Types of Guarantee :

Banks issue different types of guarantees, on behalf of their customers, as illustrated below:

(1) Financial Guarantee:

The banker issues guarantee in favour of a government department against caution deposit or earnest money to be deposited by bank’s client. At the request of his customer, in lieu of a caution deposit/ earnest money, the banker issues a guarantee in favour of the government department. This is an example of a Financial Guarantee. This type of guarantee helps the bank’s customer to bid for the contract without depositing actual money. In case, the contractor does not take up the awarded contract, then the government department would invoke the guarantee and claim the money from the bank.

(2) Performance Guarantee:

Performance Guarantees are issued by banks on behalf of their clients.

For example:

XYZ Ltd, the Indian engineering company undertakes an overseas project. The project is to construct highways in one of the African nations. XYZ Ltd, required to furnish a bank guarantee. Since the company has undertaken an overseas project, the company is called as project exporter. XYZ Ltd approaches his banker to issue a bank guarantee in favour of the African nation to whom the company is going to construct the highways. XYS’s bank issues a bank guarantee and it will be a performance guarantee. Bank as guarantor guarantees the beneficiary that in case the project exporter (XYZ company) does not perform to the satisfaction of the beneficiary, then within the validity period (including the claim period if any) of the guarantee, the beneficiary can invoke the guarantee and the banker has to honour his commitment and pay the amount mentioned in the guarantee. There are three parties in a guarantee:

(a) (Applicant)

(b) (Beneficiary) and

(c) the Banker (guarantor)

(3) Deferred Payment Guarantee:

Under this guarantee, the banker guarantees payments of installments spread over a period of time.

For example:

A purchases a machinery on a long-term credit basis and agrees to pay in installments on specified dates over a period of time. In terms of the contract of sale, B (the seller) draws Bills of Exchange on the customer for different maturities. These bills are accepted by A. The banker (guarantor) guarantees payment of these bills of exchange on the due date. In the event of default by A, the banker need to honour the claim to the seller (beneficiary).

Bank Guarantee – Some Important Features:

– Bank’s obligation to pay is primary

– Banker’s commitment to honour the claim is primary, even if there is any dispute between the beneficiary and the debtor

– Banker needs to honour the claim, irrespective of the customer’s balance in the bank account

– Except in case of frauds, in other cases, the banker cannot refuse payments, when a claim is received within a stipulated time. Courts also have refused to grant injunctions against banks from making payment under the guarantee, except in cases of frauds