an acceptance is given by any person not liable on the
bill due to refusal of drawee to give acceptance then such person is called as acceptor for honour.
9. Payer for Honour and Payment for Honour [Sec. 7 Para - 4] :
Payer for honour is any person who pays the amount of negotiable instrument for any party liable for the
negotiable instrument when such intrument was dishonoured. Such payment is called as payment for
honour.
10. Holder [Sec. 8] :
a) Meaning : The “holder” of a negotiable instrument means any person -
i) who is entitled to possess the instrument in his own name, and
ii) who is entitled to receive the amount due thereon.

b) Example : Where a person obtains possession of an Instrument by theft or under a forged


indorsement, he is not a holder, as he cannot recover the payment of the instrument.

c) How to be If the Instrument is payable to order, the holder must be named therein as the payee
Holder ? or the endorsee. However, if the Instrument is payable to bearer, he must be the
bearer thereof.

d) If N.I. lost In case note, bill or cheque is lost or destroyed, its holder is the person so entitled at
or destroyed : the time of such loss or destruction.

11. Holder in due Course [Sec. 9] :


Every holder of negotiable instrument will be treated as ‘Holder in due course’, if he has obtained the
instrument -
i) for consideration,
ii) before maturity, and
iii) in Good faith, i.e. without sufficient cause to believe that any defect existed in the title of the person
from whom he derived his title.

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Privileges of a Holder In Due Course


1. Inchoate Stamped Instrument [Sec. 20] : Person who delivered blank instrument cannot deny the
liabiltiy to holder in due course on the ground that he did not intend to pay excess amount mentioned in the
bill.
Example : A signs as maker a blank stamped paper and gives it to B, and authorizes him to fill it as a note
for ` 500. B fraudulently fills it up as a note for ` 900, payable to C who is holder in due course. Suppose
a stamp of 50 paisa is required upto the value of ` 1000. In this case, Mr. C is entitled to recover ` 900/
- from A. If instrument was given as gift to Mr. D, here Mr.D is holder but not a hoder in due course, so
he cannot recover anything more than ` 500 which was intended to be paid.
2. Liability of Prior Parties [Sec. 36] : Every prior party is liable to a holder in due course, until the
instrument is duly satisfied, discharged or payment is made.
Example : A draws a bill on B and transfered it to C, C to D, D to E. Here E is holder in due course and
every prior party such as B, A, C and D is liable to him.
3. Fictitious Bill [Sec. 42] : If drawer of the bill is fictitious, the acceptor of fictitious bill cannot deny
payment to Holder in due course.
Example : X draws a bill on Y but signs it in the fictitious name of Z. The bill is payable to the order of
Z. The bill is duly accepted by Y. M obtains the bill from X thus becoming its holder in due course. Y
cannot avoid payment of the bill to M on the ground that Z is fictitious person.
4. Negotiable Instrument without Consideration [Sec. 43] : As per the Indian Contract Act, 1872 an
agreement without consideration is void. Therefore, when a negotiable instrument is made, drawn, accepted
or transferred without consideration, it creates no obligation of payment between the parties to the
transaction.
However, if the same negotiable Instrument comes into the hands of a holder in due course, he can
recover the amount on it from any of the prior parties thereto.
Example : A draws a bill on B and transfered it to C without consideration, C to D without consideration,
D to E for consideration and E to F without consideration. Here E is holder in due course and every prior
party such as B, A, C and D is liable to him. Here F can recover from A, B, C, D but not from E
(instrument cleansed of defect).
5. Conditional Delivery [Sec. 46] : Payment cannot be denied to holder in due course on the ground that
delivery was conditonal and such conditon does not exists.
Example : Mr. A, the holder of a bill, transfers it to B as payable to him or his order for the express
purpose that it shall be discounted. B endorses it to C, who takes it bona fide and for value. In this case,
Mr. C can hold both A and B liable for the payment of the bill.
6. Instrument cleansed of all defects [Sec. 53]
Once a negotiable instrument passes through the hands of a holder in due course, it gets cleansed of its
defects. In other words a holder who has got instrument from holder in due course, derives such instrument
in the smae manner as hoder in due course gets even if he does not give consideration for it or he knows
that the instrument was originally obtained by way of illegal means, provided that the holder should not
himself be a party to the fraud.

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Examples :
a) Mr. X obtains a bill by fraud from Mr. A. He negotiates the bill to Y, a holder in due course. In this
case Mr. Y can recover the amount from X as well as Mr. A.
b) In the above case, suppose Mr. Y endorses the bill to Z by way of gift. Z knows that originally the bill
was obtained by X by way of fraud. Then, Mr. Z shall also be entitled to recover the amount from X
as well as Mr. A since he only knows but he was not the party to the fraud.
c) In the above case, suppose Mr. Y endorses the bill to Z by way of gift and Z endorses the bill to X.
Then, Mr. X can not recover the amount from Mr. A, as Mr. X was a party to fraud.
7. Instrument obtained by Unlawful Means or for unlawful Consideration [Sec. 58] : The person
liable to pay on a negotiable instrument cannot, as against a holder in due course contend or object -
i) that he had lost it, or
ii) that it was obtained from him by unlawful means or for an unlawful consideration.

Exception to Privileges of Holder in Due Course :


1. Forgery.
2. Sans Recourse Endorsement.
DIFFERENCE BETWWEN HOLDER IN DUE COURSE AND HOLDER
Head Holder in due Course Holder
1. Consideration A holder in due course is one, who A person may become holder of a
acquires the instrument for consideration. negotiable instrument, even without
consideration.

2. Maturity A holder in due course must acquire the A person may become holder of a
instrument before the maturity. negotiable instrument, even after the
maturity.

3. Good faith A holder in due course must acquire the However, a person may become holder of
instrument in good faith. a negotiable instrument, even if he had the
knowledge the any defect in the title of
the instrument.

4. Better title A holder in due course gets a better title A holder can never get a better title than
than that of the transferor. that of the transferor.
5. Special Holder in due course enjoys a number of No such special privileges are available to
Privileges special privileges under the Act. Holder.

Check Your Understanding


1. A executed a promissory note in favour of B payable after three months. Without B’s demanding payment,
A paid the money due on the note to B before the due date, but left note in B’s hands. Subsequently B
endorsed the note to C for consideration. C had no knowledge of the payment made by A. C brings a suit
against A and B for recovery of money on his note. Will he succeed ?
[Answer : Yes, Sec. 10 and 58 ]

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2. B obtains A’s acceptance to a bill of exchange by fraud. B endorses it to C who is a holder in due course.
C endorses the Bill to D, who knows about the fraud. Decide whether D can recover the money from A.
[Answer : Yes ; Sec. 53]
3. X by inducing Y obtains a Bill of Exchange from him fraudulently in his (X) favour. Later, he enters into
a commercial deal and endorses the bill to Z towards consideration to him (Z) for the deal. Z takes the bill
as a Holder-in-due-course. Z subsequently endorses the bill to X for value, as consideration to X for
some other deal. On maturity the bill is dishonoured. X sues Y for the recovery of the money. With
reference to the provisions of the Negotiable Instruments Act, Decide whether X will succeed in the
case?
[Answer : X cannot succeed in the case (Sec. 53)]
4. H is a holder in due course of a bill of which A is the acceptor. D, the drawer of the bill, is fictitious. Can
A escape from his liability to H ?
[Answer : No, Sec. 42]
5. A draws on B a bill, payable 3 months after sight. It passes through several hands before X becomes its
holder in due course. On presentation by X, B refuses to accept the bill. What are the rights of X on the
bill.
[Answer : X can recover the amount from all prior parties, Sec. 36]
6. A draws a cheque for ` 5,000 and hands it over to B by way of gift. Decide whether B is holder in due
course or not ?
[Answer : B is a holder but not a holder in due course as he does not get the cheque for value and
consideration. His title is good and bonafide. As a holder he is entitled to receive ` 5000 from the bank on
whom the cheque is drawn.]
7. On a Bill of Exchange for ` 1 lakh, X’s acceptance to the Bill is forged. ‘A’ takes the Bill from his
customer for value and in good faith before the Bill becomes payable. State with reasons whether ‘A’
can be considered as a ‘Holder in due course’ and whether he (A) can receive the amount of the Bill
from ‘X’.
[Answer : According to section 9 of the Negotiable Instruments Act, 1881 ‘holder in due course’ means
any person who for consideration becomes the possessor of a promissory note, bill of exchange or
cheque if payable to bearer or the payee or endorsee thereof, if payable to order, before the amount in it
became payable and without having sufficient cause to believe that any defect existed in the title of the
person from whom he derived his title.
As ‘A’ in this case prima facie became a possessor of the bill for value and in good faith before the bill
became payable, he can be considered as a holder in due course. But where a signature on the negotiable
instrument is forged, it becomes a nullity. The holder of a forged instrument cannot enforce payment
thereon. In the event of the holder being able to obtain payment in spite of forgery, he cannot retain the
money. The true owner may sue on tort the person who had received. This principle is universal in
character, by reason where of even a holder in due course is not exempt from it. A holder in due course
is protected when there is defect in the title. But he derives no title when there is entire absence of title
as in the case of forgery. Hence ‘A’ cannot receive the amount on the bill.]

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8. Discuss with reasons, whether the following persons can be called as a ‘holder’ under the Negotiable
Instruments Act, 1881 :
i) X who obtains a cheque drawn by Y by way of gift.
ii) A, the payee of the cheque, who is prohibited by a court order from receiving the amount of the
cheque.
iii) M, who finds a cheque payable to bearer, on the road and retains it.
iv) B, the agent of C, is entrusted with an instrument without endorsement by C, who is the payee.
v) B, who steals a blank cheque of A and forges A’s signature.
[Answer : Person to be called as a holder: As per section 8 of the Negotiable Instruments Act, 1881
‘holder’ of a Negotiable Instrument means any person entitled in his own name to the possession of it and
to receive or recover the amount due thereon from the parties thereto.
On applying the above provision in the given cases -
i) Yes, X can be termed as a holder because he has a right to possession and to receive the amount due
in his own name.
ii) No, he is not a ‘holder’ because to be called as a ‘holder’ he must be entitled not only to the
possession of the instrument but also to receive the amount mentioned therein.
iii) No, M is not a holder of the Instrument though he is in possession of the cheque, so is not entitled to
the possession of it in his own name.
iv) No, B is not a holder. While the agent may receive payment of the amount mentioned in the cheque,
yet he cannot be called the holder thereof because he has no right to sue on the instrument in his own
name.
v) No, B is not a holder because he is in wrongful possession of the instrument.]

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CAPACITIES OF PARTIES OF NEGOTIABLE INSTRUMENT


BASIC PROVISION
As per Sec. 26 of Negotiable Instrument Act 1881, every person, who is competent to contract may bind
himself and be bound by the making, drawing, acceptance, endorsement, delivery and negotiation of a
promissory note, bill of exchange or cheque. According to Sec. 11 of the Indian Contract Act 1872, every
person is competent to contract, who -
i) is major,
ii) is of sound mind, and
iii) is not disqualified from contracting by any law to which he is to subject.

Minors [Sec. 26] :


1. A contract with minor, in which he is liable to pay, is void-ab-initio.
So, a minor cannot bind himself by becoming a party to a negotiable Instrument. But he may draw,
endorse, deliver and negotiate a negotiable instrument so as to bind other parties except himself.
2. The Instrument does not become void, merely because a minor is a party to it. The instrument remains
binding on all the other parties to it.
3. A bill, note or cheque can be drawn, made or accepted in favour of minor.
Example : A, B and C executed a promissory note in favour of P. Mr. C is a minor. In this case, the
whole contract will not become void and so, A and B will continue to be liable on the instrument.
Example : L draws bill on N, in favour of M a minor. M endorses it to P who inturn endorses it to Q. On
maturity N fails to pay. Here Q and P cannot held M laible but they may proceed against L.

Agents [Sec. 27] :


1. An agent, who signs a negotiable instrument for his principal, may bind his principal, if -
i) He signs in the principal’s name or states on the face of the instrument that he is signing as agent,
e.g. by using the words ‘for and on behalf of’ or ‘per pro’
ii) He acts within the scope of his authority.
2. A person capable of contracting may make, draw, accept, endorse, deliver and negotiate a bill, note or
cheque either himself or through a duly authorised agent.
3. A general authority to transact business and to receive and discharge debts does not confer upon an
agent the power of accepting or indorsing bills of exchange so as to bind his principal.
4. An authority to draw bills of exchange does not include the authority to endorse.
5. Liability of agent signing An agent who signs his name to a promissory note, bill of exchange or
cheque shall be personally liable in the following cases :
i) if he signs without indicating on the instrument that he is signing as agent, or
ii) without indicating that he will not be personally liable.
He shall not be liable if he was induced to sign upon the belief that the principal only would be held liable
(Sec 234 of Indian Contract Act). An agent can be sued by the holder for falsely representing that he had
authority.

Legal Representative [Sec. 29] :


1. The legal representative is entitled to all the instruments after the death of the holder.
2. A legal representative of a deceased person, who signs his name to a promissory note, bill or cheque is
personally liable thereon, unless he expressly limits his liability to the extent of the assets received by him.

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Check Your Understanding


1. Mr. A sells a car to M, a minor, who pays for it by cheque. A endorses the cheque to B, who take it
bonafide, and for consideration. The cheque is dishonoured. Can B enforce payment of the cheque
against A or M ?
[Answer : Against A only, but not against M]
2. X and Y jointly executes promissory note in favour of Z. X is minor and Y is major. Is promissory note a
valid instrument ?
[Answer : Yes, minor can make note but he shall not be liable on it. Only Y is liable.]
3. M draws a cheque in favour of N, a minor. N endorses it in the favour of P, who in turn endorses it in
favour of Q. The cheque is dishonoured by the bank. Examine the rights of P and Q.
[Answer : P has the right to recover the amount of the cheque from M only. Q can recover from both P
and M, Sec. 26]

CLASSIFICATION OF NEGOTIABLE INSTRUM ENTS


A. Bearer and Order Instruments
- Order Instruments (Explanation-1 of Sec. 13) :
1. Meaning : A negotiable Instrument is payable to order, when -
i) It is payable to the order of a specified person or e.g. ‘Pay to A’
ii) It is payable to a specified person or his order, or e.g. ‘Pay to A or
order’
iii) It is payable to a specified person without the addition of the words “or
his order” and does not contain the words prohibiting transfer, e.g. ‘Pay
to A only’.

2. How to An order instrument can be negotiated from one person to other person by
negotiate ? : endorsement and delivery.

- Bearer Instruments (Explanation-2 of Sec. 13) :


1. Meaning : A negotiable instrument is payable to bearer, when -
i) it is expressed to be payable to bearer, e.g. “Pay to A or bearer, or
ii) the instrument was payable in order originally but on which last
indorsement on the instrument is an ‘indorsement in blank’.

2. How to Bearer instrument can be negotiated from one person to other person merely
negotiate ? : by delivery. In other words it does not require endoresement.

3. Who is entitled : Only lawful holder of a bearer instrument can enforce payment due on it.
for payment ? The person, making the payment on the bearer instrument, may require the
receiver to acknowledge receipt of money on the instrument by signing
on it.

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B. Inland Instrument & Foreign Instruments


Head Inland Instrument Foreign Instrument
1. Section Sec. 11 deals with Inland Instrument. Sec. 12 deals with Foreign Instrument.
2. Meaning : A promissory note, bill of exchange or Any negotiable instrument, which is not
cheque is known as Inland Instrument, if inland instrument, is known as foreign
it satisfies any of the following 2 instrument. E.g.
conditions: i) bill drawn outside India but payable
i) It is drawn or made in India and made outside India or drawn on NRI.
payable in India, or ii) bill drawn in India, payable outside
ii) It is drawn in India and is drawn upon India or drawn upon NRI.
any person resident in India. iii) bill drawn outside India payble in USA.

Examples :
1. A bill drawn in Amravati and payable in Mumbai, is an Inland bill.
2. A bill is drawn in Delhi on Kabir who has been living in India and is payable in USA, is an Inland bill.
3. A bill drawn in Wales and payable in Texas but it was endorsed in India, is an foreign bill.

C. Ambiguous Instrument & Inchoate Instruments


- Ambiguous Instrument [Sec. 17] :
Ambiguous Instrument means an instrument, which can be construed either as a promissory note or
bill of exchange. This may be a case, where -
- the drawer and drawee are the same person; such as where a bill is drawn by a person on
himself in favour of a third person;
- where an instrument is made in such manner that is not clear whether it is bill or note;
- the drawee is a fictious person or incapable person to contract etc.
Effect : In such a situation, its holder has to decide whether he treats it as a bill or note. Once he
decides so, the instrument shall be thenceforward treated accordingly.
Example :
a) X draws a bill on Y, a fictious person. Holder may treat the bill as a note.
b) X is an agent of Y. Acting within his authority, he (i.e. X) draws a bill upon Y. The holder may
treat it either a bill or a note.

- Inchoate Instrument [Sec. 20] :


1. Meaning : An inchoate instrument is an incomplete instrument in some respect. As per
Sec. 20, if -
- a person signs and delivers to another person an instrument with stamp
- and that stamped instrument is either wholly blank or an incomplete
negotiable instrument is written thereon,
THEN he gives authority to the holder to make or complete a negotiable
instrument, for any amount specified but not exceeding the amount covered
by the stamp.

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2. Legal Effects : The person so signing shall be liable upon such instrument to ‘holder in due
course’ for amount specified in the instrument. However, if the holder is not
a holder in due course, then he cannot recover anything in excess of the
amount intended by him to be paid thereunder by the person who signed
and delivered the instrument.
Example : A signs as maker a blank stamped paper and gives it to B, and
authorizes him to fill it as a note for ` 500. B fraudulently fills it up as a
note for ` 900, payable to C who is holder in due course. Suppose a
stamp of 50 paisa is required upto the value of ` 1000. In this case, Mr. C
is entitled to recover ` 900/- from A. If instrument was given as gift to
Mr. D, here Mr.D is holder but not a hoder in due course, so he cannot
recover anything more than 500 which was intended to be paid.
Check Your Understanding
1. ‘A’ signs, as maker, a blank stamped paper and gives it to ‘B’, and authories him to fill it as a note for `
500. ‘B’ fraudulently fills it up as a note for ` 2,000, payable to ‘C’, who has obtained the instrument in
good faith for value. Decide, with reasons, whether ‘C’ is entitled to recover the amount and if so, up to
what extent ?
[Answer : C is entitled to recover ` 2,000]
2. A signs, as acceptor, a bill bearing an 80 P. stamp with the amount left blank. The amount of ` 100 in the
margin is fraudulently altered to ` 1,000, and the bill is, in words, filled in for a thousand rupees. The bill
gets into the hands of H, a holder in due course. Can he recover this amount ? Assume, a stamp is 80 P.
is sufficient upto ` 1,000.
[Answer : Yes, Sec. 20]
3. A signs his name on a blank, but stamped instrument. He gives the paper to B with authority to fill it up
as a promissory note for ` 250 only. B fraudulently fills paper for ` 1000. The stamp put upon it being
sufficient to cover the amount. He then hands it to H for ` 1,000 who takes it without notice of fraud.
(a) Is A is bound to pay ` 1,000 to H ?
[Answer : Yes, Sec. 20]
D. Fictitious Bills [Sec. 42]
1. Meaning Fictitious bill means a bill in which any party mentioned in the bill is either not in
existence or is not intended to be the party to the instrument.
2. Privilage of As per Sec. 42, Where the drawer of a Bill is fictitious and the bill is payable to
Holder in the drawer’s order, then the acceptor is liable to a Holder in Due Course, if the
Due Course holder in due course can show that the signature of the supposed drawer and
in case of that of the first endorser are in the same handwriting.
Drawee is If holder knows the fact that the drawer / payee is a fictitious person, he cannot
fictitious claim the money.
3. If only Payee Where only payee of an instrument is a fictitious, the instrument is treated as
is fictitious payable to bearer.
4. If only drawee That instrument is treated as ambiguous instrument.
is fictitious

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Check Your Understanding


1. X draws a bill on Y but signs it in the fictitious name of Z. The bill is payable to the order of Z. The bill
is duly accepted by Y. M obtains the bill from X thus becoming its holder in due course. Can Y avoid
payment of the bill? Decide in the light of the provisions of the Negotiable Instruments Act, 1881.
[Answer : In case a bill of exchange is drawn payable to the drawer’s order in a fictitious name and is
endorsed by the same hand as the drawer’s signature, it is not permissible for the acceptor to deny the
liability to the holder in due course that such name is fictitious. Accordingly, in the instant case, Y cannot
avoid payment by raising the plea that the drawer (Z) is fictitious. The only condition is that the signature
of Z as drawer and as endorser must be in the same handwriting.]
2. The drawer, ‘D’ is induced by ‘A’ to draw a cheque in favour of P, who is an existing person. ‘A’ instead
of sending the cheque to ‘P’, forgoes his name and pays the cheque into his own bank. Whether ‘D’ can
recover the amount of the cheque from ‘A’s banker. Decide.
[Answer : As per Sec 42 of the Negotiable Instrument Act, 1881, an acceptor of a bill of exchange
drawn in a fictitious name and payable to the drawer’s order is not relieved from liability to any holder in
due cause, by reason that such name is fictitious. Provided that endorsement should have been doen by
the same hand as the drawer’s signature, and purporting to be made by the drawer. In this problem, P is
not a fictitious payee and D, the drawer can recover the amount of the cheque from A’s bankers.]

E. Escrow [Sec. 46]


Sometimes, the instrument is delivered conditionally or for a special purpose and not for the purpose of
transferring the property in the instrument. The special purpose may be ‘to provide as a collateral security’ or
‘for safe custody only’.
In such a case, the property in the instrument does not pass on to the transferee, until the condition is
fulfilled and the transferee holds such instrument in law as the trustee or agent of the transferor.
However, if an instrument is conditionally delivered to a person, who transferred the instrument to a
holder in due course without fulfilling the condition, then holder in due course can recover the amount from
any prior party.
For Example : Mr. A, the holder of a bill, transfers it to B as payable to him or his order for the express
purpose that it shall be discounted. B endorses it to C, who takes it bona fide and for value. In this case,
Mr. C can hold both A and B liable for the payment of the bill.

F. Demand Instrument and Time Instruments


- Demand Instrument (immediately payable):
- Cheque : A cheque is always payable on demand (Sec. 6).
- Bill & Note : A note or bill is payable on demand, -
a) when no time for payment is specified in it (Sec. 19) ; or
b) when it is expressed to be payable ‘on demand’, or ‘at sight’ or ‘on
presentment’
Demand instrument may be presented for payment at any time at the option of holder but it must be
presented within a reasonable time after its issue or endorsement in order to hold the drawer and the
endorser liable respectively.

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- Time Instrument : A bill or note is known as a time instrument, if it is payable -


a) after a fixed period, or
b) after sight, or
c) on a specified day, or
d) on the happening of an event which is certain to happen.
The expression ‘after sight’ in a promissory note means after presentment for sight. This means that
payment cannot be demanded on a note till it has been shown to the maker. The expression ‘after
sight’ in a bill of exchange means after acceptance, or noting for non-acceptance, or protest for non-
acceptance (Sec. 21).
MATURITY
- What is Maturity ?
Maturity is the date, on which the instrument becomes due. For the purpose of calculation of maturity, all
the instruments can be divided into two categories :
1. Time Instruments,
2. Demand Instruments.
In case of demand instruments, payment is to be made when demanded. Therefore, maturity is required
to be calculated only in case of time instruments that is note or bill is payable at fixed period after the
date.
- How to Calculate Maturity [Sec. 22 to 25] :
1. As per Sec. 22, every instrument payable otherwise than ‘on demand’ is entitled to three days of grace.
Instruments, which do not entitled Instruments, which are entitled
to 3 days of Grace to 3 days of Grace
1. A Cheque 1. A bill or note, payable after a specified period,
2. A bill or note, in which no time is mentioned, 2. A bill or note, payable after sight,
3. A bill or note, payable at sight, on 3. A bill or note, payable on a specified day
presentment or on demand. 4. A bill or note, payable at certain period after
happening of an event, which is certain to
happen.

2. If an instrument is made payable at stated number of months after date or sight or after a certain event,
It becomes payable 3 days after the corresponding* date of month after the stated number of months.
3. If the months, in which the period would terminate, has no corresponding day, the period is held to
terminate on the last day of such month.
4. In the following cases, the day on which the instrument is drawn, or presented for acceptance or sight, or
the day on which the event happens, is to be excluded.

Date of Instrument Terms Due Date

(a) 29 Jan. 2017 Payable 1 month after date 3 Mar. 2017


(b) 30 Aug. 2016 Payable 3 months after date 3 Dec. 2016
(c) 31 Aug. 2016 Payable 3 months after date 3 Dec. 2016

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5. When the day on which the instrument falls due is a public holiday, the instrument is deemed to be due on
the preceding business day (Sec 25).
‘Public holiday’ includes - (i) Sunday, (ii) Any other day notified by CG in this regard.
6. When the day on which the instrument falls due is an emergency holiday, the instrument is deemed to be
due on the succeeding business day.

CALCULATION OF DAYS OF MATURITY


Case Date of maturity
Negotiable instrument payable on a Specified day + 3rd day
specified day
Negotiable instrument payable on a stated Date on whih negotiable instrument is drawn + stated
number of days after date number of days + 3rd day
Negotiable instrument payable on stated Date on which negotiable instrument is presented for sight
number of days after sight + stated number of days + 3rd day
Negotiable instrument payable on stated Date on which such event happens + stated number of
number of days after happening of a days + 3rd day
certain event
Negotiable instrument payable on stated Corresponding day of the relevant month* (i.e., Date on
number of months after date which negotiable instrument is drawn + stated number of
months) + 3rd day
Negotiable instrument payable on stated Corresponding day of the relevant month* (i.e., Date on
number of months after sight which negotiable instrument is presented for sight + stated
number of months) + 3rd day
Negotiable instrument payable on stated Corresponding day of the relevant month* (i.e., Date on
number of months after happening of a which such event happens + stated number of months) +
certain event 3rd day
If the day of maturity of negotiable Immediately preceding business day
instrument is a public holiday
If the day of maturity of negotiable Immediately succeeding business day
instrument is an emergency or unforeseen
public holiday
Bill is payable on stated number of days Corresponding day of the relevant month* (i.e., Date on
after sight and accepted for honour which negotiable instrument is accepted + stated number
of months) + 3rd day

Check Your Understanding


1. Bharat executed a promissory note in favour of Bhushan for ` 5,000. The note was payable three day
after sight. Bhushan presented the note for sight on 29th December 2016. Bharat made the payment on
4th January 2017. Decide whether Bharat is liable to pay interest?
[Answer : Due date for payment is 4th January. No need to pay interest since it is paid on due date.]

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NEGOTIATION

NEGOTIATION (SEC. 14)


“When -
- a promissory note, bill of exchange or cheque
- is transferred to any person,
- so as to make the person holder thereof,
the instrument is said to be negotiated.”
- Essential elements of Negotiation :
a) The instrument must be transferred from one person to other person.
b) Intention of transfer must be to make the transferee the holder of the instrument. Thus, if A hands over
a Bill of exchange to B merely for safe custody, the bill is not negotiated to B because there is not
intention to make him holder.

Delivery [Sec. 46]


We have already seen above that whether instrument is payable to bearer or order, delivery is an essential
element of negotiation. Without delivery, there can be no negotiation.
- Points to be noted :
1. An instrument payable to bearer is negotiated by the delivery itself.
2. The delivery must be voluntary.
3. Until the instrument is delivered, the contract on a negotiable instrument is not completed.
4. The object of delivey should be to pass the property in the instrument to the transferee.
For Example : Mr. A executes a promissory note in favour of Mr. B for consideration. Before Mr. A
could deliver the instrument, he dies. Mr. B finds the instruments among the papers of A. Mr. B cannot
recover the amount upon that note. Since instrument was not delivered at all to B.

Types of Delivery
1. Actual Actual delivery takes place, when the Instrument changes hands physically.
Delivery : Example : when Mr. X delivers a bearer cheque to Mr. B, there will be actual delivery.

2. Constructive In this case, the instrument does not changes hands physically. This may happen in the
Delivery following cases :
a) If the transferor is in the possession of the instrument and he agrees to hold it
on the behalf of transferee.
b) If the transferee is in the possession of the instrument on the behalf of transferor
and the transferor negotiates the instrument in favour of transferee.
c) If a third person is in the possession of the instrument and he agrees to hold it
on the behalf of transferee.
Example : A, the holder of a negotiable instrument he has kept it with his banker.
Banker of A is the banker of B also, A directs the banker to transfer the instrument to
B’s credit in the banker’s account of B. The banker does so, and accordingly now
possesses the instrument as B’s agent. The instrument has been negotiated, and B has
become the holder of it.

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3. Conditional An instrument may be delivered conditionally or only for special purpose, and not for the
(Escrow) purpose of transferring absolutely the property in the instrument. A bill delivered
Delivery conditionally is called ‘escrow’. Although a conditional delivery is valid the condition
attaches exclusively to the delivery and not to the making or drawing of an instrument.
A bill must be drawn and a note must be made unconditionally. When an instrument is
delivered conditional or for special purpose the property in the instrument does not pass
on to the transfree until the condition is fulfilled and the transfree holds such instrument
in law as trustee or agent of the transferor.
Example : A, took loan from B, and made note in favour of B and delivered with
condition that note should not be transferred to any person and must be used in case loan
is not repaid by him.Note was given as securtiy for repayment of loan. Here B cannot
transfer it any person. HDC may recover amount from A if B negotiates it to HDC.
ENDORSEMENT (SEC. 15)
“When the drawer / holder of the instrument puts signature on the face or back of the negotiable instrument
or on a slip of paper (called allonge) annexed thereto, for the purpose of negotiation, it is called endorsement
and the person signing the instrument is known as endorser.”
Example : X, who is the holder of a negotiable instrument writes on the back thereof : “pay to Y or order”
and signs the instrument. In such a case, X is deemed to have endorsed the instrument to Y. If X delivers the
instrument to Y, X ceases to be the holder and Y becomes the holder
- Essentials for valid endorsement :
1. When endorsement is required ? An instrument payable to order is negotiated by way of endorsement
and delivery of instrument.
2. Who can endorse? Holder of instrument can endorse.
3. How to endorse? By putting signature on instrument.
4. Where to put Signature? On the face or back of the negotiable instrument or on a slip of paper
(called allonge) annexed thereto,
5. Purpose of endorsement? Negotiation
6. It must be completed by the delivery of the instrument.
7. It must be in writing.
8. It must be singed.
Who may endorse ?
The first endorsement can be made by the payee. Subsequent, endorsements may be made by any
person, who becomes the holder of the instrument.
Thus, if a bill is drawn payable to the drawer’s order, the first signature of the drawer as a drawer is not
an endorsement, but if he signs the bill second time for the purpose of negotiating it, the second signature
would be an endorsement.
As per Sec. 51, the following persons can endorse the instrument :
1. Every maker, drawer, payee, or endorsee, or
2. All of several joint makers, drawers, payees or endorsees.
Note : A maker or drawer may endorse an instrument only if he is lawful holder thereof. In other words if a
person who steals or endorses or finds a lost instrument, cannot endorse or negotiate, as he is not a holder.

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Kinds of Endorsement :
1. Blank or General Endorsement [Sec. 16(1)] : In this case, the endorser signs on the face or back of
the instrument. The name of endorsee is not specified. As no name of endorsee is specified, the instrument
becomes payable to bearer.
For Example : Rajendra Arora (sign)
2. Full or Special Endorsement [Sec. 16(1) : In this case, the endorser signs as well as specifies the
name of endorsee.
For Example : Pay to Anil or order
Rajendra Arora (sign)
- Conversion of ‘Endorsement in Blank’ into ‘Indorsement in Full’ [Sec. 49] :
If an instrument is endorsed in blank, the holder may, without signing his own name by writing above
the endorser’s signature, direct to pay to any other person. Thus, he can convert the endorsement in
blank into an endorsement in full. In such situation, the holder does not incur the responsibility of an
endorser since his name appears nowhere.
For Example : A is the holder of a bill, endorsed by B in blank. A writes over B’s signature the
words ‘pay to C or older’. A is not liable as an endorser, but the writing operates as an indorsement
in full from B to C.
- Conversion of Endorsement in Full into an ‘Endorsement in Blank’ [Sec. 55] :
If a negotiable instrument is endorsed in full, thereafter it can be endorsed in blank by the subsequent
endorser just by signing his name and without naming the transferree.
For Example : A, the holder of a note payable to order, endorses it in blank to B just by signing his name.
3. Restrictive Endorsement [Sec. 50] : In this case, the endorser restricts the further negotiability of the
instrument. It merely entitles the endorsee to receive the amount on the instrument.
For Example :

Which endorsements restrict further Which endorsements do not restrict


Negotiability? further Negotiability?
B signs the following endorsements on different B signs the following endorsements on different
negotiable instruments payable to bearer, - negotiable instruments payable to bearer,-
a) ‘Pay the contents to C only’ a) ‘Pay to C’
b) ‘Pay C for my use’ b) ‘Pay C value in account with the Oriental Bank’
c) ‘pay C on order for the account to B’ c) ‘Pay the contents to C, bring part of the
d) ‘The within must be credited to C’ consideration in a certain deed of assignment
executed by C to endorser and others’

4. Conditional or Qualified Endorsement : An endorsement may be conditional or qualified in one of


the following ways :
a) ‘Sans Recourse’ Endorsement [Sec. 52] : In this case, the endorser is relieved from the
liabilities to all the subsequent endorses. So, if subsequently, the instrument is dishonoured, the
endorsee or subsequent holder cannot be held liable to such endorser for payment of the same.
The examples of such endorsement are as follows:
a) ‘Pay A or order without recourse to me’

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b) ‘Pay A or order sans recourse’


c) ‘Pay A or order at his own risk’
If an endorser who had endoresed the bill earlier as sans recourse again becomes holder of instrument
then he can recover the amount from all the parties. (This is exception of negotiation back. See
negotiation back)
b) Liability Dependent upon a Contingency : An endorser may endorse the instrument
in such a way that his liability depends upon the event, which may or may not happen.
Thus a holder may endorse a bill in the following way :
a) ‘Pay A or order on arrival of the ship VICTORY at Bombay’
b) ‘Pay A or order on the death of Mr. C’
c) Facultative Endorsement : In this case, the endorser, abandons / waives some rights. Thus a
holder may make facultative endorsement of a bill in the following way:
‘Pay A or order, notice of dishonour waived’
d) ‘Sans Frais’ Endorsement : ‘Sans Frais’ means ‘Without Expenses’. In this case, the endorser
will not be liable for any expenses, incurred by holder such as expenses of dishonour - noting etc.
Negotiation Back
When an endorser, after he has negotiated an instrument, again becomes its holder before its maturity,
the instrument is said to be negotiated back to that holder.
Example : A, the holder of a bill, endorses it to B. Mr. B endorses it to C, C to D, D to E and E endorses
it again to B.
In this case, the bill is again negotiated to Mr. B, who has been a prior endorser. Therefore, all the parties
subsequent to B, i.e. C, D, E, will be discharged but parties prior to B are liable to B and B can recover from
parties prior to him. So, in case of dishonour, Mr. B cannot take any action for the recovery of the bill amount,
from C, D and E because it would only lead to circuity of action, but he can claim from A.
However, in the case of ‘sans recourse’ endorsement, the position will be totally different.
Example : A, the holder of a bill, endorses it to B. Mr. B endorses it ‘sans recourse’ to C, C to D, D to E and
E endorses it again to B.
In the case, if the bill is dishonoured, Mr. B can recover the amount of the bill from A, C, D and E, but none
of them can recover from Mr. B.
Check Your Understanding
1. A owes to B ` 500 for which he makes a promissory note payable to B. He cuts the note into two halves
for safe transmission and sends one half by post to B. Afterwards before he sends the other half to B, he
changes his mind and asks B to return to him the part already sent to him. B, however, asks for the other
half of the promissory note. Decide the case.
[Answer : Delivery is not complete in this case. A can ask for the return of the part]
2. M drew a cheque amounting to ` 2 lakh payable to N and subsequently delivered to him. After receipt of
cheque N endorsed the same to C but kept it in his safe locker. After sometime, N died, and C found the
cheque in N’s safe locker. Does this amount to Indorsement under the Negotiable Instruments Act,
1881?
[Answer : No, C does not become the holder of the cheque as the negotiation was not completed
by delivery of the cheque to him. (Sec. 48, the Negotiable Instruments Act, 1881)]

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LIABILITIES OF PARTIES
1. Liability of Drawer [Sec. 30] : His liability is conditional that, he is liable upon the instrument,
if all the following conditions are satisfied :
i) The instrument is dishonoured.
ii) Due notice of dishonour has been given to him.
2. Liability of Drawee of Cheque [Sec. 31] : When the drawee banker of a cheque have sufficient funds
of the drawer and the fund can be applied to the payment of cheque, then he must pay the cheque, which
is duly presented before him.
In case of default, the drawee banker must compensate the drawer for any loss or damage caused by
such default. The compensation of loss is to be measured by considering the loss of credit etc. The
principle is “the lesser the value of the cheque dishonoured, the greater the damage to the credit of the
drawer”. If drawer has instruction and based on such instruction bank refused to honour cheque then
drawer cannot recover loss from bank.
Note : In the following cases bank can lawfully refused to honour the cheque without incurring liability
to compensate :
i) Cheque becomes stale.
ii) Cheque undated or post dated.
iii) Insufficient funds in the account of customer.
iv) Counter-manding / stop payment instruction of customer.
v) Material alterations like irregular signature, difference of amount in words & figure or incompleteness.
3. Liability of Maker of Note and Acceptor of Bill [Sec. 32] : The maker of a note is liable to pay
amount at maturity according to the apparent tenor of the note. In default he is liable to compensate to
loss sustained by the holder due to such default.
The drawee of the bill is liable only when he gives the acceptance to the bill. And if he makes default then
he is liable to compensate loss caused to any party to the bill.
4. Liability of Endorser [Sec. 35] : The liability of endoreser is same that of drawer. Endorser on
endorsement takes a responsiblity that instrument will be paid and that if it is dishonoured by the drawee,
acceptor or maker he will compensate the holder or subsequent endorser provided a notice of dishonour
must be sent to the endorser. But endorser can exclude his liabilities by writing ‘sans recourse’.
5. Liability of Prior Parties to Holder in due course [Sec. 36]. All the prior parties such as maker,
drawer, acceptor and all endorser are liable to holder in due course until instrument is satisfied.
6. Maker, drawer of cheque and acceptor are Primarily Liable [Sec. 37] : The following persons
shall be primarily liable :
- In case of Note : Maker
- In case of Cheque : Drawer
- In case of Bill of Exchange : Drawer, until the bill is accepted. If the bill is accepted, the acceptor
will be primarily liable.
The other parties to the Instrument are liable thereon as sureties for maker, drawer or acceptor, as the
case may be.

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7. Prior Party a Principal Debtor in Respect of Each Subsequent Party [Sec. 38] : In the absence of
a contract to the contrary, As between the parties liable as sureties, each prior party is a principal debtor
in respect of each subsequent party.
Example : P draws a bill on B who accepts it. P afterwards endorses the bill to Q. Q to R and R to S.
As between S and B, B is the principal debtor and P, Q and R are his sureties. As between S and P, P is
the principal debtor and Q and R are his sureties. As between S and Q, Q is the principal debtor and R is
his surety.
8. Discharge of Endorser’s Liability (or Cancellation of Endorsement) [Sec. 40] : When the holder,
without the consent of the endorser, destroys endorser’s remedy against a prior party, the endorser is
discharged from liability to the holder to the same extent as if the Instrument had been paid at maturity.
Example : A is the holder of a bill made payable to the order of B, which contains the following
endorsements in blank -
First endorsement, “B”
Second endorsement, “C”
Third endorsement, “D”
Fourth endorsement “E”
A puts in suit against E and strikes out, without E’s consent, the endorsements by C and D. A is not
entitled to reover anything from E.
9. Acceptor’s Liability on a Forged Indorsement [Sec. 41] : A bill may be accepted before or after
endorsement by the payee. An acceptor of a bill of exchange already endorsed is not relieved from
liability by reason that such endorsement is forged, if he knows or had reason to believe the endorsement
to be forged when he accepted the bill.That acceptor has to pay to real owner also even if he has paid to
holder.
10. Acceptor’s Liability in case of Fictitious Bill [Sec. 42] : If drawer is a fictitious name then the
acceptor of such bill is not relieved from liability just because of drawer is fictitious. For e.g. A uses a
fictious name B as drawer and draws a bill on C and C gives acceptance to it. A then endorses the bill to
D by the name of B along with the sign of B by the same hand then C cannot deny the payment to D on
maturity.

INSTRUMENT OBTAINED BY UNLAWFUL MEANS (SEC. 58)


When a negotiable instrument has been lost, or has been obtained from any maker, acceptor by way of
fraud, or for an unlawful consideration, then possessor or endorsee is not entitle to receive amount if he has
obtained instrument from person who committed fraud. But is such possessor or endorsee is holder in due
course then he can obtained amount due in the instrument.
Forged Instrument :
An instrument is called forged, if it is signed by any person other than the lawful person, who is named in
the instrument. Holder in due course has no privilege in case of forged instrument.
For example : A bill was payable to Mr. Ram Lal. It wrongfully comes into the hands of another Ram Lal.
He puts his own signature and negotiates the bill. The bill will be treated as forged instrument. It is worthwhile
to note that the forged signature cannot confer any title to any person, including the holder in due course.

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In other words if the signature on a negotiable instrument has been forged, it becomes nulity and the
property in the instrument remains vested in the person who was the holder/true owner at the time when the
forged signature was put on it.
The holder of forged instrument can neither legally enforce the payment nor can give a valid discharge.
Even if holder receives the payment he cannot retain that money and true owner can recover from him. Even
the holder in due course cannot enforce the forged instrument.
There is a difference between -
- Defect of Title, in which case, a holder in due course gets better title, and
- Absence of Title (which is in case of forgery as property or title is not transferred) , in which case, a
holder in due course gets no title.
Thus, if a person, by mistake, pays money on a forged signature, he may recover it from the person to
whom he has paid it. [Sec. 72 of Indian contract Act 1872]
For Example :
a) A bill is endorsed as ‘Pay to C or order.’ Mr. C must endorse the bill and if his signature is forged, the bill
is worthless.
b) A bill was payable to Mr. Ram Lal. It wrongfully comes into the hands of another Ram Lal. He puts his
own signature and negotiates the bill to Mr. Mohan, who is a holder in due course. Mr. Mohan gets no
title on the instrument.
Stolen Instruments :
A thief gets no title : If an instrument is obtained from any maker, acceptor or holder by means of an
offence or fraud, the possessor is not enitiled to receive the amount from such maker, acceptor or holder or
from any pary prior to such holder. If R steals a bill from acceptor, R does not acquire any title to the
instrument and if he has collected the amount then he is liable to return the amount to the true owner.

Check Your Understanding


1. On a Bill of Exchange for ` 10,000, X’s acceptance on the Bill is forged. A takes the Bill from his
customer for value and in good faith before the Bill becomes payable.
State with reasons whether A can be considered as ‘Holder in due course’ and whether he can recover
amount of the Bill from X.
[Answer : A is a Holder in due course, but he cannot recover the amount from X due to forgery]
2. A drew a cheque payable to B or order. A’s clerk forged B’s endorsement and negotiated the cheque to
C, who took them in good faith and for value. C received payment of the cheque. A claims to recover the
amount from C. Will he succeed ?
[Answer : Yes]

Instrument obtained for an Unlawful Consideration :


A negotiable instrument obtained from any maker, acceptor or holder for a consideration which is illegal,
or opposed to public policy, or immoral or specially prohibited by any law is void and creates no obligations
among the parties therefore no possessor is entitled to receive the amount due thereon from such maker,
acceptor or holder or from any party prior to such holder.
However, if such instrument comes into the hands of holder in due course, he can enforce the payment
on such instrument.

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1. Total Absence or Failure of Consideration [Sec. 43] :


a) A negotiable instrument negotiated without consideration, or for a consideration which fails then it
creates no obligation of payment between the immediate parties to the transaction.
Example : A, the holder of a bill, transfers it to B, without consideration, B transfers it to C without
consideration. C transfers it to D for consideration. D transfers it to E without consideration.
In this case, the immediate parties are : A and B, B and C, C and D, D and E. B, C, and E cannot
recover the amount from their immediate prior parties, i.e. A, B, and D respectively.
b) But if any such party has transferred the instrument to a holder in due course, and every subsequent
holder deriving instrument form him with or without consideration, may recover the amount due on
such instrument from the transferor or any prior party.
Example : A, the holder of a bill, transfers it to B, without consideration, B transfers it to C without
consideration. C transfers it to D for consideration. D transfers it to E without consideration.
In this case, the immediate parties are : A and B, B and C, C and D, D and E. B, C, and E cannot
recover the amount from their immediate prior parties, i.e. A, B, and D respectively.
In the above example, Mr. D and E can recover the amount of bill from A, B and C.
c) If an accommodation negotiable instrument has been made for a party and it has paid the amount
then it cannot recover such amount from any person who became a party for his accommodation.
Example : A drew bill on B for A’s accodomation only. A endoresed instrument to C. C on maturity
presented bill to B, who refused to honour the bill. A paid the amount due on bill. After payment A
cannot recover from B anything since he had accepted the bill for his accodomation.

2. Partial Absence or Failure of Monetary Consideration [Sec. 44] :


If the consideration is absent in part, or has subsequently failed in part, the liability on the instrument is
proportionally reduced. In this case, the parties standing in immediate relation to each other cannot
recover more than actual consideration, but this rule shall not apply to a holder in due course.
Example : A draws a bill on B for ` 500 payable to the order of A. B accepts the bill, but subsequently
dishonours it by non-payment. A sues B on the bill. B proves that it was accepted for value as to ` 400,
and as an accommodation to A as to ` 100/-. A can only recover ` 400.
Example : P makes note in favour of Q and Q agrees to send bale of cotton subsequently Q fails to
deliver the cotton bale and therefor Q cannot recover the amount from P since he has failed for his part
of consideration.
Example : A owes a certain sum of money to B. A does not know the exact amount and hence he makes
out a blank cheque in favour of B, signs and delivers it to B with a request to fill up the amount due,
payable by him. B fills up fraudulently the amount larger than the amount due, payable by A and endorses
the cheque to C in full payment of dues of B. Cheque of A is dishonoured. Referring to the provisions of
the Negotiable Instruments Act, 1881, discuss the rights of B and C.
Answer : Section 44 of the Negotiable Instruments Act, 1881 is applicable in this case. According to
Section 44 of this Act, B who is a party in immediate relation with the drawer of the cheque is entitled to
recover from A only the exact amount due from A and not the amount entered in the cheque. However,
the right of C, who is a holder for value, is not adversely affected and he can claim the full amount of the
cheque from B.

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3. Partial Failure of Consideration not consisting of Money [Sec. 45] :


Sometimes, there may be a partial absence or failure of non-monetary consideration for which a person
signed a promissory note, bill of exchange or cheque. In this regard, the following are two rules :-
a) If the part failed is capable of being ascertained in terms of money without any collateral inquiry, the
sum which a holder standing in immediate relation with such signer is entitled to receive from him is
proportionately reduced.
b) If such ascertainment cannot be made without a collateral inquiry, the holder can recover the full
amount.
For Example :
A agrees to supply a T-Shirt having number “3” printed on it, to B at ` 500 and B gave acceptance to a
bill drawn by A for the consideration of T-Shirt. A delivered the T-Shirt but having number “4”prinited on
it. Decide whether B can readily determine price to be paid for the T-Shirt having number “4” on it,
without having any inquiry with A.

Check Your Understanding


1. A draws a bill on B. B accepts the bill without any consideration. The bill is transferred to C without
consideration. C transferred it to D for value, Decide -
i) Whether D can sue the prior parties of the bill, and
ii) Whether the prior parties other than D have any right of action ?
[Answer : (i) Yes D can sue any of the parties A, B or C., (ii) No]
2. P, the holder of a Bill of Exchange, transfers it to Q without consideration. Q also transfers it to R without
consideration. R transfers it to X for consideration. X transfers it to Y without consideration. State giving
reasons whether Y can recover the amount of such instrument from X or P.
[Answer : Y can recover from P, not from X]
3. A draws a bill on B, who accepts it without consideration. He endorses the bill to C for valuable
consideration. On due date when C presents the bill to B for payment, B contends absence of consideration.
Decide the case.
[Answer : B is liable to pay to C, who is a holder in due course]
4. A draws for his own accommodation a bill for ` 1,000 on B. and after acceptance by B, endorses it to C
as security for ` 500. B is adjudged insolvent. Discuss the rights of C.
[Answer : C can recover ` 500 from A]

SOME IMPORTANT PROVISIONS


1. Holder’s right to duplicate of lost bill (Sec. 45A) :
Where a bill of exchange has been lost before it is overdue, he person who was the holder of it may apply
to the drawer to give him another bill of the same tenor, giving security to the drawer, if required, to
indemnify him against all persons whatever in case the bill alleged to have been lost shall be found again.
If the drawer on request as aforesaid refuses to give such duplicate bill, he may be compelled to do so.

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2. Instrument acquired after dishonour or maturity (Sec. 59) : The holder acquired instrument after
dishonour or maturity has same rights as that of transferor.
Example : Q accepts a bill drawn by P and deposits with P certain goods as collateral security for the
payment of bill. The bill, not having been paid at maturity, P sells the goods and retains the proceeds, but
in breach of faith endorses the bill to R. R, having only the right of P, cannot relise the amount of the bill
from Q. Since P has realised proceeds by selling goods and therefore has no claim against Q. But if R
were bona fide endorsee before maturity, he could realise the amount from Q.
3. Liabilities on an accommodation note or bill (Proviso to Sec. 59) : In the case of accommodation
bills or notes, a defect in the title of the transferor does not affect the title of the holder acquiring after
maturity. An accommodation instrument may be explained as follows :
X draws a bill payable to himself on Y, who accepts the bill without consideration just to accommodate X,
that is, to enable X to raise money by negotiating the bill in the market. Though Y accepts the bill, X is
primarily liable on the bill, and he cannot demand the amount from Y, for in an accommodation bill, the
acceptor is only surety for the party accommodated.
However, if the accommodation bill, in the above illustration, is transferred by X to Z for goods consideration
after maturity and Z becomes the holder in goods faith, Z will be able to realise the amount of the bill from
Y, the acceptor though Z’s transferor X could not, at the date of transfer, recover anything from Y.

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PRESENTMENT AND DISHONOUR


PRESENTMENT OF NEGOTIABLE INSTRUMENT
Presentment means presenting - Presentment of Bill for Acceptance
I. A Bill of exchange for acceptance, or  Which Bills are required to be
II. A Promissory Note for sight, or accepted ?
III. A Negotiable Instrument for payment.  How the Bill to be Accepted ?
 To whom, the Bill to be presented for
I. PRESENTMENT OF BILL FOR ACCEPTANCE
Acceptance
- Which Bills are required to be accepted ?
 When, Where and Hours to Present
A bill of exchange payable after sight must be presented
for Acceptance
for acceptance to the drawee of the bill.
 How much time should be given to
- Essentials of Valid Acceptance Drawee for Acceptance
1. It must be written on the Bill.  Excuse for delay
2. It must be signed by the drawee.
3. Acceptance must on bill.
4. Acceptance must be completed by way of returned delivery to the holder.
- To whom the Bill to be presented for Acceptance :
1. The drawee, or
2. To duly authorised agent of the drawee, or
3. The legal representative, if the drawee has died, or
4. His Official Receiver or Assignee, If the drawee has been declared an insolvent, or
5. All or some of several drawees, if they are partners or agents of one other.
6. All the drawees, if there are several drawees, if they are not partners or agents of one another, or
7. Drawee in case of need.

- Whom, When and Where and Hours to Present for Acceptance :


1. Whom : It is to be presented by the person entitled to demand the acceptance and
generally it is the holder of the bill.

2. When : At the time, which is specified for presentment in the bill and before its
maturity. But, if no time for presentment is specified, then within reasonable
time, (during business hours and business day) after drawn, but before its
maturity.

3. Where : At the place, which is specified for presentment in the bill. But, if no place
for presentment is specified, the bill should be presented at the drawee’s
place of business or residence. If drawee after reasonable search could not
be found the bill is to be treated as dishonour due to non acceptance.

4. Hours : At a reasonable hour of a business.

- How much time should be given to Drawee for Acceptance ?


Drawee has been given 48 hours excluding public holidays to deliberate whether to give acceptacnce or
not. (Sec.63)

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- Excuse for delay in presentment for acceptance or payment (Sec 75 A)


Delay in presentment for acceptance or payment is excused if the delay is because of circumstances
beyond the control of holder and not due to his default, misconduct or negligence. When the cause of
delay ceases to operate, presentment must be made within reasonable time.

Effect of Non- Presentment :


When the presentment of the bill is obligatory and the holder of a bill fails to present it for acceptance, the
drawer and all the endorsers are discharged from liability to him.
However, presentment for acceptance is excused in the following cases :
1. When the drawee cannot be found after reasonable search.
2. The drawee is a fictitious person or one in-capable of contracting.
3. When non-presentment is due to the circumstances beyond the control of the holder.
ACCEPTOR FOR HONOUR
- Meaning (Sec. 7) :
When a bill has been dishonoured and it has been noted or protested for non-acceptance, the holder may
allow any other person to accept it for the honour of the drawer or any one of the endorsers. The person
so accepting the bill is called ‘acceptor for honour’.
- Liability and Rights of Acceptor for Honour (Sec. 111 and 112) :
An acceptor for honour is liable to all parties subsequent to the party for whose honour he accepts to pay.
On paying the bill, the acceptor for honour can sue the party for whose honour the bill is accepted and all
the prior parties.
II. PRESENTMENT OF A PROMISSORY NOTE FOR SIGHT (SEC. 62)
If a note is payable at a certain period after sight, it must be presented to the maker for sight in order to
fix its maturity.
If the maker cannot be found after reasonable search, presentment is excused and the instrument may
be treated as dishonoured.
In case of default of such presentment, the other parties liable on the instrument will be discharged as
against the person making such default.
- Whom,When and Where and Hours to Present for Acceptance :
1. Whom : It is to be presented by the person entitled to demand the payment and
generally it is the holder of the note.
2. When : At the time, which is specified for presentment in the note and before its
maturity. But, if no time for presentment is specified, then within reasonable
time (during business hours and business day) after made, but before its
maturity.
3. Where : At the place, which is specified for presentment in the note. But, if no place
for presentment is specified, the note should be presented at the maker’s
place of business or residence. If maker after reasonable search could not
be found the bill is to be treated as dishonour due to unable to present for
sight or for payment.
4. Hours : At a reasonable hour of a business.

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III. PRESENTMENT OF INSTRUMENT FOR PAYMENT


Notes, bills, cheques must be presented for payment to the maker, acceptor or drawee thereof respectively
by or on the behalf of the holder [Sec. 64(1)].
In default of such presentment, the person with primary liability will not discharge. The other parties such
as drawer and endorsers to the instrument will be discharged.
Where a promissory note is payable on demand and is not payable at a specified place, no presentment
is necessary in order to charge the maker thereof.
1. Hours for presentment : Presentment for payment must be made during the usual hours of business
and, if at a banker’s, within banking hours.
2. Presentment of cheque to the bank : Subject to the provisions of section 84, a cheque must, in order
to hold the drawer liable, be presented at the bank on which it is drawn before the relation between the
drawer and his banker has been altered / changed to the prejudice / disadvantge of the drawer.
Cheque is always payable on demand therfore, it is the duty of the holder of cheque to present it at the
bank upon which it is drawn within reasonable time before the relationship between banker and the
drawer becomes disadvantageous to the drawer..
No liablility of drawer if bank fails to discharge the cheque : The drawer has sufficient balance
when he issues the cheque and when the cheque should have been presented for payment (i.e.within
reasonable time) but the holder fails to present the cheque within a reasonable time of issue of the
cheque and during that period the bank fails (becomes insolvent) and due to this drawer suffers actual
damage then drawer is discharged to the extent of loss. The rule is that the cheque must be presented
before the relation between the drawer and his banker has been changed to the disadvantage of the
drawer.
Exmaple : If Mr. A draws 10 cheques of ` 100 each, but when the cheque ought to be presented has
only ` 600 at the bank and subsequently bank fails before the cheque presented, Mr A will be discharged
form liability to the extent of damage suffered that is ` 600 and will be liable for ` 400. But instead of `
600 in the bank if it would have been `1000 then Mr. A would have been discharged from entire amount.
Exmaple : A issues a cheque for ` 25,000 in favour of B. A has sufficient amount in his account with the
Bank. The cheque was not presented within reasonable time to the Bank for payment and the Bank in
the meantime became bankcrupt.So in this case Drawer is discharged since due to delay in presentment
drawer incurred damages and as per above provision he is discharged to the extent of loss.
3. Presentment of instrument payable at demand : A negotiable instrument payable on demand must
be presented for payment within a reasonable time after it is received by the holder.
4. Excuse for delay in presentment for acceptance or payment [Section 75A] : Delay in presentment
for acceptance or payment is excused if the delay is caused by circumstances beyond the control of
holder and not imputable to his default, misconduct or negligence. When the cause of delay ceases to
operate, presentment must be made within reasonable time.

- When the presentment for payment is excused (Sec. 76) :


1. The maker, drawee, or acceptor intentionally prevents presentment of the instrument.
a) The instrument is payable at the business place of the person liable and such place is closed on the
due date during the usual business hours.

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b) The instrument is payable at a specified place, and neither the person liable nor their authorised
person is present, during the usual business hours.
c) The instrument is not payable at a specified place, and the payer cannot be found after reasonable
search.
2. Presentment for payment is not necessary against any party liable for payment if he himself has engaged
to pay even if instrument is not presented to him.
3. Presentment for payment is not necessary against any party if, after maturity and with the knowledge
that instrument has not been presented :
a) he makes a part-payment on account of the amount due on the instrument; or
b) he promises to pay the amount due thereon in whole or in part;
c) he waives his right to take advantages of any default in presentment for payment
4. Presentment for payment is not required against drawer if he could not suffer damage due to non
presentment for payment.
PAYMENT AND INTEREST
a) To whom payment should be made (Sec. 78) : Payment of the amount due on a promissory note, bill
of exchange or cheque must, in order to discharge the maker or acceptor, be made to the holder of the
instrument. If payment is made to any person other than the holder, the holder can claim payment over
again from the maker or acceptor.
b) Payment of interest when rate is expressly specified (Sec. 79) : If rate of interest is specified in a
promissory note or a bill of exchange, interest shall be calculated at the rate specified, on the amount of
the principal money due thereon; (i) from the date of the instrument until relization of such amount, or (ii)
from the date of the instrument until such date after filing of a suit to recover the principal amount as the
Courts directs.
c) Payment of interest when no rate is specified (Sec. 80) : When no rate of interest is specified in the
instrument, interest on the amount due shall be calculaed at the rate of 18% per annum from the date at
which the instrument ought to have been paid until tender or realisation of the amount due, or until such
date as the Court directs.
Explanation : When the party charged is the indorser of an instrument dishonoured by non-payment- he
is liable to pay interest only from the time that he receives notice of the dishonour.
DISHONOUR OF NEGOTIABLE INSTRUMENT
A bill may be dishonoured by non-acceptance or by non-payment, while a promissory note and a cheque
are dishonoured by non-payment only.
- Dishonour by Non- Acceptance (Sec. 91) :
A bill of exchange is dishonoured by non-acceptance in any one of the following ways :
1. When the drawee gives a qualified acceptance; (for ex. acceptance for less amount, or different
duration)
2. If there are several drawees (who are not partners) and all of them do not accept ;
3. If the drawee does not accept the bill within 48 hours from the time of presentment ;
4. When presentment for acceptance is excused, and the bill is not accepted ;
5. When the drawee is incompetent to contract ;
6. If a drawee in case of need is mentioned in a bill, the bill is deemed to be dishonoured, only when if
it is also dishonoured by such drawee in case of need (Sec. 115).

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Note :
1. If a bill has been dishonoured by non acceptance then holder can immediately approach to drawer
without waiting till the maturity of the bill to see that the bill in fact has been dishonoured on the presentment
for payment. Holder has immediate right against drawer.
2. There is difference between dishonour by non acceptance and dishonour by non payment. If bill is
dishonourd due to non acceptance then drawee is not liable, the holder can proceed against either drawer
or endorser. In case of dishonour due to non payment then drawee is liable to holder.
- Dishonour by Non- Payment :
In the following two cases, the bill, note or cheque shall be treated as dishonoured by non-payment.
1. When the maker of the note, acceptor of the bill or drawee of the cheque makes default in payment
(Sec.92).
2. When presentment for payment is excused and the instrument remains unpaid on maturity (Sec. 76).

- Duties of the Holder upon Dishonour :


a) Notice of When a note, bill or cheque is dishonoured by non-acceptance or non-
Dishonour : payment, the holder or any party liable on instrument must give notice of
[Sec. 98] dishonour to all the parties to the instrument whom he wantss to make liable
thereon.
b) Noting & When a promissory note or bill of exchange dishonoured by non-acceptance
Protesting: or non-payment, the holder may get such dishonour to be noted and
[Sec. 99 & 100] protested by a Notary Public upon the instrument.
- Rights of the Holder upon Dishonour
The holder may bring a suit against the parties (liable on the instrument) for the recovery of the amount
due on the instrument.
NOTICE OF DISHONOUR
- Notice by Whom ?
1. The notice of dishonour due to non acceptance or non payment must be given to the party sought to be
liable for instrument by holder or any party liable thereon. Therefore, it is not necessary that the notice
should always be given by the holder.
2. Chain Method of giving Notice of Dishonour (Sec. 95) : Any party receiving notice of dishonour
should communicate the same withing a reasonable time to any prior party whom he intends to hold liable
in respect of the instrument; but if prior party has already received it then no need to communicate him
again by a immediate subsequent party.
For example: A draws bill on B and endorses to C, C endorses to D and D endorses to E. On dishonour
due to non payment E must give notice to all parties to whom he seeks to make liable. So, E must give
notice to A, C & D but notice to B is not necessary since it is the B who has dishonoured the bill. As E
has given notice to all the parties here D can take advantage that E has sent notice to all the prior parties
so D is not required to send notice to C again and C is also not required to sent notice to A agian. But if
E would have given notice to D only then he can recover amount from D only if D wants to recover from
C and A he has to give notice to C and A.
In nutshell, to hold all the prior parties liable they must be given notice of dishonour atleast once.

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- Notice to Whom, When and Where ?


Notice of dishonour must be given to those parties to whom the holder wants to make liable. However,
such notice need not be given to - (i) the acceptor of a bill, (ii) to the maker of a note, (iii) the drawee of
a cheque, because they are the parties, who themselves have dishonoured the instrument.
1. Time : Within a reasonable time. Delay becuase of circumstances beyond the control of the party
desiring to serve notice, is excused.
2. Place : A written notice may be given by post at the business place / the residence of the party.
- When the Notice of Dishonour is Excused (Sec. 98) :
a) When it is dispensed (waived : facultative endorsement) with by the party entitled thereto ;
b) To charge the drawer of the cheque, when he has countermanded payment ;
c) When the party charged could not suffer damage for want of notice ;
d) When the party entitled to notice cannot be found after due search or the party bound to give notice
is unable to give notice for any other reason beyond his control ;
e) To charge drawer, when one of the drawers is acceptor.
f) In the case of promissory note which is not negotiable;
g) When the party entitled to notice, knowing the facts, promises unconditionally to pay the amount due
on the instrument.
Examples : Is notice of dishonour necessary in the following cases :
1) X having a balance of ` 1,000 with his bankers and having no authority to over draw, drew a cheque
for ` 5,000/-. The cheque was dishonoured when duly presented for repayment.
2) X, drawer of a Bill informs Y, the holder of the bill that the bill would be dishonoured on the presentment
for payment.
[Answer : Notice of dishonour is not necessary in both the cases. (Section 98 of the Negotiable
Instruments Act, 1881)].

NOTING & PROTESTING


- Noting [Sec. 99] :
1. Meaning : When a promissory note or bill of exchange has been dishonoured by non-acceptance
or non-payment, the holder may cause such dishonour to be noted by a notary public
upon the instrument, or upon a paper attached thereto or partly upon each. This is
done in order to authenticate the fact that a bill or note was in fact been
dishonoured. Noting is optional.
Notary Public presents the instrument again for the acceptance or payment and if
drawee or acceptor still refuses to accept or pay the bill then he records the noting
on the instrument, i.e. a minute is prepared containing the date of dishonour, reason
for such dishonour,etc. and is attached to the instrument.
2. Contents : a) The fact of dishonour ;
b) The date of dishonour ;
c) The reasons for such dishonour ;
d) If the instrument has not been expressly dishonoured, the reason why the holder
treats it as dishonoured; and
e) The Noting charges.

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- Protesting [Sec. 100] :


1. Meaning : When a promissory note or bill of exchange has been dishonoured by non-acceptance
[Sec. 100] or non-payment, the holder may cause such dishonour to be noted and certified by a
notary public. Such certificate is called a protest.
2. Protest for When the acceptor of a bill has become insolvent or his credit has been publicly
Better impeached before the maturity of the bill, the holder MAY, within a reasonable time,
Security : through a Notary Public, demand a better security from the acceptor.
[Sec. 100] If the acceptor refuses to give a better security, the fact may also be noted and
certified by the Notary Public. Such certificate is called a ‘protest for better security’.
3. Contents : 1. The Instrument or a literal transcript of the instrument.
2. The name of the person for whom and against whom the instrument has been
protested.
3. The fact of and reason for dishonour.
4. The place and time of dishonour.
5. The signature of the Notary Public.
6. In case of acceptance for honour or payment for honour, the name of the person
accepting or paying and the name of the person for whose honour it is accepted
or paid.

PENALTIES IN CASE OF DISHONOUR OF CHEQUES


- Sec. 138 : Dishonour of cheque for insufficiency etc. of Funds :
If a cheque is drawn by a person on an account maintained by him with a banker -
for payment of any amount of money
to another person from out of that account
for the discharge of, in whole or in part, of any debt or other liability,
- returned unpaid by the bank either because of :
amount of money in his account is insufficent to honour the cheque or
that it exceeds the amount arranged to be paid from that account,
- such person shall be deemed to have committed an offence and shall be punished with imprisionment
for a term which may extend to two years or with fine which may extend to twice the amount of the
cheque, or with both.
In other words where a cheque is dishonoured by the bank due to insufficiency of funds, drawer shall be
punishable as above.
However, the above rules are subject to the following provisions :
i) The cheque should have been issued for a legally enforceable debt or liability.
ii) The cheque should have been presented by the holder within 3 months of its issue or within the
period of its validity.
iii) The holder in due course of the cheque should have given notice of demand for the payment within
30 days to the drawer on receipt of information of dishonour of cheque from the bank.

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iv) The drawer has failed to pay whole of the amount within 15 days of the receipt of said notice, even
a part payment is considered as default, and
v) The holder in due course of the cheque dishonoured should have made a complaint in writing within
1 month of cause of action arising u/s 138 i.e. within 1 months from the last date.
Note : Effect of stop payment order : If drawer makes stop payment order to the banker to coutermand
the payment which makes cheque being dishonoured then such dishonour shall have same effect as if the
cheque was dishonoured due to insufficiency of funds and Sec 138 will get attracted.
Example : X issued a post dated cheque to Y on the account of discharge of its liability. Further, X
instructed to the bank to make the stop payment due to unavailability of the adequate amount in the
account. Here, in this instance section 138 of the Act is attracted as when a cheque is dishonoured on
account of stop payment instructions sent by the drawer to his banker in respect of a post dated cheque
irrespective of insufficiency of funds in the account. A post dated cheque is deemed to have been on the
date it bears and the three months period for the purposes of section 138 is to be counted from that date.
So, X will be liable for dishounour of cheque. Once a cheque is issued by the drawer a presumption under
section 139 must follow.
- Sec. 139 : Presumption in favour of holder :
Unless contrary is proved, the holder of a cheque has received the cheque in discharge of a legally
enforceable debt. The burden of proof is on drawer that cheque was not for legally enforceable debt.
- Sec. 140 : Defense, which may not be allowed in any prosecution u/s 138 :
It shall not be a defence that the drawer had no reason to believe at the time of issue of cheque that the
cheque may be dishonoured due to insufficiency of funds.
- Sec. 141 : Offences by Companies [Sec 141 (1)]:
If person committing an offence u/s 138 is a company in such case, the following persons shall be
deemed to be guilty of offence and shall be proceeded against and punished accordingly -
i) Company
ii) Every officer of the company, who was responsible for the conduct of the company’s business at the
time of committing of offence,
iii) A director, manager, secretary, or other officer of the company, if the offence has been committed
with his consent or connivance, or due to neglect on his part in this regard.
However, a director nominated by the CG/SG/a financial corporation owned or controlled by CG or SC,
shall not be liable for-prosecution as a aforesaid. And if above mentioned person proved that the offence
was committed without his knowledge or that he had exercised all due diligence to prevent the commission
of such offence.
- Sec 141 (2): If any offence under this Act, has been committed by a company and it is proved that the
offence has been committed with the consent or connivance of, or any neglect by any director, manager,
secretary or other officer of the company, such director, manager, secretary or other officer shall also be
deemed to be guilty of that offence and shall be liable to be proceeded against and punished accordingly.
Explanation : For the purpose of this section
a) “company” means anybody corporate and includes a firm or other association of individuals; and
b) “director”, in relating to a firm, means a partner in the firm.

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Example : A promoter who has borrowed a loan on behalf of company, who is neither a director nor a
person-in-charge, sent a cheque from the companies account to discharge its legal liability. Subsequently, the
cheque was dishonoured and the compliant was lodged against him. Is he liable for an offence u/s 138?
Answer : According to Section 138 of the Negotiable Instruments Act, 1881 where any cheque drawn by a
person on an account maintained by him with a banker for payment of any amount of money to another
person from/out of that account for discharging any debt or liability, and if it is dishonoured by banker on
sufficient grounds, such person shall be deemed to have committed an offence and shall be liable. However,
in this case, the promoter is neither a director nor a person-in-charge of the company and is not connected
with the day-to-day affairs of the company and had neither opened nor is operating the bank account of the
company. Further, the cheque, which was dishonoured, was also not drawn on an account maintained by him
but was drawn on an account maintained by the company. Therefore, he has not committed an offence
under section 138.

- Sec. 142 : Cognisance of offences :


Notwithstanding anything contained in the Code of Criminal Procedure, 1973, -
a) The court shall take cognisance of any offence punishable u/s 138 only on the complaint, in writing,
made by-
i) the payee or,
ii) the holder in due course of the cheque, as the case may be;
b) such complaint is made within 1 month of the date on which the cause of action arises ;
A complaint may be taken by the Court after the prescribed period, if the court is satisfied that he had
sufficient cause for not making a complaint within such period.
c) No court inferior to that of a Metropolitan Magistrate or a Judicial Magistrate of the first class shall
try any offence punishable under section 138.
- Sec. 142 : Jurisdiction of the Court where the complaint to be filed :
a) If the cheque is delivered for collection through an account : then the complaint to be filed
with that Court under whose jurisdiction the branch of the bank where the payee or holder in due
course, as the case may be, maintains the account, is located or
b) If the cheque is presented for payment by the payee or holder in due course otherwise
through collection : then the complaint to be filed with that Court under whose jurisdiction the
branch of the drawee bank where the drawer of the cheque maintains the account, is located.
Explanation - For the purposes of clause (a), where a cheque is delivered for collection at any branch
of the bank of the payee or holder in due course, then, the cheque shall be deemed to have been delivered
to the branch of the bank in which the payee or holder in due course, as the case may be, maintains the
account.”
- Sec. 142A Validation of transfer of pending cases :
- Sec 142A (1) : All cases of cheque bouncing which were pending in any Court, before the Act came
into force, will be trasferred to a Court having appropriated jurisdiction as per Sec 142 as above.

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- Sec 142A (2) : If a payee has filed a case against a drawer in the Court as per Sec 142 then all the
subsequent cases against the same drawer must be filed in the same Court only. This has been done to
ensure the speedy resolution of cases against same person and to save the time of other Courts.
- Sec 142A (3) : If payee has already filed more than one cases in different Courts against same drawer,
then the all the cases will be trasferred to the Court with the approprate jurisdiction with which the first
case or compliant was filed.
- Sec. 143 : Power of Court to try cases Summarily :
1. Who can try offence All offences u/s 138 shall be tried by a Judicial Magistrate of the first class
under this Section : or by a Metropolitan Magistrate.
2. Penalty : Magistrate may pass sentence of imprisonment not exceeding 1 year and
amount of fine not exceeding ` 5000/-.
3. Conversion of However, if it appears to the Magistrate that the nature of the case is such
Summary Trial in that a sentence of imprisonment for a term exceeding 1 year may have to
detailed hearing : be passed or that for any other reason, it is undesirable to try the case
summarily, the Magistrate shall (after hearing the parties) record an order
to that effect and thereafter recall any witness and proceed to hear or
rehear the case in the manner provided by the said Code.
4. Adjournment of The trial may be adjourned from time to time.
Trial :
5. Time Limit for So far as possible, within 6 months from the date of filing of the complaint.
Concluding the
Trial :

- Offences to be compoundable (Sec. 147) : Notwithstanding anything contained in the Code of


Criminal Procedure, 1973 every offence punishable under this Act shall be compoundable.
FROM THE JUDICIARY
1. A drawer of a cheque after issuing the cheque, informs the Payee not to present the cheque as
well as informs the bank to stop the payment. Does it constitute an offence under the Act ?
YES
Once a cheque is issued by the drawer and if it is dishonoured due to insufficeincy or countermanding, he
shall be punishable. Merely because the drawer issues a notice thereafter to the drawee or to the bank
for stoppage of payment, it will not preclude an action u/s 138. The drawer shall be deemed to have
committed an offence.The object of Sec 138 to 142 is to promote the efficacy of the the banking
operations and to ensure the credibility in transacting business through cheques.
- Modi Cements Ltd. v Kuchil Kumar Nandi (1998) SC
2. Whether the Payee or the holder of a cheque can initiate prosecution for an offence under the
N.I. Act, for its dishonour for the second time, if he had not initiated prosecution on the first
occasion ? No.
- When the Cheque is dishonoured, it is a common practice to present the cheque again and again
within its validity period in the expectation that it would be encashed. Section 138 does not put any
ban to sucessively present a dishonoured cheque during its validity period.

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- As per Sec. 142, the payee/holder should have made a complaint within 1 month of cause of
action arising.
On careful reading of sec. 138 and 142, it is clear that cause of action refers to only one fact - failure
to make the payment within 15 days from the date of receipt of the notice.
The honourable Supreme Court followed interpretaion rule of Harmonised Construction and gave
effect to both the sections. The combined reading of Sections 138 and 142 leave no room for doubt
that on every occasion of dishonour of cheque a fresh right to present a cheque again, arises but not
the fresh cause of action.
- Conclusion : Therefore, the holder/payee of a cheque cannot initiate prosecution for an offence
u/s 138 for its dishonour for the second time, if he had not initiated such prosecution on the earlier
cause of action.
- Sadanandan Bhadran v Madhavan Sunil Kumar (1998) SC
3. What is the extent of liability of the company and the person(s) in charge of the company in
respect of an offence for dishonour of cheques ?
The persons, specified u/s 141 shall be deemed to be guilty of offence u/s 138, only if that person was in
charge of and was responsible to the company for the conduct of its business.
- K.P.G. Nair v Jindal Menthol Indian Ltd. (2001) SC
4. For cognizance of offence for the dishonour of cheque, should the cheque necessarily be
presented to the drawee bank or can it be presented before any bank within the stipulated
period ?
- Sec. 3 : ‘Banker’ includes any person acting as a banker and any post office savings bank.
- As per Sec. 72, in order to charge the drawer, a cheque must be presented at the drawee bank
before the relations between the drawer and his banker has been altered to the prejudice of the
drawer.
- Sec. 138, permits a person to issue a cheque on an account maintained by him with ‘a banker’ and
makes him liable for criminal prosecution, if it is returned by ‘the bank’ unpaid.
The payment of the cheque is contemplated by ‘the bank’ ‘The’ is always mentioned to denote
particular thing or a person. ‘The’ would, therefore, refer implicitly to a specified bank and not any
bank. So, ‘the’ indicates drawee-bank, on which the cheque is drawn and not all banks where the
cheque is presented for collection.
- Expert Comment : It, however, does not mean that the cheque is always to be presented to the
drawer’s bank on which the cheque is issued. The payee of the cheque has the option to present, the
cheque in any bank including the collecting bank where he has his account, but to attract the criminal
liability of the drawer of the cheque or such collecting bank is obliged to present the cheque in the
drawee bank within 6 months (currently 3 months).
The non-presentation of the cheque to the drawee-bank within 3 months would free the drawer from
his criminal liability u/s 138 of the Act. But he shall be liable to pay the cheque amount to the payee
in a civil action.
- Shri Ishar Alloy Steels Ltd. v Jayaswals Neco. Ltd. (2001) SC

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5. Where an owner of company, who is neither a director nor a person-in-charge, sent a cheque
from the companies account to discharge its legal liability. Subsequently the cheque was
dishonoured and the compliant was lodged against him. Does he liable for an offence u/s 138 ?
No.
Facts of case The owner of a company (say-H) borrowed a loan of 25 lakhs on behalf of his
company from C. Later on, at the request of C, Mr. H sent a cheque from the
companies account. However, the cheque was dishonoured.
Mr. C filed a complaint u/s 138 with reference to Dishonour of cheque for insufficiency
of funds in the account against H and another in connection with the bouncing of a
cheque issued on behalf of the company.
This complaint was challenged on the ground that, H is neither a director nor a
person-in-charge of the company and is not connected with the day affairs of the
company and had neither opened nor is operating the bank account of the company
and had not issued the cheque, which was dishonoured and further contended that
in any event notice of dishonour of the cheque was not served.
Decision of High court held that, although H has a legal liability to refund amount to C, but H is
case not the drawer of the cheque, which was dishonoured, and the cheque was also not
drawn on an account maintained by him, but was drawn on an account maintained
by the company. Hence, it was held that H couldn’t be said to have committed the
offence u/s 138 of the Act.
- H.N.D. Mulla Feroze v C. Somayajulu (2004) AP

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DISCHARGE OF INSTRUMENT
DISCHARGE FROM LIABILITY OF NOTES, BILLS AND CHEQUES
1. By Cancellation [Sec. 82(a)] :
When the holder cancels the name of a party on the instrument with intent to discharge him, this cancellation
will discharge -
- such party, and
- all the subsequent parties, who have a right of recourse against the such party.
2. By Releases [Sec. 82 (b)] :
The maker, acceptor or endoreser of negotialble instrument is discharged from liability towards holder, if
such holder releases them from their liability.
3. By Payment in due course [Sec. 82(c)] : Instrument is said to be discharged if payment has been
made in due course.
4. By allowing the drawee more than 48 Hours for Acceptance [Sec. 83] :
If the holder of bill allows the drawee more than 48 hours (exclusive of public holidays) for acceptance,
all previous parties, not consenting to such allowance, are thereby discharged from liability to such
holder.
5. By Non-Presentment of Cheque [Sec. 84] :
Where a cheque is not presented for payment within a reasonable time of its issue, and the drawer
suffers actual damage through the delay, he is discharged to the extent of such damage. But holder is still
entitled to recover from the bank to the extent drawer is discharged.
Examples :
a) A draws a cheque for ` 1000 and, when the cheque ought to be presented, the banker has funds to
meet it. The bank fails before the cheque is presented. The drawer is discharged, but the holder can
prove against the bank for the amount of the cheque.
b) A draws a cheque at Agra on a bank in Calcutta. The bank fails before the cheque could be presented
in ordinary course. A is not discharged because he has not suffered actual damage due to delay in
presenting cheque.
6. Discharge in case of Cheque [Sec. 85] :
i) Where a cheque payable to order purports to be endorsed by or on behalf of the payee, the drawee
(banker) is discharged by making payment in due course.
Where a cheque payable to order purports to be endorsed by or on behalf of the payee, the drawee
who always is a banker is discharged by the payment in due course. A cheque is said to have been
discharged in due course when it has been paid in good faith, after taking proper care to ascertain the
genuineness of the endorsement. Payment in due course discharges the bank from liablility even if
the payment is made to a wrong person even if the endorsement of the payee is forged. The
banker is discharged from the payment in good faith and without negligence. But if the drawer’s
signature is forged, the banker can under no circumstances claim discharge on payment because
the banker is presumed to know the signature of his customers i.e. drawer of the cheque.

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Example : A cheque is drawn payable to “B or order”. It is stolen and the thief forges B’s endorsement
and endorses it to C. The banker pays the cheque in due course. Can B recover the money from the
banker ?
Answer : According to Section 85, the drawee banker is discharged when he pays a cheque payable
to order when it is purported to be endorsed by or on behalf of the payee. Even though the endorsement
of Mr. B is forged, the banker is protected and he is discharged. The true owner, B, cannot recover
the money from the drawee bank.
Example : A cheque is drawn payable to “B or order” on which drawer’s signature was forged.
The banker pays the cheque. Can A recover the money from the banker ?
Answer : Banker is not discharged since banker has not made payment in due course. It is the duty
of the bank to know and verify the signature of the drawer of the bank who is the customer of the
bank.
ii) In case cheque is originally expressed to be payable to bearer, the drawee is discharged by payment
in due course to the bearer thereof, notwithstanding any indorsement whether in full or in blank
appearing thereon and notwithstanding such indorsement purports to restrict or exlcude further
negotiation it is based on the provision “Once a bearer always a bearer”.
Example : A gave a cheque to B without mentioning his name (bearer cheque), C the stole cheque
and presented to the A’s bank and such bank made the payment in due course. In this case A’s bank
is discharged by making payment in due course without having any doubt over C that he is not the
holder of the cheque.

7. By Material Alteration [Sec. 87] :


Any material alteration of a negotiable instrument renders the same void as against anyone who is a
party thereto at the time of making such alteration and does not consent thereto, unless it was made in
order to carry out the common intention of the original parties. However, some of the material alterations
are permitted by the Act itself in such case no approval is required and such alteration will not render any
party discharged from the liability.
And any such alteration, if made by an indorsee, discharges his endorser from all liability to him in respect
of the consideration thereof.
Meaning : An alteration will be material, if -
i) it alters the character or identity of the instrument,
ii) it alters the rights and liabilities of the parties,
iii) it causes the instrument to speak a different language in effect from that which it originally spoke.
- Effect of Material Alteration [Sec. 87] :
All the parties prior to the alteration will be discharged, if the alteration is made without their consent.
Example 1 : A promissory note was made without mentioning any time for payment. The holder added
the words “on demand” on the face of the instrument.
As per the above provision of the Negotiable Instruments Act, 1881 this is not a material alteration as a
promissory note where no date of payment is specified will be treated as payable on demand and by
writing the word on demand is carrying the intention of the original party. Hence adding the words “on
demand” does not alter the business effect of the instrument.

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Example 2 : State whether the following alterations are material alterations under the Negotiable
Instruments Act, 1881?
i) The holder of the bill inserts the word “or order” in the bill,
ii) The holder of the bearer cheque converts it into account payee cheque,
Answer : The following materials alterations have been authorised by the Act and do not require any
authentication :
a) filling blanks of inchoate instruments [Section 20]
b) Conversion of a blank endorsement into an endorsement in full is permitted [Section 49]
- Payment on Materially altered instrument [Sec. 89] :
Where an instrument has been materially altered, but does not appear to have been so altered, or where
a cheque is presented for payment which does not at the time of presentation appear to be crossed, payment
thereof by a person or banker liable to pay according to the apparent tenor and in due course, shall discharge
such a person or banker from all liability thereon. Such payment shall not be questioned by reason of the
instrument having been altered, or the cheque crossed.

Which alterations are Which alterations are not covered by Sec. 87


covered by Sec. 87 (alterations (alteration are allowed by the Act without any consent)
not allowed without consent)

Alteration of - 1. Any alteration, made before the issue of the instrument,


1. Date, 2. An alteration made for correcting a mistake, e.g. a bill dated
2. Sum Payable, 2060 in stead of 2006.
3. Time of Payment, 3. An alteration made to carry out the common intention of the
4. Place of Payment, original parties, e.g. insertion of words ‘or order’ in a note,
5. Addition to the date of when the maker forgets to use these words,
payment 4. Filling the blanks of an inchoate instrument (Sec. 20).
6. Rate of interest, 5. Conversion of an endorsement in blank into in full (Sec. 49)
7. Change in the name of parties 6. Crossing of a cheque (Sec. 125)
to the instrument 7. An alteration which is not material.

Check Your Understanding


1. State with reasons, whether the following shall amount to material alteration and invalidate the instrument-
i) D is in possession of an inchoate instrument, where the amount has not been written on the instrument,
writes himself the amount.
ii) K, in possession of an uncrossed cheque received from A, writes “Payee’s Account only” on the
face of the instrument.
[Answer : No material alteration in both cases as these are permitted and so will not invalidate the
instrument]

2. A bill of exchange is accepted by Ram & Co. The holder subsequently alters ‘Ram & Co.’ as ‘Ramesh
& Co.’ Discuss the liability of the acceptor to the holder after such alteration.
[Answer : Acceptor is not liable to the holder]

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3. What will be the effect of the following alteration on the validity of bill ?
a) ‘A bill payable with interest @ 10% p.a.’ is altered into ‘a bill payable with interest @ 18% p.a.’.
b) A bill is accepted payable at SBI, Dayal Bagh Agra. The holder, without the consent of the acceptor,
inserts ‘Raja Mandi’ in place of ‘Dayal Bagh’.
[Answer : In both cases, the alteration is material]
4. A draws a cheque for ` 10,000/- on a bank dt. 25-5-2017. He has sufficient funds to his credit on that
date. The bank fails on 25-6-2017, before the cheque is presented. Advise the holder of the cheque.
[Answer : A is discharged to the extent of actual damaged suffered by him due to delay in presentment]
5. ‘A’ draws a cheque for ` 50,000. When the cheque ought to be presented to the drawee bank, the
drawer has sufficient funds to make payment of the cheque. The bank fails before the cheque is presented.
The payee demands the payment from the drawer. What is the liability of the drawer ?
[Answer : A is discharged to the extent of actual damaged suffered by him due to delay in presentment]
6. D accepted a bill of exchange, drawn in London. An endorsee, in arrangement with the drawer, altered
the place of drawing from ‘London’ to ‘Agra’. Discuss the liability of Mr. D on the altered bill.
[Answer : D is not liable on the bill]
7. A customer of a bank drew an open cheque for ` 10,000/- payable to J. The cheque was stolen. The thief
forged the payee’s endorsement and presented the cheque for payment before drawee banker. The bank
cashier paid the cheque without asking for proof of his identity. Is the banker is liable ?
[Answer : Banker is not liable Sec. 85(1) and 10]
8. Explain the meaning of ‘Holder’ and ‘Holder in due course’ of a negotiable instrument. The drawer, ‘D’
is induced by ‘A’ to draw a cheque in favour of P, who is an existing person. ‘A’ instead of sending the
cheque to ‘P’, forgoes his name and pays the cheque into his own bank. Whether ‘D’ can recover the
amount of the cheque from ‘A’s banker. Decide.
[Answer : Meaning of ‘Holder’ and the ‘Holder in due course’ of a negotiable instrument: ‘Holder’:
Holder of negotiable instrument means as regards all parties prior to himself, a holder of an instrument
for which value has at any time been given. ‘Holder in due course’: (i) In the case of an instrument
payable to bearer means any person who, for consideration became its possessor before the amount of
an instrument payable. (ii) In the case of an instrument payable to order, ‘holder in due course’ means
any person who became the payee or endorsee of the instrument before the amount mentioned in it
became payable. (iii) He had come to possess the instrument without having sufficient cause to believe
that any defect existed in the title of transferor from whom he derived his title.
The problem is based upon the privileges of a ‘holder in due course’. Section 42 of the Negotiable
Instrument Act, 1881, states that an acceptor of a bill of exchange drawn in a fictitious name and payable
to the drawer’s order is not, by reason that such name is fictitious, relieved from liability to any holder in
due course claiming under an endorsement by the same hand as the drawer’s signature, and purporting
to be made by the drawer. In this problem, P is not a fictitious payee and D, the drawer can recover the
amount of the cheque from A’s bankers

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9. A draws a bill on B. B accepts the bill without any consideration. The bill is transferred to C without
consideration. C transferred it to D for value. Decide-.
(i) Whether D can sue the prior parties of the bill, and
(ii) Whether the prior parties other than D have any right of action inter se?
Give your answer in reference to the Provisions of Negotiable Instruments Act, 1881.
[Answer : Problem on Negotiable Instrument made without consideration : Section 43 of the Negotiable
Instruments Act, 1881 provides that a negotiable instrument made, drawn, accepted, indorsed or transferred
without consideration, or for a consideration which fails, creates no obligation of payment between the
parties to the transaction. But if any such party has transferred the instrument with or without endorsement
to a holder for consideration, such holder, and every subsequent holder deriving title from him, may
recover the amount due on such instrument from the transferor for consideration or any prior party
thereto.
(i) In the problem, as asked in the question, A has drawn a bill on B and B accepted the bill without
consideration and transferred it to C without consideration. Later on in the next transfer by C to D is for
value. According to provisions of the aforesaid section 43, the bill ultimately has been transferred to D
with consideration. Therefore, D can sue any of the parties i.e. A, B or C, as D arrived a good title on it
being taken with consideration.
(ii) As regards to the second part of the problem, the prior parties before D i.e., A, B, and C have no right
of action inter se because first part of Section 43 has clearly lays down that a negotiable instrument,
made, drawn, accepted, indorsed or transferred without consideration, or for a consideration which fails,
creates no obligation of payment between the parties to the transaction prior to the parties who receive
it on consideration.

HUNDI
Meaning of Hundi :
Hundis : Bills of exchange drawn up in the vernacular / local language are generally known as Hundis.
The Negotiable Instruments Act ordinarily is not applicable to Hundis but, the title of the Act conveys the idea
that the Act is a compreshensive enactment relating to all kinds of negotiable instruments whether negotiable
by law, or by usage or custom. So, the parties to the Hundis may agree to be governed by the Negotiable
Instruments Act, 1881.

Different Types of Hundies :

Dhani Jog Hundi - Hundi payable to the Dhani or the owner, i.e., the bearer.

Darshani Hundi - Hundi payable at sight.

Miadi Hundi or - Hundi payable after a specified period of time.


Muddati Hundi

Shahjog Hundi - Apart from drawer and drawee there is one more party called Shah. He acts like
banker and presents the hundi when it becomes due and recovers the amount thereon
on behalf of holder.

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Jokhimi Hundi - Jokhimi means “against risk”. The drawee is not required to pay the amount unless
the goods purchased by him reaches his destination. If suppose goods are destroyed
in transist then drawer has to bear the loss as hunid is payable only if goods reaches
the destination.

Nam Jog Hundi - Hundi payable to a party named in the Hundi or to his order it can be endorsed to
any other party.

Jawabee Hundi - It is an instrument for remitting money and takes the form of ordinary letter advising
the party that he may collect money from a banker. The remitter hands over the
hundi to his banker who in turn endorses it to a correspondent residing near the
payees place of residence. The correspondent on receiving the letter forwards it to
the payee who attends and gives his receipt in the form of an answer to the letter
which is forwarded by the same channel to the drawer of the order.

Firman Hundi - This hundi is payable to order.

Pet - Duplicate copy of a hundi is issued in case original hundi is lost.

Perpeth - Perpeth is the triplicate copy of the hundi issued on loss of peth.

Khoka - On discharge of hundi it becomes cancelled and known as Khoka.

Zikri Chit - It is a hundi that is accepted for honour. It is a letter of protection addressed to
merchant in the town where a hundi is payable and issued to the holder of the hundi
by some prior party liable thereon. The letter, it is intended, would be used by the
holder if the hundi is dishonoured by non-acceptance. The letter contains a request
to the merchant that he may accept the hundi in case of dishonour.

MULTIPLE CHOICE QUESTIONS

1. Person named in the instrument to whom money is directed to be paid -


a) Drawer b) Acceptor
c) Maker d) Payee
2. Maker of a bill of exchange is called as -
a) Drawer b) Drawee
c) Acceptor d) Payee
3. Days of grace provided to the Instruments at maturity is -
a) 1 day b) 2 days
c) 3 days d) 5 days
4. Parties to a negotiable instrument can be discharged from liability by -
a) Cancellation b) Payment
c) Release d) All of the above
5. Validity period for the presentment of cheque in bank is -
a) 3 months b) 6 months
c) 1 year d) 2 years

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6. Offences committed under the Negotiable Instruments Act can be -


a) Compoundable b) Non compoundable
c) Non compoundable and non-bailable d) bailable
Ans. 1. (d) 2. (a) 3. (c) 4. (d) 5. (b) 6. (a)

PRACTICAL QUESTIONS AND ANSWERS


1. Explain the meaning of ‘Holder’ and ‘Holder in due course’ of a negotiable instrument. The drawer,
‘D’ is induced by ‘A’ to draw a cheque in favour of P, who is an existing person. ‘A’ instead of sending
the cheque to ‘P’, forgoes his name and pays the cheque into his own bank. Whether ‘D’ can recover
the amount of the cheque from ‘A’s banker. Decide.
Ans. Meaning of ‘Holder’ and the ‘Holder in due course’ of a negotiable instrument :
‘Holder’: Holder of negotiable instrument means as regards all parties prior to himself, a holder of an
instrument for which value has at any time been given.
‘Holder in due course’: (i) In the case of an instrument payable to bearer means any person who, for
consideration became its possessor before the amount of an instrument payable. (ii) In the case of an
instrument payable to order, ‘holder in due course’ means any person who became the payee or
endorsee of the instrument before the amount mentioned in it became payable. (iii) He had come to
possess the instrument without having sufficient cause to believe that any defect existed in the title of
transferor from whom he derived his title.
The problem is based upon the privileges of a ‘holder in due course’. Section 42 of the Negotiable
Instrument Act, 1881, states that an acceptor of a bill of exchange drawn in a fictitious name and
payable to the drawer’s order is not, by reason that such name is fictitious, relieved from liability to any
holder in due cause claiming under an endorsement by the same hand as the drawer’s signature, and
purporting to be made by the drawer. In this problem, P is not a fictitious payee and D, the drawer can
recover the amount of the cheque from A’s bankers
2. Discuss with reasons, whether the following persons can be called as a ‘holder’ under the Negotiable
Instruments Act, 1881 :
i) X who obtains a cheque drawn by Y by way of gift.
ii) A, the payee of the cheque, who is prohibited by a court order from receiving the amount of the
cheque.
iii) M, who finds a cheque payable to bearer, on the road and retains it.
iv) B, the agent of C, is entrusted with an instrument without endorsement by C, who is the payee.
v) B, who steals a blank cheque of A and forges A’s signature.
Ans. Person to be called as a holder : As per section 8 of the Negotiable Instruments Act, 1881 ‘holder’
of a Negotiable Instrument means any person entitled in his own name to the possession of it and to
receive or recover the amount due thereon from the parties thereto.
On applying the above provision in the given cases -
i) Yes, X can be termed as a holder because he has a right to possession and to receive the amount
due in his own name.
ii) No, he is not a ‘holder’ because to be called as a ‘holder’ he must be entitled not only to the
possession of the instrument but also to receive the amount mentioned therein.

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iii) No, M is not a holder of the Instrument though he is in possession of the cheque, so is not entitled
to the possession of it in his own name.
iv) No, B is not a holder. While the agent may receive payment of the amount mentioned in the
cheque, yet he cannot be called the holder thereof because he has no right to sue on the instrument
in his own name.
v) No, B is not a holder because he is in wrongful possession of the instrument.
3. M drew a cheque amounting to ‘ 2 lakh payable to N and subsequently delivered to him. After receipt
of cheque N endorsed the same to C but kept it in his safe locker. After sometime, N died, and P found
the cheque in N’s safe locker. Does this amount to Indorsement under the Negotiable Instruments Act,
1881 ?
Ans. No, P does not become the holder of the cheque as the negotiation was not completed by delivery of
the cheque to him. (Section 48, the Negotiable Instruments Act, 1881)
4. M owes money to N. Therefore, he makes a promissory note for the amount in favour of N, for safety
of transmission he cuts the note in half and posts one half to N. He then changes his mind and calls
upon N to return the half of the note which he had sent. N requires M to send the other half of the
promissory note. Decide how a rights of the parties are to be adjusted.
Ans. The question arising in this problem is whether the making of promissory note is complete when one
half of the note was delivered to N. Under Section 46 of the N.I. Act, 1881, the making of a P/N is
completed by delivery, actual or constructive. Delivery refers to the whole of the instrument and not
merely a part of it. Delivery of half instrument cannot be treated as constructive delivery of the whole.
So the claim of N to have the other half of the P/N sent to him is not maintainable. M is justified in
demanding the return of the first half sent by him. He can change his mind and refuse to send the other
half of the P/N.
5. P draws a bill on Q for ` 10,000. Q accepts the bill. On maturity the bill was dishonored by non-
payment. P files a suit against Q for payment of ` 10,000. Q proved that the bill was accepted for value
of ` 7,000 and as an accommodation to the plaintiff for the balance amount i.e. ` 3,000. Referring to
the provisions of the Negotiable Instruments Act, 1881 decide whether P would succeed in recovering
the whole amount of the bill ?
Ans. As per Section 44 of the Negotiable Instruments Act, 1881, when the consideration for which a person
signed a promissory note, bill of exchange or cheque consisted of money, and was originally absent in
part or has subsequently failed in part, the sum which a holder standing in immediate relation with such
signer is entitled to receive from him is proportionally reduced.
Explanation - The drawer of a bill of exchange stands in immediate relation with the acceptor. The
maker of a promissory note, bill of exchange or cheque stands in immediate relation with the payee,
and the endorser with his endorsee. Other signers may by agreement stand in immediate relation with
a holder.
On the basis of above provision, P would succeed to recover ` 7,000 only from Q and not the whole
amount of the bill because it was accepted for value as to ` 7,000 only and an accommodation to P for
` 3,000.
6. State briefly the rules laid down under the Negotiable Instruments Act for determining the date of
maturity of a bill of exchange. Ascertain the date of maturity of a bill payable hundred days after sight
and which is presented for sight on 4th May, 2017.

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Ans. Calculation of maturity of a Bill of Exchange : The maturity of a bill, not payable on demand, at
sight, or on presentment, is at maturity on the third day after the day on which it is expressed to be
payable (Section 22, of Negotiable Instruments Act, 1881).
Three days are allowed as days of grace. No days of grace are allowed in the case of bill payable on
demand, at sight, or presentment.
When a bill is made payable at stated number of months after date, the period stated terminates on the
day of the month which corresponds with the day on which the instrument is dated. When it is made
payable after a stated number of months after sight the period terminates on the day of the month
which corresponds with the day on which it is presented for acceptance or sight or noted for non-
acceptance or protested for non-acceptance. When it is payable a stated number of months after a
certain event, the period terminates on the day of the month which corresponds with the day on which
the event happens (Section 23).
When a bill is made payable a stated number of months after sight and has been accepted for honour,
the period terminates with the day of the month which corresponds with the day on which it was so
accepted.
If the month in which the period would terminate has no corresponding day, the period terminates on
the last day of such month (Section 23).
In calculating the date a bill made payable a certain number of days after date or after sight or after a
certain event is at maturity, the day of the date, or the day of presentment for acceptance or sight or the
day of protest for non-accordance, or the day on which the event happens shall be excluded (Section
24).
Three days of grace are allowed to these instruments after the day on which they are expressed to be
payable (Section 22).
When the last day of grace falls on a day which is public holiday, the instrument is due and payable on
the next preceding business day (Section 25).
Answer to Problem : In this case the day of presentment for sight is to be excluded i.e. 4th May,
2017. The period of 100 days ends on 12th August, 2017 (May 27 days + June 30 days + July 31 days
+ August 12 days). Three days of grace are to be added. It falls due on 15th August, 2017 which
happens to be a public holiday. As such it will fall due on 14th August, 2000 i.e. the next preceding
business day.
7. A draws a bill on B. B accepts the bill without any consideration. The bill is transferred to C without
consideration. C transferred it to D for value. Decide -.
i) Whether D can sue the prior parties of the bill, and
ii) Whether the prior parties other than D have any right of action inter se?
Give your answer in reference to the Provisions of Negotiable Instruments Act, 1881.
Ans. Problem on Negotiable Instrument made without consideration : Section 43 of theNegotiable
Instruments Act, 1881 provides that a negotiable instrument made, drawn, accepted, indorsed or
transferred without consideration, or for a consideration which fails, creates no obligation of payment
between the parties to the transaction. But if any such party has transferred the instrument with or
without endorsement to a holder for consideration, such holder, and every subsequent holder deriving
title from him, may recover the amount due on such instrument from the transferor for consideration or
any prior party thereto.

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i) In the problem, as asked in the question, A has drawn a bill on B and B accepted the bill without
consideration and transferred it to C without consideration. Later on in the next transfer by C to
D is for value. According to provisions of the aforesaid section 43, the bill ultimately has been
transferred to D with consideration. Therefore, D can sue any of the parties i.e. A, B or C, as D
arrived a good title on it being taken with consideration.
ii) As regards to the second part of the problem, the prior parties before D i.e., A, B, and C have no
right of action inter se because first part of Section 43 has clearly lays down that a negotiable
instrument, made, drawn, accepted, indorsed or transferred without consideration, or for a
consideration which fails, creates no obligation of payment between the parties to the transaction
prior to the parties who receive it on consideration.

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3 THE GENERAL CLAUSES ACT, 1897

INTRODUCTION
The General Clauses Act, 1897 contains ‘definitions’ of some words and also some general principles of
interpretation. This Act intends to provide general definitions which shall be applicable to all Central Acts and
Regulations if there is no definition in those Acts or regulations. Definitions given in the General Clauses Act,
1897 shall not be used when there is anything repugnant in the subject or context(anything contrary to the
context or subject or some other intention appears). In short General Clauses Act, 1897 applies when there
is no definition “AND” there is nothing repugnant in the subject or context.
The General Clauses Act is very effective in the absence of clear definition in the specific enactments
and where there is a conflict between the pre-constitutional laws and postconstitutional laws. The Act gives
a clear suggestion for the conflicting provisions and differentiates the legislation according to the commencement
and enforcement to avoid uncertainty.
The General Clauses Act, 1897 has been enacted to shorten the language used in parliamentary legislation
and to avoid the repetition of the same words in the same legislation. Act is meant to avoid the superfluity
(multiple meanings) of language in a statute wherever it is possible to do so.
For example: Wherever the law states that court will have the power to appoint, suspend or remove a
receiver, the legislature simply enacted that wherever convenient the court may appoint receiver and it was
implied within that language that it may also remove or suspend him. (Rayarappan V. Madhavi Amma, A.I.R.
1950 F.C. 140) The General Clauses Act, 1897 was enacted on 11th March, 1897 to consolidate and extend
the General Clauses Act, 1868 and 1887.

OBJECT, PURPOSE AND IM PORTANCE OF THE GENERAL CLAUSES ACT


The objects of the Act are several, namely :
1) to shorten the language of Central Acts;
2) to provide uniformity of expression in Central Acts, by giving definitions of terms in common use;
The purpose of the General Clauses Act is to provide one single statute for interpretation of different
provisions, words and legal principles which otherwise have to be specified separately in many different Acts
and Regulations. So whatever General Clauses Act says in respect of meaning of words or legal principles,
has to be read in every statute to which it applies.
For example: The Supreme Court applied the provisions of section 24 of the General Clauses Act to the
Mines Act, 1923 (Chief Inspector of Mines V. Karam Chand Thapar.)
Thus, the General Clauses Act, makes provisions related to construction of laws applicable in India .
Therefore, its importance can be understood from the fact that, it applies to all the Central Acts and Regulation.
For the application of any law the certainty of its writing is desideratum (necessary), an interpretation
Act seeks to provide certainty of its interpretation. Importance of an Interpretation Act in a sense that it can
be called as “Law of all Laws”.
Thus, it can be seen that the purpose of this Act itself shows the importance of the Act.

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APPLICATION OF THE GENERAL CLAUSES ACT, 1897


Generally laws are applicable to the extent of whole territory of India but this Act does not define any
“territorial extent” clause. Its application is primarily with reference to all Central legislation and also to rules
and regulations made under a Central Act. It is the part of every Central Acts or Regulations. If a Central Act
is applicable to any territory, the General Clauses Act would also deemed to be applicable in that territory and
would apply in the construction of that Central Act.
The provisions of the General Clauses Act are only the rules of interpretation and it apply automatically
in each and every case. It all depends on the facts and circumstances of each case.
In many countries, Legislations similar to the General Clauses Act are called as Interpretation Acts. But,
as the provisions of the General Clauses Act are common to every Central Act, therefore the title “General
Clauses Act” is not less appropriate than the title “Interpretation Act”. The Supreme Court had observed in
the case of Chief Inspector of Mines vs. K. C. Thapar “Whatever the General Clauses Act says, regarding
the meanings of words or legal principles, has to be read into every Act to which it applies.”

Object, Purpose and Importance of General Clauses Act, 1897 :


1. It provides definations for the purpose of uniformity in the expression in the Central Acts
2. It states general rules of Interpretaion
3. It helps to shorten the language of Central Acts
4. Resolves conflict between pre and post -constitutional laws
5. Provides certainty and considered as ‘Law of Laws’
6. The title “General Clauses Act” is not less appropriate than the title “Interpretaion Act”.

SOME BASIC UNDERSTANDINGS OF LEGISLATION


1. “Preamble”: Every Act has a preamble which expresses the scope, object and purpose of the Act. It is
the main source for understanding the intention of lawmaker behind the Act. Whenever there is ambiguity
in understanding any provision of Act, Preamble is accepted as an aid or support for the construction of
the Act.
The Preamble of a Statute is a part of the enactment and can legitimately(legally) be used for construing
it. However, the Preamble does not over-ride the plain provision of the Act but if the wording of the
statute creates doubts , for example, where the words or phrase has more than one meaning and a doubt
arises as to which of the two meanings is intended in the Act, the Preamble can and ought to be referred
to in order to arrive at the proper construction.
In short, the Preamble to an Act discloses the primary intention of the legislature but can only be used for
construction if the language of the statute is not clear. However, it cannot override the provisions of the
enactment.
Example:
1. Preamble of the Negotiable Instruments Act, 1881 states - “An Act to define and amend the law
relating to Promissory Notes, Bills of Exchange and Cheques.”
2. Preamble of the Companies Act, 2013 states - “An Act to consolidate and amend the law relating to
companies.”
3. Preamble of the Companies(Amendment) Act, 2017 states - “An Act to amend the Companies
Act, 2013”.

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In order to understand Preamble of the Act, it is required to know ‘Act’. Act is a bill passed by both the
houses of Parliament and assented to by the President. Whereas ‘Bill’ is a draft of a legislative proposal
put in the proper form which, when passed by both houses of Parliament and assented to by the President
becomes an Act. On getting assent from President, an Act is notified on the Official Gazettes of India.
Example : Concept paper on the Companies Act, 2013 was placed on the website of MCA on 4-8-2004.
Expert committee was constituted on 2-12-2004. Committee submitted its report on 31-5-2005. Companies
Bill, 2008 introduced on 23-10-2008. New Companies Bill, 2009 introduced in Lok Sabha on 3-8-2009.
Referred to standing committee on Finance. Standing committee submitted its report on 31st August,
2010. With recommended changes in the Companies Bill 2009, Companies Bill 2011 was introduced.
Companies Bill, 2012 was introduced and Passed by Lok Sabha on 18-12- 2012. Passed by Rajya Sabha
on 8-8-2013. Act received assent of President on 29- 8-2013 as Companies Act, 2013. Notified in gazette
on 30- 8- 2013.

2. “Definitions”: Every Act contains definition part for the purpose of that particular Act and that definition
part are usually mentioned in the Section 2 of that Act but in some other Acts, it is also mentioned in
Section 3 or in other initial sections. Hence, definitions are defined in the Act itself. However, if some
words have not been defined in the definitions of the Act, the meaning of such words may be taken from
General Clauses Act, 1897.
Generally words are defined in the respective Act but sometimes, definitions are referred in another
statutes. If words are not defined in the respective Acts, such words are to be taken from General
Clauses Act.
Example 1: The word ‘Company’ used in the Companies Act, is defined in section 2(20) of the respective
Act i.e. Companies Act, 2013.
Example 2: Word ‘Security’ used in the Companies Act, 2013 is not defined in the respective Act. It has
been defined under section 2(h) of the Securities Contracts (Regulations) Act, 1956.This word is equivalent
applicable on the Companies Act, 2013. Similarly, the word ‘Digital signature’ used in the Companies
Act, shall be construed as per the section 2(1)(p) of the Information Technology Act, 2000.
Clause 95 of Section 2 of the Companies Act, 2013 clearly says that:
Words and expressions used and not defined in this Act but defined in the Securities Contracts (Regulation)
Act, 1956 (42 of 1956) or the Securities and Exchange Board of India Act, 1992 (15 of 1992) or the
Depositories Act, 1996 (22 of 1996) shall have the meanings given to them in those Acts.
Example 3: The word ‘Affidavit’ used in section 7 during the incorporation of company, in the Companies
Act, 2013, shall derive its meaning from the word ‘Affidavit’ as defined in the General Clauses Act,
1897.
a) “Means” and/or “include” : Some definitions use the word “means”. Such definitions are exhaustive
definitions and exactly define the term.
Example1: Definition of ‘Company’ as given in section 2(20) of the Companies Act, 2013. It states,
“Company” means a company incorporated under this Act or under any previous company law.

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Example 2: Section 2(34) of the Companies Act, 2013 defines the term director as “director”
means a director appointed to the Board of a company.
Some definitions use the word “include”. Such definitions do not define the word but are inclusive in
nature. Where the word is defined to ‘include’ the definition is extensive. The word defined is not
restricted to the meaning given to it but has extensive meaning which also includes the meaning given
to it in the definition section.
Example 1: Section 2(22)(e) of Income Tax Act, 1961 defined the term “dividend” as dividend
includes loan or advance. Here it can be seen that how the ambit of dividend has been extended to
remove chances of fraud.
Example2: Word ‘debenture’ defined in section 2(30) of the Companies Act, 2013 states that
“debenture” includes debenture stock, bonds or any other instrument of a company evidencing a
debt, whether constituting a charge on the assets of the company or not”. This is a definition of
inclusive nature.
Example 3: “Body Corporate” or “Corporation” includes a company incorporated outside India.
[Section 2(11) of the Companies Act, 2013]
The above definition of Body Corporate does not define the term Body Corporate, but just states that
companies incorporated outside India will also be covered under the definition of Body Corporate,
apart from other entities which are called as Body Corporate.
We may also find a word being defined as ‘means and includes’ here again the definition
would be exhaustive.
Example: Share defined under section 2(84) of the Companies Act, 2013, states that “Share” means
a share in the share capital of a company and includes stock; On the other hand, if the word is
defined ‘to apply to and include’, the definition is understood as extensive.
b) “Shall” and “May”: The word ‘shall’ is used for something which is mandatory while the word
‘may’ is used for something which is not mandatory or is only directory. Hence, while interpreting
any provision of law, the words “shall” and “may” have to be given importance to understand what
is mandatory and what is directory under law.
Example 1: Section 3 of the Companies Act, 2013 states that “A company may be formed for any
lawful purpose by…………….”
Here the word used “may” shall be read as “shall”. Usage of word ‘may’ here makes it mandatory’
for a company for the compliance of section 3 for its formation.
Example 2: Section 21 of the Companies Act, 2013, provides that documents / proceeding requiring
authentication or the contracts made by or on behalf of the company, may be signed by any Key
Managerial Personnel or an officer of the company duly authorisd by the Board in this behalf.
Usage of the ‘may’ shall be read as ‘may’.
The use of word ‘shall’ with respect to one matter and use of word ‘may’ with respect to another
matter in the same section of a statute, will be meant that the word ‘shall’ imposes an obligation,
whereas word ‘may ’gives a discretionary power ( Labour Commr., M.P.V. Burhanpur Tapti Mill,
AIR, 1964 SC1687).

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SCOPE OF THE ACT:


The Scope and effect of each section depends upon the text of the particular section.
Example: Section 3 of the General Clauses Act, which deals with the definitional clause, applies to the
General Clauses Act itself and to all Central Acts and Regulations made after the commencement of the
General Clauses Act in 1897. Similarly section 4 of the General Clauses Act which deals with the application
of foregoing definitions to previous enactment, applies to Central Acts and after January 3, 1868 and to
regulations made after January 14, 1887. So there is a difference in the applicability of each section as
regards the statutes to which it applies.
The language of each section of the General Clauses Act has to be referred to ascertain to which
enactment it applies. In certain cases, even if no section of the General Clauses Act applies to particular
case, but the Court apply the general principles (interpretaion rules) of the General Clauses Act.
It may also be noted that though Act does not apply to State laws, as there are State General Clauses Acts,
the State General Clauses Acts should conform to the General Clauses Act of 1897, otherwise, different
rules of construction and interpretation would apply, and. therefore great confusion may arise.

PRELIMINARY [SECTION 1]
“Short title” [Section 1(1)] : This Act may be called the General Clauses Act, 1897. Preliminary is the
introductory part of any law which generally contains Short Title, extent, commencement, application etc.
The General Clauses Act contains only short title in the Preliminary part of the Act. The Act, came into force
on 11th March, 1897.

DEFINITIONS [SECTION 3]
Three sections of the General Clauses Act, i.e., sections 3 (Definitions), 4 (application of foregoing
definitions to previous enactment) and 4A (Application of certain definitions to Indian laws), - contain general
definitions.
Section 3, which is the principal section containing definitions, applies to the General Clauses Act itself
and to all post-1897 Central Acts and Regulations unless those laws contain separate definitions of their own
or there is something repugnant in the subject or context and hence definition given in section 3 cannot be
applied.
1. “Act” [Section 3(2)] : ‘Act’, used with reference to an offence or a civil wrong, shall include a series of
acts, words and illegal omissions;
2. “Affidavit” [Section 3(3)] : ‘Affidavit’ shall include affirmation and declaration by law allowed to affirm
or declare instead of swearing. There are two important points derived from the above definition :
i) Affirmation and declaration,
ii) allowed affirming or declaring instead of swearing.
The above definition is inclusive in nature. It states that Affidavit shall include affirmation and declarations.
This definition does not define affidavit. However, we can understand this term in general parlance.
Affidavit is a written statement confirmed by oath or affirmation for use as evidence in Court or before
any authority.

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3. “Central Act” [Section 3(7)] : ‘Central Act’ shall mean an Act of Parliament, and shall include:
a) An Act of the Dominion Legislature or of the Indian Legislature passed before the commencement
of the Constitution*, and
b) An Act made before the commencement of the Constitution by the Governor General in Council or
the Governor General;
*The date of the commencement of the Constitution is 26th January, 1950.
4. “Central Government” [Section 3(8)]: ‘Central Government’ shall-
a) Before the commencement of the Constitution, mean the Governor General in Council, and shall
include:
i) the Government of a Province, under section 124(1) of the Government of India Act, 1935,
ii) the Chief Commissioner of a Province, under section 94(3) Government of India Act, 1935,
and
b) After the commencement of the constitution of the Constitution, mean the President; and shall
include:
i) the State Government under clause (1) of the article of the Constitution,
ii) the Chief Commissioner or the Lieutenant Governor or the Government of a neighbouring
State for the administration of a Part C State as per autority given under the Constitution and
iii) the Administrator for the administration of a Union territory, under article 239 of the Constitution;
*The date of commencement of the Constitution (Seventh Amendment) Act, 1956 is 01st January, 1956.
5. “Commencement” [Section 3(13)]: ‘Commencement’ used for an Act or Regulation, shall mean the
day on which the Act or Regulation comes into force (becomes effective or applicable);
A Law cannot be said to be in force unless it is brought into operation by legislative enactment, or by the
use of authority by a delegated legislation to bring it into operation.
6. “Document” [Section 3(18)]: ‘Document’ shall include any matter written, expressed or described on
any substance by letters, figures or marks or by their combinations which is intended to be used for the
purpose or recording that matter.
For example, book, file, painting, inscription and even computer files are all documents.
7. “Enactment” [Section 2(19)]: ‘Enactment’ shall include a Regulation and any Regulation of Bengal,
Madras or Bombay Code, and shall also include any provision contained in any Act or in any such
Regulation;
It has been held that an “enactment” would include any Act or a provision contained in it. Since “enactment”
is defined to include provision of an Act also, section 6 (Effect of repeal) would apply to a case where not
only the entire Act is repealed, but also where any provision of an Act is repealed.
8. “Financial Year” [Section 3(21)]: Financial year shall mean the year commencing on the first day of
April.
The term Year has been defined under Section 3(66) as a year reckoned according to the British
calendar. Thus as per General Clauses Act, Year means calendar year which starts from January to
December.
Difference between Financial Year and Calendar Year: Financial year starts from first day of April
but Calendar Year starts from first day of January.

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9. “Good Faith” [Section 3(22)]: A thing shall be deemed to be done in “good faith” where it is in fact
been done honestly, whether it is done negligently or not. The question of good faith under the General
Clauses Act is one of fact. It is to be understood in the circumstances of each case.
The term “Good faith” has been defined differently in different enactments. The definition of the
good faith given in the General Clauses Act, 1897 does not apply to that enactment which contains a
special definition of the term “good faith” and there the definition given in that particular enactment has
to be followed. This definition may be applied only if there is nothing repugnant in subject or context, and
if that is anthing repugnant, the definition is not applicable.
In Maung Aung Pu Vs. Maung Si Maung, it was pointed out that the expression “good faith” is not
defined in the Indian Contract Act, 1872 and the definition given here in the General Clauses Act, 1897
does not expressly apply the term on the Indian Contract Act because of repugnancy in the contex.
The definition of good faith as is generally understood in the civil law and which may be applicable in
understanding the expression in the Contract Act is that nothing is said to be done in good faith
which is done without due care(i.e. done negligently) and attention which is expected with a
man of ordinary prudence. An honest purchase made carelessly without making proper enquiries
cannot be said to have been made in good faith in order to transfer the title as good title in case of default
by seller.
Example: Some cattle belonging to A are left in the custody of B. Cattles are released daily for grazing
purpose and cattles generally returned before 10 p.m. One day, a cattle did not returned without B’s
negligence. B having good faith, conducted a search to find cattle, but did not inform to the owner nor to
the police. After few days, cattle was found dead. A may recover loss, although B in good faith did not
inform him, but his faith was not supported by proper reasonable care, he was negligent in care exercise
by a man of ordinary prudence, hence he shall be liable.
10. “Government” [Section 3(23)]: ‘Government’ or ‘the Government’ shall include both the Central
Government and State Government.
Hence, wherever, the word ‘Government’ is used, it will include Central Government and State Government
both.
11. “Government Securities” [Section 3(24)]: ‘Government securities’ shall mean securities of the Central
Government or of any State Government, but in any Act or Regulation made before the commencement
of the Constitution shall not include securities of the Government of any Part B state;
12. “Immovable Property” [Section 3(26)]: ‘Immovable Property’ shall include:
i) land,
ii) benefits arise out of land, and
iii) things attached to the earth, or
iv) permanently fastened to anything attached to the earth.
It is an inclusive definition. It contains four elements: land, benefits arise out of land, things attached
to the earth and things permanently fastened to anything attached to the earth. Where, in any enactment,
the definition of immovable property is in the negative and not exhaustive, the definition as given in the
General Clauses Act will apply to the expression given in that enactment.

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Example 1: Trees are immovable property because trees are benefits arise out of the land and attached
to the earth. However, timber is not immovable property as the same are not permanently attached to the
earth. Timber as per Indian Forest Act 1927 is defined as “timber includes trees, when they have fallen
or have been felled, and wood whether cut up or fashioned or hollowed out for any purpose or not”.
In the same manner, buildings are immovable property.
Example 2: Any machinery fixed to the soil, standing crops can be held as immovable property according
to the General Clauses Act, 1897.
13. “Imprisonment” [Section 3(27)]: ‘Imprisonment’ shall mean imprisonment of either description (term
of imprisionment or fine or both) as defined in the Indian Penal Code (45 of 1860);
14. “Indian law” [Section 3(29)]: ‘Indian law’ shall mean any Act, Ordinance, Regulation, rule, order, bye
law which before and after the commencement of the Constitution had applicability in any Province of
India or any Part A or Part C State but does not include any Act of Parliament of the United Kingdom.
15. “Month” [Section 3(35)]: ‘Month’ shall mean a month reckoned according to the British calendar;
16. “Movable Property” [Section 3(36)] : ‘Movable Property’ shall mean property of every description,
except immovable property.
Thus, any property which is not immovable property is movable property.
17. “Oath” [Section 3(37)]: ‘Oath’ shall include affirmation and declaration by law allowed to affirm or
declare instead of swearing.
18. “Offence”[Section 3(38)]: ‘Offence’ shall mean any act or omission punishable by any law for the
time being in force.
19. “Official Gazette” [Section 3(39)]: ‘Official Gazette’ or ‘Gazette’ shall mean:
i) The Gazette of India, or
ii) The Official Gazette of a state.
20. “Person”[Section 3(42)]: “Person” shall include:
i) any company, or
ii) association, or
iii) body of individuals, whether incorporated or not
21. “Registered” [Section 3(49)]: ‘Registered’ used with reference to a document, shall mean registered
in India under the law for the time being force for the registration of documents.
22. “Rule” [Section 3(51)]: ‘Rule’ shall mean a rule made in exercise of a power conferred by any
enactment, and shall include a Regulation made as a rule under any enactment;
23. “Schedule” [Section 3(52)] : ‘Schedule’ shall mean a schedule to the Act or Regulation in which the
word occurs;
24. “Section” [Section 3(54)] : ‘Section’ shall mean a section of the Act or Regulation in which the word
occurs;
25. “Sub-section” [Section 3(61)]: ‘Sub-section’ shall mean a sub-section of the section in which the
word occurs;
26. “Swear” [Section 3(62)]: “Swear”, shall include affirming and declaring in the case of persons by law
allowed to affirm or declare instead of swearing.
Note : The terms “Affidavit”, “Oath” and “Swear” have the same definitions in the Act.

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27. “Writing” [Section 3(65)]: ‘writing’ shall include printing, lithography (words written on stones or
metals), photography and other modes of representing or reproducing words in a visible forms;
28. “Year” [Section 3(66)]: ‘year’ shall mean a year reckoned according to the British calendar.

Application of foregoing (previously stated) Definitions to previous Enactments [Section 4]:


There are certain definitions in section 3 of the General Clauses Act, 1897 which would also apply to the Acts
and Regulations made prior to 1897 i.e., on the previous enactments of 1868 and 1887. This provision is
divided into two parts:
1) Application of terms/expressions to all Central Acts made after the third day of January, 1868,
and to all Regulations made on or after the 14th January, 1887:
The definitions in section 3 of the words ‘affidavit’, ‘immovable property’, ‘imprisonment’, “month’,
‘movable property’, ‘oath’, ‘person’, ‘section’, ‘and ‘year’ shall apply to all Central Acts made after the
3rd January, 1868, and to all Regulations made on or after the 14th January, 1887.
2) Application of terms/expressions to all Central Acts and Regulations made on or after the
14th January, 1887:
The definitions in the section 3 of the words ‘commencement’, ‘financial year’, ‘offence’, ‘registered’,
schedule’, ‘sub-section’ and ‘writing’ shall apply to all Central Acts and Regulations made on or after
14th January, 1887.
Application of certain Definitions to Indian Laws [Section 4A]:
1) The definitions in section 3 of the words ‘Central Act’, ‘Central Government’, “Gazette’, ‘Government’,
‘Government Securities’, ‘Indian Law’, and “Official Gazette’, ‘shall apply to all Indian laws.
2) From 1st April, 1950, in any Indian law, words related to revenues of the Central Government or of any
State Government shall be construed the Consolidated Fund of India or the Consolidated Fund of the
State, as the case may be.

GENERAL RULES OF CONSTRUCTION [SECTION 5 to SECTION 13]


Coming into operation of Enactment [Section 5]:
If any Central Act does not specifically mentioned a particular date to come into force or become
applicable, it shall be applicable from the day when it receives the assent of the Governor General before the
commencement of the Constitution and/or, of the President in case of an Act of Parliament after the the
commencement of the Constitution.
For example: The Companies Act, 2013 received assent of President of India on 29th August, 2013 and it
was notified in Official Gazette on 30th August, 2013 with the application of section 1 of the Act. Accordingly,
the Companies Act, 2013 came into enforcement on the date of its publication in the Official Gazette.
But if any specific date of enforcement is given in the Official Gazette, Act shall come into enforcement from
such date.
For example: SEBI (Issue of Capital and Disclosure Requirements) (Fifth Amendment) Regulations, 2015
was issued by SEBI vide Notification dated 14th August, 2015 with effect from 1 January, 2016. Here, this
regulation shall come into enforcement on 1st January, 2016 rather than the date of its notification in the
gazette.

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In the case of State of Uttar Pradesh v. Mahesh Narain, AIR 2013 SC 1778, Supreme Court held that
effective date of rules would be when the rules are published through gazette notification and not from date
when the rules were under preparation.

Effect of Repeal [Section 6]:


If any Central legislation or any regulation repeals any Act, then the repeal shall not:
i) revive anything not enforced or prevailed at the time of repeal or;
ii) affect the prior management or anything done before such repeal or;
iii) affect any claim, privilege, responsibility or debt obtained, under any legislation so repealed or;
iv) affect any punishment, forfeiture or penaltyor
v) affect any inquiry, litigation or remedy.
Sec 6 deals with the repeal of Original Act whereas Sec 6A deals with the repeal of Amendment Act
which was passed to ammend the Original Act. The purpose of Sec 6 is, to keep any pending or completed
claim, order, proceeding etc. unaffected under the Act which was in operation before it was repealed.
For example: Any inquiry, investigation or order passed under the Companies Act, 1956, shall not be
affected due to the repeal and re-enactment of Companies Act, 2013.
In State of Uttar Pradesh v. Hirendra Pal Singh, (2011), 5 SCC 305, SC held that whenever an Act is
repealed, it must be considered as if it had never existed. Object of repeal is to obliterate the Act from
statutory books, except for certain purposes as provided under Section 6 of the Act.
In Kolhapur Canesugar Works Ltd. V, Union of India, AIR 2000, SC 811, Supreme Court held that
section 6 applies to repeals only and not to omissions and applies when the repeal is of a Central Act or
Regulation and not of a Rule.
In Navrangpura Gam Dharmada Milkat Trust v. Rmtuji Ramaji, AIR 1994 Guj 75: ‘Repeal’ of provision
is different from ‘deletion’ of provision. ‘Repeal’ means complete obliteration of the provision as if it never
existed, therefore it affects all the rights while ‘deletion’ takes effect from the date of such deletion.

“Repeal of Act making textual amendment in Act or Regulation” [Section 6A] :


If any Central Act or Regulation repeals any amendment enactment by which any Central Act or Regulation
was amended then the repeal shall not affect the continuance of any such amendment made by such
amendment enactment so repealed, at the time of such repeal. Amendment can be done by way of omission,
insertion or substitution of any provision in the Principal Act.
Acts are amended from time to time to make changes in the law according to the need. Amendment may
be done by way of notification or sometimes a separate Amendment Act is passed to amend the Original Act.
For example: For the purpose of amendment of Companies Act 2013 various amendment Acts have
been passed from time to time such as Companies (Amendment) Act 2015 and Companies (Amendment)
Act 2017.

Sec 6A deals with the repealing of Amendment Acts. It states that where any Amendment Act is repealed
then such amendments (any proceedings etc under such Amendment Act) shall remain unaffected and
continue to apply at the time when such amendment was in force.

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Revival of Repealed Enactments [Section 7] :


1. In any Central Act or Regulation it shall be necessary, for the purpose of reviving any already repealed
enactment (Act or provision) either wholly or partially, expressly to state that purpose.
2. This section applies to all Central Acts made after the 3rd January, 1968 and to all Regulations made on
or after 14th January, 1887.
If any Central Act has been made to revive any repealed Act, then that Act must epxressly state about
reviving of repealed enactment.

Construction of references to Repealed Enactments [Section 8] :


1. Where this Act or Central Act or Regulation repeals and re-enacts any provision of a former (old)
enactment, then references in any other enactment to the provision so repealed shall be construed as
references to the provision so re-enacted.
2. Where before 15th August, 1947, any Act of Parliament of the United Kingdom repealed and re-enacted,
any provision of a former (old) enactment, then reference in any Central Act or in any Regulation or to
the provision so repealed shall be construed as references to the provision so re-enacted (new).
If any Act is repealed and re-eancted but in other Laws the reference of such re-enacted law has
not be given rather the reference of old repealed Act has been given then reference to old repealed Act
shall be understood as reference to newly re-enacted Act. For exmaple Sec 25 License Companies
were registered under the old Companies Act 1956 and are still in existence but under the re-enacted
Companies Act 2013 corressponding Sec for 25 is Sec 8 so if in any other laws Sec 25 is wirtten then,
the reference to Sec 25 shall be understood as reference to Sec 8 of Companies Act, 2013.
In Gauri Shankar Gaur v. State of U.P., AIR 1994 SC 169, it was held that every Act has its own
distinction. If a later Act merely makes a reference to a former Act or existing law, it is only new law
that is subsequently made will have effect.
For example: In section 115 JB of the Income tax Act, 1961, for calculation of book profits, the
Companies Act, 1956 are required to be referred. With the advent of Companies Act, 2013, the
corresponding change has not been made made in section 115 JB of the Income tax Act, 1961. On
referring of section 8 of the General Clauses Act, book profits to be calculated under section 115 JB of
the Income Tax Act will be as per the Companies Act, 2013.
Commencement and Termination of Time [Section 9]:
In any legislation or regulation, it shall be sufficient for the word “from” to exclude the first day and for
the word “to” to include the last day.
For example: If a company declares dividend for its shareholder in its Annual General Meeting held on
30/09/2016. Under the provisions of the Companies Act, 2013, company is required to pay declared dividend
within 30 days from the date of declaration i.e. from 01/10/2016 to 30/10/2016. In this series of 30 days, 30/
09/2016 will be excluded and last 30th day i.e. 30/10/2016 will be included.
Computation of Time [Section 10] :
If any act or proceeding is allowed to be done or taken in any Court or office on a certain day or within
a prescribed period then, if the Court or office is closed on that day or last day of the prescribed period, the
act or proceeding can be taken done taken on the next day afterwards on which the Court or office is open.

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In other words if any proceeding is to be taken on a particular day and on such day the Court is closed
then it shall be valid to take such proceedings can be done on next day.

For example: Under Sec 138 of Negotiable Instrument Act, 1881 a complaint must be filed within
1 month from the date of cause of action arises and suppose that day comes on 3rd January and suddenly
Government issues notification on 1st Janauary, to decalre national holiday from 2nd January to 6th January
then as per section 10 the complaint can be filed on 7th January.
In K. Soosalrathnam v. Div. Engineer, N.H.C. Tirunelveli, it was held by Madras High Court that since
the last date of the prescribed period was subsequent to the date of notification that declared holiday then on
the basis of this section the last date of prescribed period was extended to the next working day.
Measurement of Distances [Section 11]:
In the measurement of any distance, that distance shall be measured in a straight line on a horizontal
plane.

Duty to be taken pro rata in Enactments [Section 12]:


If any customs or excise duty is leviable on any given quantity, by weight, measure or value of any goods,
then a like duty is leviable according to the same rate on any greater or less quantity.

Gender and Number [Section 13] :


In all legislations and regulations, unless there is anything repugnant in the subject or context:
i) Words related to masculine gender shall be taken to include females, and
ii) Words in singular shall include the plural and vice versa.

POWER AND FUNCTIONARIES [SECTION 14 TO SECTION 19]


Power conferred to be exercisable from time to time [Section 14]:
i) Where, by any Central Act or Regulation any power is conferred(given) then that power may be exercised
from time to time as occasion requires.
ii) This section applies to all Central Acts and Regulations made on or after 14th January, 1887.

Power to Appoint to include Power to Appoint Ex- officio [Section 15]:


Where by any legislation or regulation, a power to appoint any person is given[to fill any office or execute
any function is conferred, then unless it is otherwise expressly provided,] then any such appointment, may be
made either by name or by virtue of office.

Ex-officio is a Latin word which means by virtue of one’s position or office. Provision under this
section states that where there is a power to appoint, the appointment may be made by appointing
ex-officio as well.
For example, Prime Minister of India is the ex-officio chairman of the NITI Ayog, Vice President is
the speaker of Rajya Sabha.

Power to Appoint to include Power to Suspend or Dismiss [Section 16]:


The authority having power to make the appointment shall also have power to suspend or dismiss any
person appointed.

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Substitution of Functionaries [Section 17] :


1. It shall be sufficient to mention the official title of the officer performing the duties, for the purpose of
indicating the application of a law to every person performing the duties of that office.
2. This section applies also to all Central Acts made after the third day of January, 1868 and to all Regulations
made on or after the fourteenth day of January, 1887.
Person discharging duties is generally referred with the title such as President, Prime Minister etc. It is
not necessary to use the name of that person and it is also because the person may change from time to
time but title remains the same. So if any law applies to any person and that person has title then it is
sufficient if it is stated that the law applies to the title then such law shall apply to all the persons who may
hold such title from time to time.

Successors [Section 18]:


i) It shall be sufficient to express application of law to the functionaries for the purpose of application of a
law to the successors of any functionaries having perpetual succession,
i) This section shall also applies to all Central Acts made after the 3rd January, 1868 and to all Regulations
made on or after 14th January, 1887.
Successor means a person who has been appointed to discharge the fucntion of any office which were
prreviously been discharged by his predecessor. Sec 18 states that where any law applies to any functionary
(person resposible to discharge functions) then such law applies to the successor of that functionary. And
for the purpose of applicability of any law to successor it is sufficient to state that, the law applies to
functionary so even if it is written that law applies to the fucntionary it shall also apply to the successor of
such fucntionary.

Official Chiefs and Subordinates [Section 19] :


A law applicable to the chief or superior of an office shall apply to the deputies or subordinates lawfully
performing duties of that office in the place[in the absence] of their superior.

PROVISION AS TO ORDERS, RULES ETC. MADE UNDER ENACTMENTS [SEC. 20 TO SEC. 24]
Construction of Orders, etc., issued under Enactments [Section 20]:
If through any legislation or regulation, a power to issue any notification, order, scheme, rule, form, or
bye-law is conferred, then expression words used in the notification, order, scheme, rule, form or bye-law,
shall, have the same respective meaning as given in the Act or regulation which is conferring the power to
issue them.
In Subhash Ram Kumar v. State of Maharashtra, AIR 2003 SC 269, it was held that ‘Notification’ in shall
mean a formal announcement of legal fact and “notification publish in Official Gazette” means notification
published by the authority of law.

In other words, if any term, word or expression is used in any notification issued under the Act then
meaning of such word shall be taken from the Act under which such notification is issued. For example,
CG has issued Companies (Auditors Report) Order, 2016 in which expression “paid up share capital” has
been used so the meaning of paid up share capital shall be taken as defined under the Companies Act,
2013.

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Power to issue, to include power to Add to, Amend, Vary or Rescind Notifications, Orders, Rules or
Bye- laws [Section 21]:
Where by any legislations or regulations a power to issue notifications, orders, rules or bye-laws is
conferred, then that power can also be exercised to add, amend, or rescind any notifications, orders, rules or
bye laws so issued.
In Rasid Javed v. State of Uttar Pradesh, AIR 2010 SC 2275, Supreme Court held that under Section 21
of the Act, an authority which has the power to issue a notification has the undoubted power to rescind or
modify the notification in the like manner.
In Shreesidhbali Steels Ltd. V. State of Uttar Pradesh, AIR 2011 SC 1175, Supreme Court held that
power under section 21 of the Act is not so limited as to be exercised only once power can be exercised from
time to time having regard to exigency of time.
In other words, if any power is given to issue notification then such power shall also include to amend the
notificaiton already issued. Such amendment may be done by way of addition, variation or rescission etc.
For exmaple: CG has power to issue rules under the Companies Act, 2013 so by way of above provisions
CG may, after issue of such rules, amend such rules.

M AKING OF RULES OR BYE- LAWS AND ISSUING OF ORDERS BETWEEN PASSING AND
COMMENCEMENT OF ENACTMENT [SECTION 22] :
If through any Central Act or Regulation a power is conferred to make rules or bye-laws, or to issue
orders for the application of the Act or Regulation or to establish any Court or appointment of any Judge or
officer under the Act or Regulation, then that power may be exercised at any time after passing of the Act or
Regulation; but rules, bye-laws or orders issued shall not take effect till the commencement of the Act or
Regulation.
Act passed by the Parliament is supreme law but sometimes, power to make laws is delegated by the
Parliament to the Goverment such as power given to make rules under the Companies Act 2013 to the
CG.. If by exercising such power CG make and issue any such rule then such rule shall not take effect or
be enforceable unlill the Act under which such powers were given comes into effect or becomes effective.
For example various rules have been issued by the CG under the Companies Act 2013 such rules cannot
become effective unless the supreme law “Companies Act, 2013” comes into force.

Provisions applicable to making of rules or bye- laws after previous publications [Section 23] :
Laws are made to bring harmony among the peoples to avoid conflict and maintain law and order. If
these laws are made to regulate peoples and their life then it is important to take into consideration their
suggestions and objections. So, before implementing any law, a draft copy of law is published so that
peoples who are going to be affected by such law have opportunity to give their suggestions to law
makers. It is good practice to publish draft laws to make the people aware that lawmakers are desirous
of making a law and if they wish they may give their suggestions, so that the law cover all the relevant
provisions in it. The draft law contians notice of time period within which suggestions can be made.
Sometimes before making rules or bye-laws prior approval of other authority is required then the approval
must be taken and then finally law is published in the officical gazatte and such publication is the conclusive
evidence that all the procedures were followed. For example: CG before making laws related banks and
insurance companies takes adviseof RBI or IRDA respectively.

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Where, by any Central Act or Regulation, a power to make rules or byelaws is given subject to the
condition that the rules or bye-laws to be made only after its previous publication, then the following provisions
shall apply, namely:
i) Before making rules or bye-laws, the law making authority shall publish a draft copy of the proposed
rules or bye-laws for the information of persons who are going to be affected thereby;
ii) The publication shall be made in such manner as that authority deems sufficient, or in such manner as the
concerned Government prescribes;
iii) Along with the publishment, a notice specifying a last date after which the draft will be taken into
consideration for final law making, shall also be published;
iv) If before making rules or bye-laws prior approval or sanction is required from another authority then it
must be obtained from that another authority and there suggestions must be consider in making of laws.
v) The publication of rule or bye-law in the Official Gazette by making its previous publication shall be
conclusive proof that the rule or bye-laws has been duly made.

CONTINUATION OF ORDERS ETC, ISSUED UNDER ENACTMENTS REPEALED AND RE- ENACTED
[SECTION 24] : Where any Central Act or Regulation, after the commencement of this Act, is repealed and
re-enacted with or without modification, then unless it is otherwise expressly provided, any appointment,
notification, order, scheme, rule, form or bye-law, made or issued under the repealed Act, continue in force,
and be deemed to have been made or issued under the notification, order, scheme, rule, form or bye-law,
made or issued under the provisions so re-enacted.

In other words, Sec 24 provides that where the repealed and re-enacted provisions are not in conflict
with each other, an order made under the repealed provision shall continue and be deemed to be an order
under the re-enacted provision. For example any order issued under the Companies Act, 1956 shall be
deemed to be an order under Companies Act, 2013 if there is no conflict between old and new law.

In State of Punjab v. Harnek Singh, AIR 2002 SC 1074, It was held that investigation conducted by
Inspectors of Police, under the authorization of notification issued under Prevention of Corruption Act, of
1947 will be proper and will not be quashed under new notification taking the above power, till the
aforesaid notification is specifically superseded or withdrawn or modified under the new notification.
2. [And when by any notification under section 5 or 5A of the Scheduled District Act, 1874 any Central Act
or Regulation has been extended (applied) to any local area and then by a subsequent notification has
been withdrawn (removed) from and re-extended (again reapplied) to such area, the provisions of such
Act orRegulation shall be deemed to have been repealed and re-enacted in such area or part within the
meaning of this section.]

Sec 5 and 5A of Schedule Districts Act, 1874 permits government to apply any Central Act to local
areas by way of notification. If any such notification has been issued to apply a Central Act to a
particular local area and subsequently that notification is withdrawn from that local area and again re-
applied to that local area then such withdrawal and reapplication shall be understood as the provision of
such Central Act shall be deemd to have been repealed and re-enacted in that local area.

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MISCELLANEOUS [SECTION 25 TO SECTION 30]


Recovery of Fines [Section 25] :
Section 63 to 70 of the Indian Penal Code and the provisions of the Code of Criminal Procedure relaed
to the issue and the execution of warrants for the levy of fines shall apply to all fines imposed under any Act,
Regulation, rule or bye-laws, unless otherwise is required. [unless the Act, Regulation, rule or bye-law contains
an express provision to the contrary.]
Provision as to Offence punishable under two or more Enactments [Section 26] :
Where an act or omission constitutes an offence under two or more enactments, then the offender shall
be liable to be prosecuted and punished under either or any of those enactments, but shall not be punished
twice for the same offence.

Sec 26 deals with Double Jeopardy (multiple punishment) which states that no person shall be prosecuted
or punished for the same offence more than once.

Meaning of Service by Post [Section 27]:


Where any legislation or regulation requires any document to be served by post, [then unless a different
intention appears], the service shall be deemed to be effected by:
i) properly addressing
ii) pre-paying, and
iii) posting by registered post.
A letter containing the document will be effected at the time at which the letter would be delivered in the
ordinary course of post.
In United Commercial Bank v. Bhim Sain Makhija, AIR 1994 Del 181: If under under any statutory rules
a notice is required to be sent by ‘registered post acknowledgement due’ and it is sent by ‘registered post’ the
protection of presumption that notice has been served under this section of the General Clauses Act, 1897 is
neither tenable nor available.
In Jagdish Singhv. Natthu Singh, AIR 1992 SC 1604, it was held that where a notice is sent to the landlord
by registered post and the same is returned by the tenant with an endorsement of refusal, it will be presumed
that the notice has been served.
In Smt. Vandana Gulati v. Gurmeet Singh alias Mangal Singh, AIR 2013 All 69, it was held that where
notice sent by registered post to concerned person at proper address is deemed to be served upon him in due
course unless contrary is proved. Endorsement ‘not claimed/not met’ is sufficient to prove deemed service of
notice.

Citation (Reference) of Enactments [Section 28] :


1. In any Central Act or Regulation, and in any rule, bye law, instrument or document, any other enactment
may be cited by refering its title or short title or by its number and years, and any provision in an
enactment may be cited by refering its section or sub-section of the enactment in which the provision is
contained.

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For example : The Companies Act 2013


Act no. 18 of 2013
So, the Companies Act 2013 may be cited by its name or its number and year or by its section or
subsection.
2. In this Act and in any Central Act or Regulation any citation of a portion of another enactment shall,
[unless a different intention appears,] be construed including the word, section or other part mentioned or
forming the beginning and the end of the portion comprised in the description or citation.

If in General Clauses Act, 1897 or any Central Act or Regulation, a reference of another Act is given
then that reference shall be understood to include the word, section or other parts from beginning to end.
For example : In Companies Act, 2013 reference of Sec. 2(1)(b) of Chartered Accountant Act, 1949 is
given in that case such reference shall cover entire Sec 2(1)(b) from beginning to end except a different
intention appears.

Saving for previous enactments, rules and bye laws [Section 29] :
The provisions of this Act related to the construction of Acts, Regulations, rules or bye-laws made after
commencement of this Act shall not affect the construction of any Act, Regulation, rule or bye-law made
before the commencement of this Act, even if the Act, Regulation is continued or amended by an Act,
Regulation, rule or bye-law made after the commencement of this Act.

In other words the interpretation provision of this Act shall not affect the interpretaion of any Act which
were made before the commencement of General Clauses Act, 1897 even if that Act is continuing or
amended after the commencement of General Clauses Act 1897.

Application of Act to Ordinances [Section 30] :


In this Act the word Central Act, [wherever it occurs, except in Section 5] and the word ‘Act’ in clauses
(9), (13), (25), (40), (43), (53) and (54) of section 3 and in section 25 shall be deemed to include Ordinance
made and promulgated by the Governor General under section 23 of the Indian Councils Act, 1861 or section
72 of the Government of India Act, 1915, or section 42 of the Government of India Act, 1935 and an Ordinance
promulgated by the President under article 123 of the Constitution.
In short, the word Central Act also includes Ordinances.

MULTIPLE CHOICE QUESTIONS

1. The General Clauses Act, 1897 intends to:


a) Provide general definitions.
b) Applicable to all Central Acts and Regulations.
c) Applicable where there is no definition, unless there is anything repugnant in the subject or context.
d) All of the above.
2. The General Clauses Act is one of the oldest Acts, came into force on:
a) 01st April, 1897 b) 11th March, 1897
c) 11th March, 1887 d) 01st April, 1868

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3. The preamble is most important in any legislation, it:


a) Provides definitions in the Act. b) Expresses scope, object and purpose of the Act.
c) Provides summary of the entire Act. d) None of the above.
4. As per a Rule of an Educational Institution, every student may come on weekends for extra classes but
every student shall appear on a weekly test conducted in the institute, which means:
a) Attending weekend classes is optional but appearing in weekly test is compulsory
b) Attending weekend classes is compulsory but appearing in weekly test is optional
c) Attending weekend classes and appearing in weekly test, both are compulsory for students
d) Attending weekend classes and appearing in weekly test both are optional for students.
5. Which of the following is not an Immov able Property:
a) Land
b) Building
c) Timber
d) Machinery permanently attached to the land
Ans. 1. (d) 2. (b) 3. (b) 4. (a) 5. (c)

PRACTICAL QUESTIONS AND ANSWERS

1. What is “Financial Year” under the General Clauses Act, 1897?


Ans. According to Section 3(21) of the General Clauses Act, 1897, ‘Financial Year’ shall mean the year
commencing on the first day of April.
The term year has been defined under Section 3(66) as a year reckoned according to the British
calendar. Thus as per General Clauses Act, Year means calendar year which starts from January to
December.
Hence, in view of the both above definitions, it can be concluded that Financial Year is a year which
starts from first day of April to the end of March
2. What is “Immovable Property” under the General Clauses Act, 1897?
Ans. According to Section 3(26) of the General Clauses Act, 1897, ‘Immovable Property’ shall include:
i) Land,
ii) Benefits to arise out of land, and
iii) Things attached to the earth, or permanently fastened to anything attached to the earth.
For example, trees are immovable property because trees are benefits arise out of the land and attached
to the earth. However, timber is not immovable property as the same are not permanently attached to
the earth. In the same manner, buildings are immovable property.
3. As per the provisions of the Companies Act, 2013, a whole time Key Managerial Personnel (KMP)
shall not hold office in more than one company except its subsidiary company at the same time.
Referring to the Section 13 of the General Clauses Act, 1897, examine whether a whole time KMP can
be appointed in more than one subsidiary companies?

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Ans. Section 203(3) of the Companies Act, 2013 provides that whole time key managerial personnel
shall not hold office in more than one company except in its subsidiary company at the same time. With
respect to the issue that whether a whole time KMP of holding company be appointed in more than one
subsidiary companies or can be appointed in only one subsidiary company.
It can be noted that Section 13 of General Clauses Act, 1897 provides that the word ‘singular’
shall include the ‘plural’, unless there is anything repugnant to the subject or the context. Thus, a whole
time key managerial personnel may hold office in more than one subsidiary company as per the present
law.
4. A notice when required under the Statutory rules to be sent by “registered post acknowledgment due”
is instead sent by “registered post” only. Whether the protection of presumption regarding serving of
notice by “registered post” under the General Clauses Act is tenable? Referring to the provisions of the
General Clauses Act, 1897, examine the validity of such notice in this case.
Ans. As per the provisions of Section 27 of the General Clauses Act, 1897, where any legislation or regulation
requires any document to be served by post, then unless a different intention appears, the service shall
be deemed to be effected by:
i) properly addressing,
ii) pre-paying, and
iii) posting by registered post.
A letter containing the document to have been effected at the time at which the letter would be
delivered in the ordinary course of post.
If under under any statutory rules a notice is required to be sent by ‘registered post acknowledgement
due’ and it is sent by ‘registered post’ the protection of presumption that notice has been served under
this section of the General Clauses Act, 1897 is neither tenable nor available.
Therefore, based on above provision, the statutory rules itself provides about the service of notice that
a notice when required under said statutory rules to be sent by ‘registered post acknowledgement due’,
then, if notice was sent by ‘registered post’ only it will not be the compliance of said rules. However, if
such provision was not provided by such statutory rules, then service of notice if by registered post only
shall be deemed to be effected.
Furthermore, in similar case of In United Commercial Bank v. Bhim Sain Makhija, AIR 1994 Del 181
: A notice when required under the statutory rules to be sent by ‘registered post acknowledgement due’
is instead sent by ‘registered post’ only, the protection of presumption regarding serving of notice under
‘registered post’ under this section of the Act neither tenable not based upon sound exposition of law.
5. State the object / purpose/ importance of the General Clauses Act, 1897.
6. Interpretation Act such as General Clauses Act 1897 are also called as “Law of all Laws”. Comment.
7. Interpretaion Act provides necessary certainty to the expressions in the enactments. Comment.
8. The title “General Clauses Act” is not less appropriate than the title “Interpretaion Act”. Discuss.

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CA-INTERMEDIATE - GR. I INTERPRETATION OF STATUTES, DEEDS AND DOCUMENTS

4 INTERPRETATION OF STATUTES, DEEDS AND DOCUMENTS

INTRODUCTION
Statutes are made to govern the public affairs in order to facilitate peace and harmony or law and order
in the society. Peoples for entering into transactions with each other make agreements and contracts by way
of executing deeds and documents. In order to implement laws and enforce agreements their understanding
is very important. So, under this chapter on ‘Interpretation of Statutes, Deeds and Documents’ we will
learn some principles to interpret them. It would, therefore, be important for us to understand the terms
‘Statute’, ‘Document’, ‘Instrument’, ‘Deed’ and ‘Interpretation’.

MEANINGS
1. ‘Statute’: The terms ‘Statute’ generally means the laws and regulations of every type without considering
from which source they originate.
However, the term ‘Statute’ has been defined as the written will of the legislature solemnly expressed in
particular form to make it as the law of the State. Normally, the term means an Act enacted by the
legislative authority (e.g. Parliament/State Legislature).
2. ‘Law’: The terms ‘law’ is defined as including any ordinance, order, bye-law, rule, regulation, notification,
etc. The Constitution does not use the terms ‘statute’ though it uses the terms ‘law’ at many places. On
comparative basis ‘statute’ signifies written law in contradiction to unwritten law.
3. ‘Document’: Generally understood, a document is a paper or other material thing giving information,
proof or evidence of anything.
The Law defines ‘document’ in a more technical form. Section 3 of the Indian Evidence Act, 1872 states
that ‘document’ means any matter expressed or described upon any substance by means of letters,
figures or marks or by their combination, intended to be used for the purpose of recording that matter.
Example : A writing is a document, any words printed, photographed are documents. Section 3(18) of
the General Clauses Act, 1897 states that the term ‘document’ shall include any matter written, expressed
or described upon any substance by means of letters, figures or marks, or by their combination which is
intended to be used for the purpose of recording this matter. Generally, documents comprise of following
four elements :
i) Matter: This is the first element. It is could be information, evidence, proof etc which is recorded.
ii) Record: This second element must which states that matter must be recorded either by writing,
` expression or description.
iii) Substance: This is the third element. It is a material on which matter is recorded such as paper,
electronic disk or device, stones, wood etc.
iv) Means: This represents forth element by which such matter can be recorded such as letters, any
figures, marks, symbols which can be used to communicate between two persons.
4. ‘Deed’: The Legal Glossary defines ‘deed’ as an instrument in writing creating some legal acts. Simply
stated deeds are instruments though all instruments may not be deeds. However, in India no distinction
seems to be made between instruments and deeds.

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5. ‘Instrument’: In common parlance, ‘instrument’ means a formal legal document which creates or
confirms a right or records a fact. It is a formal writing of any kind, such as an agreement, deed, record,
drawn up and executed in a technical form. It also means a formal legal document having legal effect,
either as creating liability or as giving evidence of it. Section 2(14) of the Indian Stamp Act, 1899 states
that ‘instrument’ includes every document by which any right or liability is or supposed to be created,
transferred, extended, extinguished or recorded.
6. ‘Interpretation’: Interpretation means the process by which the Courts tries to ascertain the meaning
of the legislature through the authoritative form of law. In other words, ‘interpretation’ is the process by
which the real meaning of an Act (or a document) and the intention of the legislature in enacting it (or of
the parties executing the document) is ascertained. ‘Interpretation’ means finding the meaning of abstruse
or unclear or ambiguous words, writings, etc., and making out of their meaning, explaining, understanding
them in a specified manner. Thus interpretaion helps a person in interpreting the proper significance of a
section, a proviso, explanation or schedule to an Act or any document, deed or instrument.

IMPORTANCE OF INTEPRETAION
Interpretaion is important because legislation is not immune from possibility of ambiguous or unclear
meaning. The process of statute making and the process of interpretation of statutes take place separately
from each other, and two different agencies or authorities are invloved such as Legislatures on the one hand
and Judiciary on the other. An interpretation of Act becomes a bridge of understanding between the two.
Judicial determination of questions of law requires the use such as reason behind making such law,
societal conditions that made legislator to enact such law etc. In the interpretation of statutory provisions the
only legal material can be used and not a general common law doctrine because it may have a more wider
meaning. Therefore in statutes, greater accuracy is required. The process of interpretation is more legalistic
and uses of the legal technique in the interpretation of statutory provisins, as against the use of common law
rules.
Meaning and difference between question of law and question of facts: Question of law deals
with the interpretation of law when there arises doubt or ambiguity. Question of facts deals with ‘whether
law applies to a particular situation or not’. For example when court decided what ‘fraud’ actually means, so
it is answering to the question of law but when court, based on evidences examines whether fraud has
occured or not, so it is answering question of facts.

CLASSIFICATION OF INTERPRETATION
Jolowicz, in his Lectures on Jurisprudence divides interpretation between ‘legal’ or ‘doctrinal’. It is
‘legal’ when there is an actual rule of law which requires the Judge to make only certain interpretation of the
statute, which means Judges has to follow strictly what has been given in the law expressly.
Interpretaion is ‘doctrinal’ when its purpose is to discover ‘real’ and ‘true’ meaning of the statute.
‘Legal’ interpretation is further sub-divided into ‘authentic’ and ‘usual’. It is ‘authentic’ when rule of
interpretation is derived from the legislator himself, who had incted the law; it is ‘usual’ when it comes from
some other source such as custom or case law.

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For example: When Emperor Justinian (Emperor of Esatern Europe) ordered that all the difficulties
arising out of his legislation should be referred to him for decision and his decision shall be final, so he was
providing for ‘authentic’ interpretation, similarly in Prussian Code, 1794 [Prussian (a german state) Civil
Code], it is stated that Judges should ask any doubt regarding its meaning to a Statute Commission who has
legislated the same and follow commission’s final judgement.

TYPES OF INTERPRETATION

AS PER JOLOWICZ

Legal Doctrinal
If there is an actual rule of law If the purpose is to discover
which requires the judge to make ‘real and ‘true’ meaning
certain interpretation of the satute. of the status.

Authentic Usual Grammatical Logical


When the rule When rule of When the Court When the Court
of interpreation is interpretation comes aplies only the goes beyond the
derived from the from some other source ordinary rules of words and tries to
legislator himself e.g. custom or case law. speech for finding discover the
out the meaning of intention of
the words used in statue in some
the statute. other way

AS PER FITZERALD

Literal Functional
This is related with verbal expression This is beyond the letter of the law and tries
of the law conclusively and does not elsewhere for some other and more statisfactory
look beyond the ‘literaligis’ i.e. the evidence of the true intention of the legislature.
words and the language employed It seeks to determine the relative claims of the
letters and the spirit of the enacted law.

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‘Doctrinal’ interpretation may again be divided into two categories: ‘grammatical’ & ‘logical’. It is
‘grammatical’ when the Court applies only the ordinary rules of speech for finding out the meaning of the
words used in the statute. On the other hand, when the Court by going beyond the literal words, reads
between the lines and tries to discover the intention of the statute in some other way, then it is said that the
Court has used ‘logical’ interpretation.
According to Fitzerald, interpretation is of two kinds - ‘literal’ and ‘functional’. The literal interpretation
is related with with the verbal (written words) expression of the law. It does not look beyond the ‘literaligis’
which means written words. The duty of the Court is to ascertain the intention of the legislature and try to
find out intention, but first of all that intention must be ascertained from the words and the language used.
‘Functional’ interpretation, on the other hand is that, which is not ascertained from the letter of the law rather
it is determined from elsewhere for more satisfactory and the true intention of the legislature. Functional
interpretaion is used when written words are ambiguous or if they are in contrast with the intention of the
legislature.
In other words, it is necessary to determine the meaning based on letters and the spirit of the enacted
law. In all ordinary cases where the meaning is clear, the Courts must be content to accept the letter of the
law as the exclusive and conclusive evidence of the spirit of the law.
INTERPRETATION AND CONSTRUCTION
Interpretation and Construction: It is worthwhile to differentiate the two terms Interpretation and
Construction. While generally the two terms are used interchangeably to refer a process used by the
Courts to ascertain the meaning of the legislation in the form in which it is expressed. These two terms have
different meanings.
The cardinal rule of construction of a statute is to read it literally, which means by giving ordinary, natural
and grammatical meaning to the words used by the legislature. In other words, if the language is simple and
unambiguous, it is to be read with the clear expressed intention of the legislation nothing shall be added or
taken away from it, irrespective of its consequences.
If the language is not clear or it is ambiguousl and natural and grammatical reading leads to absurdity and
the words are susceptible/capable of another meaning, the Court may adopt that another meaning which is
reasonable and sensible but before doing so a statute has to be read as a whole.
DIFFERENCE BETWEEN INTERPRETATION AND CONSTRUCTION
Interpretation differs from construction. Interpretation is finding out the true sense of words, phrases or
sentences expressed and the construction is the making conclusion from the matter/fact that is beyond the
expressed words.
It is the duty of the courts to find out meaning of an Act form the words expressed when the meaning can
be gathered from the words used. When the legislature uses certain words and the particular meaning of that
words has become definite and acceptable over a period of time, then it must be assumed that those words
have been used for that particular meaning only.
Thus, where the Court follows the plain meaning of the language used by the legislature, it would be
‘interpretation’ of the words, but where the meaning is not plain, the Court has to decide the meaning by going
beyond the expressed words and reading between the lines then it would amount to ‘construction’. However,
it is difficult to clearly distinguish the two terms ‘interpretation’ and ‘construction’ since they overlap each
other and it is equally difficult to state where ‘interpretation’ ends and ‘construction’ begins.

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WHY DO WE NEED INTERPRETATION / CONSTRUCTION


The enacted laws are drafted by legal experts, still they are expressed in language and no language is so
perfect that there would be no ambiguities for example “he has covered his arms” here the word arms is
capable of more than one meaning and hence giving rise to the ambiguity. Also, it would be worthwhile to
note what Denning L.J. has said on the need for statutory interpretation -”it is not within human powers to
foresee the multiple dimensions of facts (future possibility of more than one meaning of a word) which may
arise; and even if he can see, it is not possible to provide for them free from all ambiguity” which means while
drafting laws, legislators cannot predict what will happen decades after as meaning of the words may change
over a period of time. For example earlier business used to be carried from physically located units but today
businesses can be conducted through websites only, so how tax can be levied if a foreign entity without
having physical place of business in India conducts its business, in that case the existence of website itself
may be consisdered as place of business in India. In this case the intent of the legislature has to be found out
not only from the language but the surrounding circumstances that were responsible for the enactment of that
particular law.
Statute, being a will of legislature, the fundamental rule to interpret it is, it should be expounded according
to the intent of the legislators. If the words of the statute are precise and unambiguous then it is necessary
to expound those words in their natural and ordinary sense only, even if it causes hardship, this is because
these words indicate the intention of the legislature. The purpose of interpretation is to understand the intention
which is conveyed either expressly or impliedly by the language used. If the intention is expressed, then the
task for the Court is to make ‘verbal construction’ only. But the English language is not an mathematically
precise, constant or certain. When a defect appears, a judge must find the intention of legislature not only
from the language of the statute, but also from the social conditions and circumstances due to which that law
was enacted, and then he must support the written word to give ‘force and life’ to the intention of the
legislature. For example, if a statute levies a penalty without expressly mentioning who is the recipient of the
penalty, then, by implication, it goes to the officers of the State.
All these aspects give great prominence to the subject of interpretation and construction in the practical
administration of the law.

Process of Interpretation
The subject of the interpretation of a statute fall under two general heads:
a) What are the principles for the construction of the language of an Act?
b) What are principles which guide the interpreter in finding the intention of the legislature based on
which law was made but that intention has not been expressed in it?

As noted earlier, ‘interpretation’ may be either ‘grammatical’ or ‘logical’. ‘Grammatical interpretation’


deals exclusively with the verbal expression of the law: it does not go beyond the letter of the law. On the
other hand ‘Logical interpretation’ tries to obtain more satisfactory evidence of the true intention of the
legislature by going beyond what has written by the legislator.

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In all ordinary cases, ‘grammatical interpretation’ or lteral intepretation is the only way which is
allowed. The Court cannot take from or add to modify the letter of the law. Literal interpretaion rule can
be rejected, where the letter of the law is logically defective due to ambiguity, inconsistency or
incompleteness.
If defect is due to ambiguity, the Court is under a duty to go beyond the letter of the law and
determine the true intention of the legislature from other sources. In the case of the statutory expression
being defective due to inconsistency, the Court must ascertain the spirit of the law. And if the the conclusion
of text is so unreasonable that it is self-evident that the legislature could not mean what it says or wirtes,
The court may resolve it by inferring logically the intention of the legislature by resorting the logical
intepretaion rule.
One thing which is certain is that, a statute is enforceable at law, howsoever unreasonable it may
be. In other words the law is enforeceable even if it causes hardship. The duty of the court is to administer
the law as it provides. It is not within the jurisdiction of the court is to see whether the law is just(legally
or ethically right) or unreasonable. The ascertainment of the justification or reasonableness of law is the
exclusive domain of the legislature and it alone can consider alteration or modification of the law passed
by it. Until it is altered or modified or amended, the Court has no other choice but to enforce the law as
it is.
In this process of interpretation, several aids or supports are used. These aids may be statutory or
non-statutory. The first category (statutory aids) is provided by the General Clauses Act, and by specific
definitions contained in individual Acts, and certain provisions of a general nature contained in the Indian
Penal Code”,.The another category is provided by common law rules of interpretation and also by case-
law relating to the interpretation of statutes.

RULES OF INTERPRETATION/ CONSTRUCTION


Over a period, certain rules of interpretation/construction have been well recognized. However, these
rules are considered as guides only and are flexible and can be used when Courts consider appropriate.
These rules can be broadly classified as follows :

Rules of Interpretation / Construction

A. Primary Rules B. Other (Secondary) Rules

Literal Construction Effect of Usage

Reasonable Construction Assoicated Words

Harmonious Construction

Beneficial Construction
(Heydon’s Rule)

Exceptional Construction

Ejusdem Generis

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A. Primary Rules of Interpretation :


1. Rule of Literal Construction: It is the cardinal rule of construction that if words, sentences and
phrases of a statute are plain and clear giving only one meaning then it should be read in their ordinary,
natural and grammatical meaning.
This rule is based on the maxim ‘absoluta sententia expositore non indiget’ which means a
simple preposition or sentence needs no expositor or explainer i.e., when you have plain words capable
of only one interpretation, no explanation to them is required.
At the same time, the elementary rule of construction has to be kept in mind that words and phrases
of technical nature are ‘prima facie’ used in their technical meaning and otherwise in their ordinary
popular meaning which is commonly understood in public life.
For example: Question came before the Supreme Court whether stone breaking or stone crushing also
means cutting of limeston slabs?
When the language of the statute is plain and unambiguous and gives only one meaning then the court has
to accept that meaning irrsepective of its consequneces and no question of construction of a statute
arises, because the Act itself provides the clear meaning.
In Labour Inspector, Hayderabad v. Chittapur Stone Quarrying Co. Pvt. Ltd, the Supreme Court
interpreted the words “employment in stone breaking or stone crushing” means that common rock is
converted into fragments of small pieces by mechanical methods. Therefore removal of thick layers of
limestone by breaking, which are cut into slabs for flooring stones, is not stone breaking or stone crushing
operation in commercial sense.
Sometimes, occasions may arise when a choice has to be made between two interpretations - one
narrower and the other wider then follow narrower one but if the narrower interpretation would fail to
achieve the purpose of the legislation then court should adopt the wider one.

For example: Whether interest of director only requires disclosure or its relatives also for section 102 of
Companies Act, 2013?
As per Sec 102 of the Companies Act, 2013 notice of the meeting must contain explanatory note for
disclosure of directors nature of interest, financial or otherwise’ in the proposed resolution, it has to
be interpreted in its broader sense so that members can understand the implications to take decision. It
requires is a full disclosure without any suppression, for example where a son or daughter or father or
mother or brother or sister of director is interested in any contract or matter, the shareholders must be
informed about that interest and the material facts. Here a restricted narrow interpretation that only
directors’ own interest has to be disclosed, would defeat the purpose of the disclosure.
Applicability of Rule of Literal Construction in the following Situations:
i) Omision in the Enactment: When a matter which should have been provided (given), but has not
been actually provided in a statute then such omission cannot be filled, corrected or provided by
courts as doing that would amount to legislation and would not be construction and legislation is the
exclusive domain of the Legislators.
It is the general rule that omissions are not to be inferred or consrtued from plain words.
Nothing is to be added to or taken away from a statute unless there are some reasonable grounds to
justify the inference that the legislature intended something which it omitted to express.
If a something has not been provided in a statute so it is not to be added just because there are
no sufficient or good reason why it should have been omitted.

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ii) Reasonable corrections cannot over-ride plain provisions of a statute: A construction that
will make any part of the language of a statute ineffective that construction will normally be rejected.

For example: Section 71 and 90 are related with each other but section 71 was amended without
amending section 90. This correction was identified by the Court and it dealt as follows.
Section 71 of the U.P. District Boards Act, 1922 provided that a Board may dismiss its secretary by
special resolution which in certain cases required sanction of the Local Government also. Section 90 of
the same Act conferred a power to suspend the secretary for the period for which sanction of the
government is pending for his dismissal. Secretary can file an application against such dismmisal.
Section 71 of the Act was amended in 1931 and it then provided that a resolution of dismissal was not
to be effectieve till the expiry of the period of appeal or till the decision of the appeal, if it was filed.
However Section 90 of the Act was not correspondingly amended. The Supreme Court observed that it
was unfortunate that when the legislature came to amend the old Section 71 of the Act it forgot to amend
Section 90 in conformity with the amendment of Section 71. The Court, however emphasized that while
no doubt it is the duty of the Court to try and harmonise the various provisions of an Act passed by the
legislature but it is certainly not the duty of the court to stretch or extent the word used by the legislature
to fill in gaps or omissions in the provisions of an Act.

iii) Words used in the popular sense: In dealing with mattes regarding the general public, statute are
presumed to use words in their popular sense. But to deal with particular business or transaction,
words are presumed to be used with the particular meaning or technical meaning in which they are
used and understood in the particular business. However, words in statutes are generally construed
in their popular meaning and not in their technical meaning.

For Example: Whether Betel leaves to be understood as in its technical meaning or popular meaning?
There was a question before the court whether the sale of betel leaves was subject to sales tax. Under
Berar Sales Tax Act, 1947 the vegetables were exempt and the saller of betel leaves contended that betel
leave fall within the definition of vegetables and hence they are exempt from sales tax. The dictionary
meaning the word vegetable is “ a thing which is obtained from plants” and betel leaves are also obtained
from the plants.
In this matter SC held that betel leaves could not be given the dictionary, technical or botanical
meaning when the ordinary and natural meaning is clear and unambiguous. Being the word of everyday
use it must be understood in its popular sense by which people are conversant with it as also the meaning
which the statute dealing with the matter would attribute to it. The betel leaves are not used as vegetables
therefore, the sale of betel leaves was liable to sale tax as it is not consumed as vegetables. (Ramavtar
V. Assistant Sales Tax Officer, AIR 1961 SC 1325)

This Rule of literal interpretation can be read and understood under the following headings:
i) Natural and grammatical Meaning: Statute are to be first understood in their natural, ordinary, or
popular sense and must be construed according to their plain, literal and grammatical meaning. If
there is an inconsistency with any express intention or declared purpose of the statute, or it inlvolves
any absurdity, repugnancy, inconsistency, then the grammatial sense must be changed only to avoid
such an absurdity, repugnancy, inconsistency, but not when the language is clear.

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ii) Textual and Contextual Meaning : When it is said that words are to be understood first in their
natural, ordinary or popular sense, it is meant that the meaning of a word depends upon its text and
context in which it is used. In the construction of statutes, the context means the statute as a whole
and other statutes in pari materia (where two enactments have common purpose in an analogous
case).
For Example: In construing of the Andhra Pradesh General Sales Tax Rules, 1957, the words Livestock”
means all domestic animals will not include ‘chicks’construing in the popular sense although in literal
sense animal refers to every animate object. (Royal Hatcheries Pvt. Ltd v. State of AP, AIR 1994 SC
666)
iii) Exact (strict/narrow) meaning preferred over loose (broad/wide) meaning: This is the another
point regarding the rule of literal construction that exact meaning is preferred over loose meaning in
an Act of Parliament. As every word has a secondary meaning also. Therefore, in applying this rule
one should be careful not to mix up the secondary meaning with the loose meaning. Wherever the
secondary meaning gives the same meaning which is provided by the statute then the preference
should be given to that secondary meaning.
For Example: Word ‘obtain’ in its general sense means some request or effort to acquire or get
something but its secondary meaning is to acquire or get without any restrictions, conditons [qualification/
reservation] and if in a statute the secondary meaning is preferred by the legislature then preference
should not been given to the loose meaning.
iii) Technical words in technical sense: This point of literal construction is that technical words are
understood in the technical sense only.
For Example: In construing of word ‘practice’ in Supreme Court Advocates Act, 1951, it was observed
that practice of law generally involves the exercise of both the functions of acting and pleading on behalf
of a litigant party. When legislature confers upon an advocate the right to practice in a court, it is
legitimate to understand that expression as authorizing him to appear and plead as well as to act on
behalf of suitors in that court.(Ashwini Kumar Ghose V. Arabinda Bose AIR 1952 SC 369)
Summay Literal Interpretaion Principles
i) Court must adopt literal interpretation first.
ii) For literal interpretation grammatical, ordinary, natural or popular meaning of expresssion must be
adopted.
iii) If word has been used in technical sense then its technical meaning must be taken.
iv) Every word or expression must be given meaning and effect. Nothing provided in the Act is waste or
useless.
v) Ommission not to be inferred or filled.
vi) Court cannot legislate i.e. cannot add or take away word from the enactment.
vii) For interpretaion of word, context must be consisdered.
2. Rule of Reasonable Construction: According to this Rule, the words of a statute must be construed
‘ut res magis valeat quam pereat’ which means the words of statute must be construed so that a
sensible (logical or reasonable) meaning can be ascertained.

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Generally the words or phrases of a statute are to be given their ordinary, natural, literal, grammatical
meaning but if these meanings are going against the purpose or intention of the Act then reasonable
interpretation must be made. A statute must be construed in such a manner so as to make it effective and
operative on the principle of ut res magis valeat quam pereat. So while interpreting a law, two meanings
are possible, one making the statute absolutely vague and meaningless and other providing certainty and
a meaningful interpretation, in such case the later interpretation should be followed. (Pratap Singh v State
of Jharkhand (2005) SCC 551)

For example: In the case of Dr. A.L. Mudaliar vs. LIC of India (1963) 33 Comp Cas. 420 (SC), it was
held that the Memorandum of Association of a company must be read fairly and its meaing derived from
a reasonable interpretation of the language which it uses. Further, in order to determine whether a
transaction is intra vires the objects of a company, the objects clause should be reasonably construed :
neither with rigidity nor with laxity. [Waman Lal Chotanlal Parekh vs. Scindia Steam Navitation Co. Ltd.
(1944) 14 Comp. Cas. 69 (Bom.)].

Thus, if the Court finds that giving a plain meaning to the words will not be a fair or reasonable
construction, it becomes the duty of the court to depart from the dictionary meaning and adopt the
construction which will advance the remedy and suppress the mischief. A reasonable construction will be
adopted in accordance with the policy and object of the statute.

Why Court resorts to Literal Intepretaion first ?


India is a democratic country where the power to govern the people is shared and succinctly distributed
among the three organs of government or governance such as :
1. Legislator i.e. elected members of Parliament entrusted with the power of making laws and
regualtions. Under this function enacting a law is within the capacity of the legilator only.
2. Judiciary i.e. Judicial system comprise of Judges of various courts appointed to adminster law and
ensure justice. Under this power interpretaion of laws is the exclusive domain of the Court and no
one can iterfere in it.
3. Government i.e. Central, State and Local are given power to actually implement the laws of the
land by way of governance.
All three organs are given with different resposibilities and no one can usurp the power of another. But
the Constitution allows checks and balances where one organ is either not discharging its fucntion or
even if discharging but not as desired then the other organ may compel it to do so.
There are certain presumptions due to which court gives importance to Literal Intepretaion first and
these are :
a) Presumption as to validity of the statute.
b) Presumption that Legislature does not commit mistake.
c) Presumption that Legislature does not use superfluous words (word giving multiple meanings).
d) Presumption that words used by Legislature have ordinary meaning.
e) Presumption that Legislature has knowledge of English Grammar.
f) Presumption that Legislature knows law and judicial decisions.
g) Presumption as to whatever has been provided by the Legislature is applicable.

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3. Rule of Harmonious Construction : Where two or more provisions in an enactment are contradictory
with each other, then wherever possible they should be intepreted in a manner which gives effect to all of
them and not in manner where one provision is made effective and other is left ineffective. This is what
is known as the Rule of Harmonious Construction. An effort should be made to interpret a statute in such
a way as harmonises with the object of the statute.
As statute is passed for one general purpose and intent and as a whole and not in sections. The
Court’s duty is to give effect to all the parts of a statute, if possible. The sections and sub-sections must
be read as parts of an integral whole and being inter-dependent. Therefore, importance should not be
attached to a single clause in one section overlooking the provisions of another section. If it is impossible
to avoid inconsistency, the provision which was enacted or amended later in point of time must prevail.
The Rule of Harmonious Construction is applicable only when there is a real conflict between the
provisions of an Act, and one of them has not been made subject to the other (non obstante clause
‘notwithstanding’). When after having construed their context the words are capable of only a single
meaning, the rule of harmonious construction disappears and is replaced by the rule of literal construction.
This rule is meant to guide the courts in furthering/promoting the intent of the legislature and not overriding
it.
For example : Whether the Payee or the holder of a cheque can initiate prosecution for an
offence under the N.I. Act, for its dishonour for the second time, if he had not initiated
prosecution on the first occasion ? No.
- When the Cheque is dishonoured, it is a common practice to present the cheque again and again
within its validity period in the expectation that it would be encashed. Section 138 does not put any
ban to sucessively present a dishonoured cheque during its validity period.
- As per Sec. 142, the payee/holder should have made a complaint within 1 month of cause of
action arising.
On careful reading of sec. 138 and 142, it is clear that cause of action refers to only one fact -
failure to make the payment within 15 days from the date of receipt of the notice.
The honourable Supreme Court followed interpretaion rule of Harmonised Construction and gave
effect to both the sections. The combined reading of Sections 138 and 142 leave no room for doubt
that on every occasion of dishonour of cheque a fresh right to present a cheque again, arises but
not the fresh cause of action.
- Conclusion : Therefore, the holder/payee of a cheque cannot initiate prosecution for an offence
u/s 138 for its dishonour for the second time, if he had not initiated such prosection on the earlier
cause of action.
- Sadanandan Bhadran v Madhavan Sunil Kumar (1998) SC
For example : Whether public servent can nominate a candidate as well as cast vote in favour of the
candidate?
As per the facts given in the Raj Krishna V. Binod AIR1954 SC 202, there was a conflict between
section 33(2) and 123(8) of the Representation of People Act, 1951. Section 33(2) stated that a government
servant may nominate or second (support) a candidate seeking election, whereas section 123(8) provided
that a government servant is not entitled to assist a candidate in an election in any manner except by
casting his vote.

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SC observed that both these provision should be harmoniously interpreted and held that a government
servant was entitled to nominate or second a candidate seeking election to the state legislature assembly.
This harmony could be achieved only if section 123(8) of the Act is interpreted as conferring power on a
government servant of voting as well as of proposing and seconding a candidature and forbidding him
from assisting a candidate in any other manner.
For example : Conflict between section 17(1) and section 18(1) of the Industrial Disputes Act, 1947
applies the principal of Harmonious construction by harmonizing apparent conflict between two or more
of its provisions. Section 17 of the Act provides that (1) Every report of a Board or court together with
any minute of dissent recorded therewith, every arbitration award and every award of a Labour Court,
Tribunal or National Tribunal shall, within a period of thirty days from the date of its receipt by the
appropriate government, be published in such manner as the appropriate government thinks fit. Whereas
sub-section (2) provides that the award published under sub-section (1) shall be final and shall not
be called in question by any court in any manner whatsoever.
Section 18(1) of the Act provides that a settlement arrived at by agreement between the
employer and workman otherwise than in the course of conciliation proceeding shall be binding on
the parties to the agreement.
In case where a settlement is arrived after receipt of the award of the Labour Tribunal by the
Government before its publication, the issue was whether the Government was still required by section
17(1) to publish the award. On construction of these two provisions, Supreme Court held that settlement
which becomes effective from the date of signing of agreement by employer and workman, the industrial
dispute comes to an end and the award given by board ro court becomes ineffective and the government
cannot publish it. [SirsilkLtd. V. Govt. of Andhra Pradesh, AIR 1964 SC160]
4. Rule of Beneficial Construction or the Heydon’s Rule: Where the language used in a statute is
capable of more than one interpretation, the most firmly established rule for construction is the principle
laid down in the Heydon’s case (1584) 3 Co. Rep 7a 76 ER 637. The rule which is also known as
‘purposive construction’ or mischieve rule, enables consideration of four matters in construing an Act:
1) what was the law (or situation) before the making of the Act;
2) what was the mischief or defect for which the law did not provide;
3) what is the remedy that the Act has provided; and
4) what is the reason for the remedy.
The rule directs that the courts must adopt that construction which ‘shall suppress the mischief and
advance the remedy’.
Therefore, even in a case where the usual meaning of the language used falls short (improper meaning)
of the whole object of the legislature, a more extended meaning may be given to the words. If, however,
the circumstances show that the phrases in the Act is used in a larger sense than its ordinary meaning
then that sense may be given to it.
For example : In UP Bhoodan Yojna Samiti v Braj Kishore the UP Bhoodan Yojna Act, 1953 was
enacted with an object to distribute land to such landless labours who could do agriculture but had no land
for that purpose and did not have any other means of livelihood. But instead of word “landless labourers”
the word “landless person” was used in the Act. So the quesiton came up before the court whether
landless businessman can also get agriculture land.

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As stated earlier while interpreting Court makes literal interpretation of the words. If landless person
is literally interpreted then it gives wider meaning means every one who does not own land may get the
land. If literal interpretaion is adopted it will defeat the objective of the Act. So there is mischief or defect
which should be eliminated and remedy must be provided. This rule can be applied by answering following
quesitons:
i) What was the law (or situation) before the making of the Act: There were landless labourers
who did not have agriculture land and any other source of livelihood.
ii) What was the mischief or defect for which the law did not provide: Word used was landless
person instead of landless labourers.
iii) What is the remedy that the Act has provided: Agriculture land to be provided to landless
laboureres.
iv) What is the reason for the remedy: Reason behind distribution of land was absence of any other
source of livlihood for landless labourers.
While interpreting the expression “landless persons” used in Sec 14 of this Act, the Supreme Court gave
imprtance to the object of the Act and held that the expression “landless person” was limited to landless
labours only and did not include a landless businessman.
For example : This mischief rule was also applied in the construction of section 2(d) of the Prize
Competition Act, 1955. This section defines ‘prize competition’as “any competition in which prizes are
offered for the solution of any puzzle based upon the building up arrangement, combination or permutation
of letters, words or figures”. The issue is whether Act applies to competitions which involve substantial
skill and are not in the nature of gambling. Supreme Court, after referring to the previous state of law, to
the mischief that continued under that law and to the resolutions of various states under Article 252(1)
authorizing Parliament to pass the Act. It was stated that having regard to the history of the legislation,
the declared object thereof and the wording of the statute, we are of opinion that the competitions which
are sought to be controlled and regulated by the Act are only those competitions in which success does
not depend on any substantial degree of skill. (RMD Chamarbaugwalla V. Union of India, AIR 1957 SC
628).
5. Rule of Exceptional Construction : Under this rule instead of adopting general meaning of words, an
exceptional meaning may be taken. It also stands for construction of words ‘and’, ‘or’, ‘may’, ‘shall’ &
‘must’. The rule of exceptional construction eliminates the meaning of the words which defeat the real
objective of the statute or make no sense. This rule has several aspects, viz.:
a) The Common Sense Rule : The literal meaning must be given to every word but if no sensible
meaning can be ascertained from literal meaning of a word or phrase, or its literal meaning would
defeat the real object of the enactment then its literal meaning should be eliminated. The words of a
statute must be construed in a manner to give a sensible meaning to them. They should be construed
‘utres magisvaleat quam pereat’ which means that it is better to have meaning for a thing than to
be made meaningless.
b) Conjunctive and Disjunctive Words ‘or’ ‘and’ : The word ‘or’ is normally disjunctive and ‘and’
is normally conjunctive. However, sometimes they are read as vice versa to give effect to the
intention of the legislature as disclosed from the context. This is done where the literal reading of the
words gives an unintelligible or absurd meaning. In such a case ‘and’ may by read as ‘or’ and ‘or’
as ‘and’, provided that the intention of the legislature is clear that ‘and’ is ‘or’ and vice versa.

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For example : In the Official Secrets Act, 1920, as per section 7 any person who attempts to commit
any offence under the principal Act or this Act , or solicits or incites or endeavours to persuade
another person to commit an offence, or aids or abets and does any act preparatory to the commission
of an offence’. Here, the word ánd’ in bold is to be read as ’or’ . Reading ánd’ as ‘and’ will result in
unintelligible and absurd sense and against the clear intention of the Legislature. [R v. Oakes,(1959)]

c) ‘May’, ‘must’ and ‘shall’ : Before discussing this aspect, it would be worth while to note the terms
‘mandatory’ and ‘directory’. Practically speaking, the distinction between a provision which is
‘mandatory’ and one which is ‘directory’ is that when it is mandatory, it must be strictly observed;
when it is ‘directory’it would be sufficient that it is substantially complied with or sometime even not
required to follow.
However, the substance (real/actual) should be considered and not merely the form (legal/
apparent) to give the intended meaning. An enactment in mandatory form might substantially be
directory and, conversely, a statute in directory form may in substance be mandatory. Hence, it is the
substance that is vital/important and must take precedence/priority over mere form.
If a provision gives a power or right only then it is discretionary but if a provision gives a power along
with a duty it becomes mandatory to exercise that power. To decide whether it is mandatory or not,
it woulddepend on following consideration such as:
- the nature of the thing for which power has been given,
- the object for which it is done, and
- the person for whose benefit the power is to be exercised
i) ‘May’: Use of of may in the provision gives indication that it is directory in nature but in exceptional
circumstances ‘may’ have been interpreted as obligatory in nature . In some cases, the legislature
may use the word ‘may’ as a matter of pure conventional courtesy and yet intend a mandatory
effect. It is well settled that the words giving legal right are construed as compulsory. Therefore,
in order to interpret the legal meaning of the word ‘may’, various factors have to be considered,
While intepreting the word “may” following can be considered :
a) the object and the scheme of the Act,
b) the context or background in which the words have been used,
c) the purpose and advantages of the Act is to be achieved by use of this word and etc.
No general rule can be laid down for deciding whether any particular provision in a statute is
mandatory or not. Court may consider whether non-observance of that provision makes the law
invalid. In each case the Court has to decide the legislature’s intent. To decide this, not only the
actual words used, but the scheme of the statute, the intended benefit to the public or the material
danager to the public by the contravention of the scheme has tobe considered.

For example: Where the word ‘may’ involves a discretion coupled with an obligation or where it
confers a benefit, or where a remedy would be advanced and a mischief suppressed, or where giving the
word a directory meaning would defeat the object of the Act then word ‘may’ should be interpreted to
have mandatory effect.

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Thus where a discretion is conferred upon a public authority coupled with an obligation, the word ‘may’
should be construed to mean a command (order/compulsion) and hence obligatory in nature. Similarly
when an order of the Government or a statute confers a power on an authority to discharge public duty,
and even if such power appears to be discretionary, it is imperative or obligatory that the authority should
exercise that power for the discharge of its duties: there the word ‘may’ have mandatory effect and in
that case ‘may’ is often read as ‘shall’ or ‘must’.

ii) Shall : Generally the use of shall makes the provision mandatory. But sometime the use of the
word shall would not make a provision of the Act mandatory. It has to be construed with
reference to the context in which it is used. Thus, as against the Government the word ‘shall’
when used in statutes is to be construed as ‘may’ unless a contrary intention is there.
Therefore, generally speaking when a statute uses the word ‘shall’ prima facie it is mandatory
but it is sometimes interpreted as directory if the context or intention of the legislature is not for
mandatory effect. Thus, under certain circumstances the expression ‘shall’ is construed as ‘may’.
Where a specific penalty is provided in statute for non-compliance with the particular provision
of the Act, no discretion available to the Court to determine whether such provision is directory
or mandatory – it has to be taken as mandatory.
For ascertaining the real intention of the legislature, the Court may consider following:
- the nature and intention of the statute,
- the consequences which arises if is not interpreted as mandatory,
- the impact of other provisions,
- whether or not the statute provides any penalty if the provision is not complied with,
- if the provision is not complied with, whether the consequences would be trivial or serious,
and
- whether the object of the legislation will be defeated or furthered (promoted).
The use of word ‘shall’ with respect to one matter and use of word ‘may’ with respect to
another matter in the same section of at statute, will normally lead to the conclusion that the
word ‘shall’ imposes an obligation, whereas word ‘may ’confers a discretionary power (
LabourCommr., M.P.V. Burhanpur Tapti Mill, AIR, 1964 SC1687).
6. Rule of Ejusdem Generis : The term ‘ejusdem generis’ means ‘of the same kind or species’.
Simply stated, the rule means :
The rule of ejusdem generis means that where specific words are used and after those specific words,
some general words are used, the general words would take their colour or meaning from the specific
words used earlier. Those general words are to be taken as the things of the same kind as the specific
words previously mentioned, unless there is something to show that a wider sense was intended.

For example : In the expression in consequence of war, disturbance or any other cause’, the words
‘any other cause’ would take colour from the earlier words ‘war, disturbance’ and therefore, would be
limited to causes of the same kind as the two named instances and not the consequences of any
earthquake of natural calamities.

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Similarly, where an Act permits keeping of dogs, cats, cows, buffaloes and other animals, the expression
‘other animals’ would not include wild animals like lions and tigers, but would mean only domesticated
animals like horses, etc.
Where there was prohibition on importation of ‘arms, ammunition, or gunpodwer or any other goods’ the
words ‘any other goods’ were construed as referring to goods similar to ‘arms, ammunition or gun
powder’ for example grenade or missiles etc.
In short this rule applies when :
- Statute contains specific words,
- These specific words are in the nature of class or category,
- Such class or category is not exhaustive,
- There are general terms after specific words and
- There is no other different intention of lawmakers.
Non-applicability of Rule of Ejusdem Generis :
i) If the particular words used exhaust the whole genus (category), then the general words are to be
construed as covering a larger meanaing or category since particular words have left no scope for
further enlargement of general words and therfore their general words would include meaning not
dependent on particular words.
ii) It must be noted, that the general principle of ‘ejusdem generis’ applies only where all the specific
words are of same nature. When particular words are not of same nature and are of different
categories, then the meaning of the general words following those specific words remains unaffected
and those general words then would not take colour from the earlier specific words.
For example : In the expression charges, rates, duties and taxes’, the term charges was read ejusdem
generis taking colour from the succeeding terms rates, duties, and taxes. Here the general category
preceded the enumeration of specific categories and so rule of ejusdem generis was technically not
applicable and hence meaning of charge cannot be taken from rates, duties and taxes and the court in
fact applied the more general rule- Noscitur a sociis and rightly limited the meaning of the term charges.
iii) It is also to be noted that the courts have a discretion whether to apply the ‘ejusdem generis’ doctrine
in particular case or not.
For example: Company can be wound up as per the Companies Act. Under it five situations are
specifically mentioned in which it can be wound up and sixth situation is ‘just and equitable’. The ‘just and
equitable’ clause in the winding-up powers of the Courts is not dependent the first five situations in which
the Court may wind up a company.

B. Other (Secondary) Rules of Interpretation :


1. Effect of usage : Usage or practice developed under the statute is indicative of the meaning recognized
to its words by contemporary(of the same time or period) opinion. A uniform notorious practice continued
under an old statute and not amended by Legislature to shows that the practice followed was based on
correct understanding of the law. When the usage or practice receives judicial or legislative approval it
gains additional importance. In this connection there are two Latin maxims :
i) ‘Optima Legum interpresest consuetudo’ (the custom is the best interpreter of the law); and
ii) Contempranea expositoest optima et fortissima in lege’ (the best way to interpret a document is
to read it as it would have been read when made):

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Old statutes and documents should be interpreted as they would have been at the time when they were
enacted/written. Therefore, the best interpretation of a statute or any other document is that which has
been made by the contemporary authority.
For example : In Tata Engineering and Locomotives Co. Ltd v. Gram Panchayat Pimpri Waghere, the
word “house” used in section 89 of Bombay Village Panchayat Act 1933 was construed by Supreme
Court by applying rule of contemporanea exppsitoest optima et fortissima in lege. The Court found that
word building was used on the place of house and it was held that word ‘housess” cover all type of
buildings whether dwelling house for residential purpose or commercial buildings.

2. Associated Words to be Understood in Common Sense Manner : The associated words take the
meaning from one another. If two or more words are used or coupled together out of which meaning of
one word is doubful or unclear then that word take meaning from other word or words. This rule is called
as ‘Noscitur A Sociis’ (‘it is known by its associates’), that is to say ‘the meaning of a word is to be
judged by the other words used with it.
When two or more words which are capable of analogous (similar or parallel) meaning are coupled
together, they are to be understood in their same sense. This rule is wider than the rule of ejusdem
generis as ejusdem generis is only an application of the noscitur a sociis. It must be kept in mind that
nocitur a sociis, is just a rule of construction and it cannot prevail in cases where it is clear that the wider
words have been intentionally used to widen the scope of the word.

For example: In the expression ‘commercial establishment means an establishment which carries on
any business, trade or profession’, the term ‘profession’ was construed with the associated words ‘business’
and ‘trade’. In ordinary sense profession includes profession of doctor. However, in definition, the word
“profession” is associated with the words “business and trade”. Considerting the association it was held
that a private dispensary was not within the definition. (Devendra M. Surti (Dr.) vs. State of Gujrat, AIR
1969 SC 63 at 67).

For example: Entry 16 of Schedule-A to Punjab General Sales Tax Act, 1948 was in quesiton which
uses the word “perfumery” as “cosmetics, perfumery and toiled goods, excluding toothpastes, toothpowder,
kumkum and soap”. It was held that pefumery means such goods which are in nature of cosmetics and
toilet goods but does not include “Dhoop” and Agarbatti”.

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AIDS / SUPPORTS TO INTERPRETATION

Aids / Supports to Interpretation

Internal Aids External Aids

Title Historical Setting

Preamble Consolidating Statutes &


Previous Law
Heading and Title of a Chapter
Usage
Marginal Notes
Earlier & Later Acts and
Definitional Sections
Analogous Acts
Illustrations
Dictionary Definitions
Proviso
Use of Foreign Decisions
Explanation

Schedules

Reading whole statute

INTERNAL AIDS TO INTERPRETATION / CONSTRUCTION


Every enactment has its Title, Preamble, Heading, Marginal Notes, Definitional Sections / Clauses, Illustrations
etc. They are known as ‘internal aids to construction’ and can help immensely in interpreting/construing the
enactment or any of its parts.
a) Long Title: An enactment would have ‘Short Title’ and also a ‘Long Title’. The ‘Short Title’
merely identifies the enactment and is given merely for convenience, the ‘Long Title’ on the other
hand, describes the enactment and does not merely identify it.
It is now settled that the Long Title of an Act is a part of the Act. We can, therefore, refer to it to
ascertain the object, scope and purpose of the Act and so is admissible as an aid to its construction.

For Example : Short title such as


“The Code of Criminal Procedure, 1973
Act no 2 of 1974
Full title of the Code of Criminal Procedure, 1973
“An Act to consolidate and amend the law relating to criminal procedure”.

So the title of a statute is an important part of the Act and may be referred to for the purpose of
ascertaining its general scope and of throwing light on its construction, although it cannot override the
clear meaning of the enactment. [Aswini kumar Ghose v. Arabinda Bose, AIR 1952 SC]

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b) Preamble : The Preamble expresses the scope, object, scheme, intent and purpose of the Act more
comprehensively than the Long Title. The Preamble may provide the ground and the reason of making a
statute and the defect, evil, offence, illegal act which is sought to be remedied by it.
Like the Long Tile, the Preamble of a Statute is a part of the enactment and can be legally used for
construing it. However, the Preamble does not over-ride the plain provision of the Act but if the wording
of the statute gives rise to doubts or more than one meaning, so, for its proper construction, the Preamble
can and should be referred to to make the proper construction.
For Example : Use of the word ‘may’ in section 5 of the Hindu Marriage Act, 1955 provides that “a
marriage may be solemnized between two Hindus…..” has been construed to be mandatory in the
sense that both parties to the marriage must be Hindus as defined in section 2 of the Act. It was held
that a marriage between a Christian male and a Hindu female solemnized under the Hindu Marriage
Act was void. This result was reached also having regard to the preamble of the Act which reads: ‘An
Act to amend and codify the law relating to marriage among Hindus”.
c) Heading and Title of a Chapter : In an Act, generally it is found that a number of its sections applicable
to any particular subject are grouped together, sometimes in the form of Chapters, prefixed by Heading
and/or Titles. These Heading and Titles prefixed to sections or groups of sections can be referred to for
the purpose of construing the enactment or its parts.
However, there is a conflict of opinion about the importance to be given to them. While one opinion
considers that a heading is to be regarded as giving the key or hint or clue to the interpretation of the
clauses grouped under it and might be treated as ‘preambles to the provisions for which its is used, the
other opinion is that the use of heading can only be made when the words are ambiguous.
According to second view headings or titles prefixed to sections or group of sections may be referred to
only for the construction of doubtful expressions, but can not be used to override the plain provision of an
enactment. However, it must be noted that the heading to one group of sections can not be used to
interpret another group of sections.
For example: Chapter contained in the Code of Criminal Procedure, 1973 read as ‘Limitation for
taking cognizance of certain offences’, was not held to be controlling and it was held that a cumulative
reading of various provisions in the said chapter clearly indicated that the limitation prescribed therein
was only for the filing of the complaint or initiation of the prosecution and not for taking cognizance.
[Bharat Damodar Kale v. State of A.P., AIR 2003 SC]
d) Marginal Notes : Although there is difference of opinion regarding use of Marginal Notes for construing
an enactment, the generally acceptable view is that the Marginal Notes appended to a Section can not be
used for construing the Section. In C.I.T. vs. Ahmedbhai Umarbhai & Co. (AIR 1950 SC 134 at 141),
Patanjali Shastri, J., had declared: “Marginal notes in an Act, of Parliament cannot be referred to for the
purpose of construing the statute”, and the same view has been taken in many other cases. Many cases
show that reference to marginal notes may be permissible in exceptional cases for construing a section
in a statute. [Deewan Singh v. Rajendra Pd. Ardevi, (2007)10 SCC, Sarabjit Rick Singh v. Union of India,
(2008) 2 SCC]
However, marginal notes appended to Articles of the Constitution have been held to be part of the
Constitution as passed by the Constituent Assembly and therefore have been made use of in construing
the Articles.

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THE COMPANIES ACT, 2013


ARRANGEMENT OF SECTIONS
CHAPTER I
PRELIMINARY

CHAPTER II
INCORPORATION OF COMPANYAND MATTERS INCIDENTAL THERETO

CHAPTER III
PROSPECTUS AND ALLOTMENT OF SECURITIES
PART I.— Public offer
PART II.— Private placement

CHAPTER IV
SHARE CAPITAL AND DEBENTURES

CHAPTER V
ACCEPTANCE OF DEPOSITS BY COMPANIES

CHAPTER II
INCORPORATION OF COMPANYAND MATTERS INCIDENTAL THERETO
3. Formation of company.— (1) A company may be formed for any lawful purpose by ......................
7. Incorporation of company.— (1) There shall be filed with the Registrar within whose jurisdiction the registered
office of a company is proposed to be situated, the following documents and information for registration,
namely: ....................
8. Formulation of companies with charitable objects, etc.— (1) Where it is proved to the satisfaction of the
Central Government that a person or an association of persons proposed to be registered under this Act as a
limited company .........................

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e ) Definitional Sections / Interpretation Clauses : Definitions of certain words and expressions used in
the statute is provided by legislature for better understaing of the law. When a word or phase is defined
with particular meaning in the enactment then only that given meaning should be used while interpreting
a Section of the Act unless there is anything repugnant in the context. The Court can not ignore the
statutory definition and give any other meaning to the expression.
The purpose of a definition clause is two-fold: (i) to provide a key to the proper interpretation of the
enactment, and (ii) to shorten the language of the enactment by defining a word once and using it
anywhere in the Act.
Construction of definitions may be understood under the following headings :
i) Restrictive and extensive definitions
ii) Ambiguous definitions
iii) Definitions subject to a contrary context
i) Restrictive and Extensive Definitions : The definition of a word in the definition section may
either be restricting of its ordinary meaning or may be extensive.
When a word is defined to ‘mean’, the definition is ‘prima facie’ restrictive and exhaustive in meaning
of the word that is given in the definition section.
But where the word is defined to ‘include’, the definition is ‘prima facie’ extensive: here the word
defined is not restricted to the meaning given to it but has extensive meaning which also includes the
meaning given to it in the definition section.
A word may also be defined as ‘means and includes’, here again the definition would be exhaustive.
On the other hand, if the word is defined ‘to apply to and include’, the definition is understood as
extensive.
For example : The usage of word ‘any’ in the definition indicates extension because the word ‘any’ has
wide meaning and prima facie it excludes limitation. It has been accepted that where an expression is
defined in an Act, the meaning of it must be used throughout the Act, unless there is any repugnancy in
the subject or context.
For example : Inclusive definition of lease given under section 2(16)(c) of the Stamp Act, 1899 has
been widely construed to cover transaction for the purpose of Stamp Act which may not amount to a
lease under section 105 of the Transfer of property Act, 1882. [State of Uttarakhand v. Harpal Singh
Rawat,(2011) 4 SCC 575]
For example : Section 2(m) of the Consumer Protection Act, 1986 contains an inclusive definition of
‘person’. It has been held to include a ‘company’ although it is not specifically named therein [Karnataka
Power Transmission Corporation v. Ashok Iron Works Pvt. Ltd.,(2009)3 SCC 240]
A definition section may also be worded as ‘is deemed to include’ which again is an inclusive or
extensive definition as such a words are used to cover something within the word defined which according
to its ordinary meaning is not included within it.
For example : If “A” is deemed to be “B”, compliance with A is in law is compliance with B and
contravention of A is in law is contravention of B.
For example : Section 2(22) of Income Tax Act, 1961 is deeming provision which deems loans and
advances as dividend distributed by the company.

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ii) Ambiguous Definitions : Sometimes definition section may itself be ambiguous, and so it may
have to be interpreted in the context of the other provisions of the Act and by considering the
ordinary meaning of the word defined. Such types of definition is not to be read in isolation. It must
be read in the context of the phrase which it defines. The purpose of definition is to give accuracy
and certainty to a word or phrase which would otherwise be vague and uncertain.
For example : Termination of service of a seasonal worker after the work was over does not amount to
retrenchment as per the Industrial Disputes Act, 1947.[Anil Bapurao Karase v. Krishna Sahkari Sakhar
Karkhana, AIR 1997 SC 2698]. But the termination of employment of a daily wager who is engaged in a
project, on completion of the project will amount to retrenchment if the worker had not been told at the
time of appointment or employed that his employment will end on completion of the project.[S.M.
Nilajkarv.Telecom District Manager Karnataka, (2003)4 SCC].
iii) Definitions subject to a contrary context : When a word is defined to have number of inclusive
meanings, the sense in which the word is used in a particular provisions must be ascertained from the
context of the scheme of the Act, the language of the provision and the object intended to be achieved
by the Act.
f) Illustrations : Sometimes sections have illustrations appended to them. These illustrations follow the
text of the Sections and, therefore, do not form a part of the Sections. However, illustrations are part of
the statute and are considered to be relevant in construing the text of the sections. However, illustrations
can not modify the language of the section and can neither reduce nor expand the scope or ambit of the
section.
For example: Section 73 of the Indian Contract Act, 1872 contains Illustrations which deals with the
damages for breach of contract. Question came before the Prvy Council whether interest can be claimed
as damage for breach of contract or not when there is no Illustration given on interest and can Illustration
be against main provisions of the Act.
Privy Council held that section 73 of the Indian Contract Act, 1872 does not permit the award of
interest as damages and held that illustration given in the Act cannot be used for contrary (opposite)
result. It was observed that illustration cannot modify the language of the section in the enactment.

For example: The Supreme Court used the illustration appended to section 43 of the Transfer of Property
Act, 1882 and said that illustration to a section should not be readily considered repugnant to it and
rejected. [Jumma Masjid v. Kodimaniandra Deviah, AIR 1962 SC 847]

g) Proviso : The normal function of a proviso is to except something out of the enactment or to qualify
something stated in the enactment which would be within its scope if the proviso were not there. The
effect of the proviso is to qualify the preceding enactment which is general in nature. As a general rule,
a proviso is added to an enactment to qualify or create an exception to enactment. Ordinarily a proviso is
not interpreted as stating a general rule.
It is a cardinal rule of interpretation that a proviso to a particular provision of a statute covers only that
subject which is covered by the main provision. It creates an exception to the main provision for which it
has been enacted as a proviso and for no other enactment. (Ram Narain Sons Ltd. vs. Assistant
Commissioner of Sales Tax, AIR 1955 SC 765).

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Distinction between Proviso, Exception and Saving Clause


There is difference between provisions word as ‘Proviso’, ‘Exception’, or ‘Saving Clause’ which is as
follows:
i) Proviso : It is used to remove special cases from general enactment and provide specially for them.
ii) Exception : It is intended to restrain the enacting clause to particular cases.
iii) Saving Clause : is used to preserve or protect some existing rights, remedies, previliges from
destructions.
Example of Saving Clause : Serving of document to registrar or member : Save as provided
in this Act or the rules made thereunder for filing of documents with the Registrar in electronic
mode, a document may be served on Registrar or any member by sending it to him by -
- Post, or
- registered post, or
- speed post, or
- courier, or
- by delivering at his office or address, or
- by such electronic or other mode as may be prescribed
This section allows company to send notice throuhg the mode prescribed above but at the same
time protect the right of member of company in a sense that member by depositing sufficent amount
of money may request company to send him notice by way of particular mode of service of notice.

h) Explanation : Sometimes an explanation is appended to a section to explain the meaning of the text of
the section. An explanation may be added to include something within the section or to exclude something
from it. An Explanation should normally be read as to harmonise with and clear up any ambiguity in the
main section. It should not be construed in a manner to widen the ambit or scope of the section. In
Sundaram Pillai v. Pattabiraman, Fazal Ali, J. mentioned the following objects of an explanation to a
statutory provision :
- It is used to explain the meaning and intention of the Act.
- It clarifies doubts or ambiguity and vaguness in the provisions.
- It supports main object of the Act to make it meaningful and purposeful.
- It helps to suppress mischief and supports object of the Act.
- It cannot take away a statutory right.
However, an explanation is not limited to the above mentioned objects only.The meaning to be given to an
explanation will really depend upon its terms and not only on its purpose.

For example: Section 2(43) defined the term “free reserves” which means such reserves which, as
per latest audited balance sheet of company, are available for distribution as dividend. According this
definition securities peremium account is not free reserve but an explanation is appended to section 68
to include securities premium account into free reserves.
Section 68 of Companies Act, 2013 allows company to buy back its securities upto 25% of paid up
share capital and free reserves. An explanation has been appended to section 68 which states as:
Expalanation II- For the purpose of this section, “free reserves” includes securities premium account.
So for buy back calculation company should include securities premium account into free reserves.

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i) Schedules: The Schedules form part of an Act. Therefore, they must be read together with the Act for
all purposes of construction. However, the expressions in the Schedule cannot control or prevail over
the expression in the enactment. If there appears to be any inconsistency between the schedule and the
enactment, the enactment shall always prevail. They often contain details and forms for working out the
policy underlying the sections of the statute for example Schedule III appended to the Companies Act,
2013, provides form of Balance Sheet and Statement of Profit and Loss Account.
j) ‘Read the Statute as a Whole’: It is the elementary principle that construction of a statute is to be
made of all its parts taken together and not of one part only. Lord Waston, speaking with regard to deeds
had stated that the deed must be read as a whole in order to ascertain the true meaning of its several
clauses, and the words of each clause should be so interpreted as to bring them into harmony with other
provisions. And this same approach would apply to Acts and Rules passed by the legislature.
If one word has been written at many places in an enactment and at other place there are some restrictions
imposed on it but at one place such restriction has not been imposed then that restrictions must imposed
even if it is not stated expressly as the word has same meaning throughout the Act.

For example, if one section of an Act requires ‘notice’ should be given, then a verbal notice would
generally be sufficient. But, if another section provides that ‘notice’ should be ‘served’ on the person or
‘left’ with him, or in a particular manner or place, then it would obviously indicate that a written notice
was intended.

EXTERNAL AIDS TO INTERPRETATION / CONSTRUCTION


Society does not function in a void. Everything done has its reasons, its background, the particular
circumstances prevailing at the time, and so on. These factors apply to any enactment as well. These factors
are of great help in interpreting/construing an Act and have been given the convenient nomenclature of
‘External Aids to Interpretation’.
Apart from the statute itself there are many matters which may be taken into account when the statute
is ambiguous. These matters are called external aids. Some of these factors are enumerated below :
a) Historical Setting : The history of the external circumstances due to which the enactment in question
legislated is of much more important in construing any enactment. Therefore for interpretation all those
external or historical facts which are necessary in the understanding of the scope and object of the
enactment should be considered. History in general and Parliamentary History in particular, ancient
statutes, contemporary or other authentic writings all are relevant in interpreting and construing an Act.
Whether the statute in question was intended to alter the law or leave it where it stood before should also
be considered.
b) Consolidating Statutes & Previous Law : The Preambles to many statutes contain expressions such
as “An Act to consolidate” the previous law, etc. In such a case, the Courts may presume that it is not
intended to alter the law. With the help of this presumption Courts may solve doubts in the statute for the
interpretation of intention and rejection of literal construction.

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c) Usage (Custom/Practice) : Usage is also sometimes taken into consideration in construing an Act. It
is well known that where the meaning of the language in a statute is doubtful, usage – how that language
has been interpreted and acted (worked) upon over a long period – may determine its true meaning. It
has been emphasized that when a provision having doubtful meaning has received an interpretation
which has generally been acted upon by the public for several years, the Courts should not change that
interpretation, unless there are reasons for doing so.
d) Earlier & Later Acts and Analogous Acts : Exposition of One Act by the Language of Another :
 The general principle is that where there are different statutes in ‘parimateria’ (i.e. in an analogous
case, or two Act on same or related matter or having similar objects), though made at different times,
and not referring to each other, they shall be taken and construed together as one system and as
explanatory of each other.
 If two Acts are to be read together then every part of each Act has to construed as if contained in
one composite Act. But if there is some clear discrepancy then such a discrepancy is presumed that
the later Act (in point of time) had modified the earlier one.
 Where the later of the two Acts provides that the earlier Act should be construed as one with it then
an provision in the later statute that debentures are exluded was held to exclude debentures from the
earlier statute as well.
 Where a single section of one Act (say, Act ‘A’) is incorporated into another statute (say Act ‘B’), it
must be read in the sense it had in the original Act (Act “A’) from which it is taken.
 Suppose the earlier bye-law required that Chariman of an organisation should possessed certain
qualifications and the later bye-law authorises the election of any person to be the chairman of the
organisation. In such a case, the later bye-law would be construed as to harmonise and not to conflict
with the earlier bye-law: the expression ‘any person’ used in the later byelaw would be understood to
mean only any eligible person who has the requisite qualifications as provided in the earlier bye-
law.
 Earlier Act Explained by the Later Act: The later Act may be construed according to the earlier
Act but sometimes later Act provides interpretation of the earlier Act if it is ‘pari materia’ and if the
provisions of the earlier Act are ambiguous.
Where the earlier statute contained a negative (restrictive/imposing limitation) provision but the later
one merely omits that negative provision: this does not mean that negative provision (or that restriction
or limitation) is not applicable. In such a situation, it would be necessary to see how the law would
have stood without the original provision and the terms in which the repealed sections are re-enacted.
The rules and forms made under an Act should have the same effect as if they had been included in
Act and may also be referred to for the purposes of interpretation of the Act.
 Reference to Repealed Act : Where a part of an Act has been repealed, it loses its operative
force. Nevertheless, such a repealed part of the Act may still be taken into account for construing
the unrepealed part. This is so because it is part of the history of the new Act.

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e ) Dictionary Definitions : First Act has to be referred to find out if any particular word or expression is
defined in it. If a word is not defined in the Act itself then dictionaries may referred to find out the general
sense in which that word is commonly understood. However, in selecting one out of the several meanings
of a word, the context in which it is used in the Act must be taken into consideration.
It is the fundamental rule that the meanings of words and expressions used in an Act must take their
colour from the context in which they appear. Further, judicial decisions laying down the meaning of
words will have greater importance than the meaning gien by dictionaries. However, for technical terms
reference may be made to technical dictionaries.
f) Use of Foreign Decisions : Foreign decisions of countries following the same system of jurisprudence
as ours and given on laws similar to ours can be legitimately used for construing our own Acts. However,
prime importance is always to be given to the language of the Indian statute. Further, where guidance
can be obtained from Indian decisions, reference to foreign decisions may become unnecessary.

RULES OF INTERPRETATION / CONSTRUCTION OF DEEDS AND DOCUMENTS


i) For the interpretaion of deeds and documents the first and foremost point is to find out what a reasonable
man, would understand by the words used in that deed or document.
ii) It is not appropriate to construe the terms of one deed by referring the terms of another deed. Further the
same word can not have two different meanings in the same document, unless the context requires other
meaning.
iii) The Golden Rule is to ascertain the intention of the parties to the instrument after considering all the
words in the document/deed in their ordinary, natural sense. For this purpose, the relevant portions of the
document have to be considered as a whole. The circumstances and the context of the words should also
be taken into consideration.
iv) Many a times the status and training (qualification) of the parties using the words have also to be taken
into account as the same words may be used by an ordinary person in one sense and by a trained/expert
person or a specialist in another special sense.
v) It has also to be considered that many words are used in more than one sense. It may happen that the
same word understood in one sense will give effect to all the clauses in the deed while in another sense
might make one or more of the clauses ineffective. In such a case the word should be understood in the
former and not the latter sense.
vi) It may also happen that there is a conflict between two or more clauses of the same document. An effort
must be made to resolve the conflict by interpreting the clauses so that all the clauses are given effect to.
If it is not possible to give effect to all of them, then it is the earlier clause that will over-ride the latter one.
vii) If one part of the document is in conflict with another part, an attempt should always be made to read the
two parts of the document harmoniously, if possible. If that is not possible, then the earlier part will prevail
over the latter one.

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MULTIPLE CHOICE QUESTIONS

1. Formal legal document which creates or confirms a right or record a fact is a -


a) Document b) Deed
c) Statute d) Instrument
2. Which among the following is the cardinal rule of construction of statutes -
a) Harmonious Rule of construction b) Beneficial Rule of construction
c) Literal Rule of construction d) Reasonable Rule of construction
3. Rule of Reasonable Construction is based on the maxim -
a) Absolut asentenia expositor non indigent b) Ut res magis valeat quam pareat
c) Quo facit per alium facit per se d) Contemporanea expositio
4. Rule of Beneficial construction is also known as -
a) Purposive construction b) Mischieve Rule
c) Heydons’s Rule d) All of the Above
5. Pick the odd one out of the following aids to interpretation -
a) Preamble b) Marginal Notes
c) Proviso d) Usage
6. Which rule of construction is applicable where there is a real and not merely apparent conflict between
the provisions of an Act, and one of them has not been made subject to the other -
a) Rule of Beneficial construction b) Rule of Literal construction
c) Rule of Harmonious construction d) Rule of Exceptional construction
7. An internal aid that may be added to include something within the section or to exclude something from
it, is -
a) Proviso b) Explanation
c) Schedule d) Illustrations
8. An aid that expresses the scope, object and purpose of the Act—
a) Title of the Act b) Heading of the Chapter
c) Preamble d) Definitional sections
Ans. 1. (d) 2. (c) 3. (b) 4. (d) 5. (d) 6. (c) 7. (b) 8. (c)

PRACTICAL QUESTIONS AND ANSWERS


1. Explain the rule of ‘beneficial construction’ while interpreting the statutes quoting an example.
Ans. Where the language used in a statute is capable of more than one interpretation, the most firmly
established rule for construction is the principle laid down in the Heydon’s case. This rule enables,
consideration of four matters in constituting an act :
1) What was the law before making of the Act,
2) What was the mischief or defect for which the law did not provide,
3) What is the remedy that the Act has provided, and
4) What is the reason for the remedy.
The rule then directs that the courts must adopt that construction which ‘shall suppress the mischief
and advance the remedy’. Therefore even in a case where the usual meaning of the language used
falls short of the whole object of the legislature, a more extended meaning may be attributed to the

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words, provided they are fairly susceptible of it. If the object of any enactment is public safety, then its
working must be interpreted widely to give effect to that object. Thus in the case of Workmen’s
Compensation Act, 1923 the main object being provision of compensation to workmen, it was held that
the Act ought to be so construed, as far as possible, so as to give effect to its primary provisions.
However, it has been emphasized by the Supreme Court that the rule in Heydon’s case is applicable
only when the words used are ambiguous and are reasonably capable of more than one meaning [CIT
v. Sodra Devi (1957) 32 ITR 615 (SC)].
2. Explain the principles of “Grammatical Interpretation” and “Logical Interpretation” of a Statute. What
are the duties of a court in this regard?
Ans. Principles of Grammatical Interpretation and Logical Interpretation : In order to ascertain the meaning
of any law/ statute the principles of Grammatical and Logical Interpretation is applied to conclude the
real meaning of the law and the intention of the legislature behind enacting it.
Meaning : Grammatical interpretation concerns itself exclusively with the verbal expression of law. It
does not go beyond the letter of the law, whereas Logical interpretation on the other hand, seeks more
satisfactory evidence of the true intention of the legislature.
Application of the principles in the court : In all ordinary cases, the grammatical interpretation is the
sole form allowable. The court cannot delete or add to modify the letter of the law. However, where
the letter of the law is logically defective onaccount of ambiguity, inconsistency or incompleteness, the
court is under a duty to travel beyond the letter of law so as to determine the true intentions of the
legislature. So that a statute is enforceable at law, however, unreasonable it may be. The duty of the
court is to administer the law as it stands rather it is just or unreasonable. However, if there are two
possible constructions of a clause, the courts may prefer the logical construction which emerges from
the setting in which the clause appears and the circumstances in which it came to be enacted and also
the words used therein.
3. i) What is the effect of proviso? Does it qualify the main provisions of an Enactment?
ii) Does an explanation added to a section widen the ambit of a section?
Ans. i) Normally a Proviso is added to a section of an Act to except something or qualify something
stated in that particular section to which it is added. A proviso should not be, ordinarily, interpreted
as a general rule. A proviso to a particular section carves out an exception to the main provision
to which it has been enacted as a Proviso and to no other provision. [Ram Narian Sons Ltd. Vs.
Commissioner of Sales Tax AIR (1955) S.C. 765]
ii) Sometimes an explanation is added to a section of an Act for the purpose of explaining the main
provisions contained in that section. If there is some ambiguity in the provisions of the main
section, the explanation is inserted to harmonise and clear up and ambiguity in the main section.
Something may added be to or something may be excluded from the main provision by insertion of
an explanation. But the explanation should not be construed to widen the ambit of the section.
4. Gaurav Textile Company Limited has entered into a contract with a Company. You are invited to read
and interpret the document of contract. What rules of interpretation of deeds and documents would
you apply while doing so?
Ans. The rules regarding interpretation of deeds and documents are as follows :
i) For the interpretaion of deeds and documents the first and foremost point that has to be kept in mind is
that one has to find out what a reasonable man, would understand by the words used in that deed or
document.
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ii) It is not appropriate to construe the terms of one deed by referring the terms of another deed. Further the
same word can not have two different meanings in the same document, unless the context requires other
meaning.
iii) The Golden Rule is to ascertain the intention of the parties to the instrument after considering all the
words in the document/deed in their ordinary, natural sense. For this purpose, the relevant portions of the
document have to be considered as a whole. The circumstances and the context in which the particular
words had been used have also to be taken into account.
iv) Many a times the status and training (qualification) of the parties using the words have also to be taken
into account as the same words may be used by an ordinary person in one sense and by a trained/expert
person or a specialist in another special sense.
v) It has also to be considered that many words are used in more than one sense. It may happen that the
same word understood in one sense will give effect to all the clauses in the deed while in another sense
might make one or more of the clauses ineffective. In such a case the word should be understood in the
former and not the latter sense.
vi) It may also happen that there is a conflict between two or more clauses of the same document. An effort
must be made to resolve the conflict by interpreting the clauses so that all the clauses are given effect to.
If it is not possible to give effect to all of them, then it is the earlier clause that will over-ride the latter one.
vii) If one part of the document is in conflict with another part, an attempt should always be made to read the
two parts of the document harmoniously, if possible. If that is not possible, then the earlier part will
prevail over the latter one.
5. How will you interpret the definitions in a statute, if the following words are used in a statute ?
(i) Means, (ii) Includes
Give one illustration for each of the above from statutes you are familiar with.
Ans. Interpretation of the words “Means” and “Includes” in the definitions- The definition of a word or
expression in the definition section may either be restricting of its ordinary meaning or may be extensive
of the same. When a word is defined to ‘mean’ such and such, the definition is ‘prima facie’ restrictive
and exhaustive, we must restrict the meaning of the word to that given in the definition section.
But where the word is defined to ‘include’ such and such, the definition is ‘prima facie’ extensive, here
the word defined is not restricted to the meaning assigned to it but has extensive meaning which also
includes the meaning assigned to it in the definition section.
Example :
Definition of Director [section 2(34) of the Companies Act, 2013]—Director means a director appointed
to the board of a company. The word “means” suggests exhaustive definition.
Definition of Whole time director [Section 2(94) of the Companies Act, 2013]— Whole time director
includes a director in the whole time employment of the company. The word “includes” suggests
extensive definition. Other directors may be included in the category of the whole time director.

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