Guarantees, Warranties and Indemnities – Spot the Difference

Guarantees, warranties and indemnities are often seen together (usually in a lease or loan agreement), but all carry very different obligations:-

A guarantee is a contractual promise to ensure that a third party fulfils its obligations (pure guarantee) and/or to pay an amount owed by a third party if it fails to do so itself (conditional payment guarantee).

A guarantee is a secondary obligation because it is contingent on the obligation of a third party, and it sits alongside the primary obligations, usually of the tenant under the lease.

A guarantee must be in writing and signed by the guarantor. Guarantees are more advantageous to the guarantor as they confer certain rights. Namely; right to indemnity, right to set-off, subrogation and marshalling.

A warranty is a contractual assurance from a seller to a buyer. It is a subsidiary or collateral provision to the main purpose of the agreement: the sale itself. The main purpose of a warranty is to apportion risk and liability between a buyer and a seller. Warranties protect a buyer by providing a possible price adjustment mechanism if a warranty proves to be false and, in the context of a sale of the business, by enabling a buyer to gather information on the business through a disclosure process.

A breach of warranty claim is an action for breach of contract and is subject to the normal legal requirements of proving loss. A party that breaches a warranty is only responsible for the loss and damage that is foreseeable as a result of the breach. The damages for which a seller is liable is the amount necessary to compensate the purchaser for any loss resulting from the breach.

A warranty is a statement by the seller about a particular aspect of the target company’s business. A breach of warranty will only give rise to a successful claim in damages if the buyer can show that the warranty was breached and that the effect of the breach was to reduce the value of the asset acquired. The onus is therefore on the buyer to show breach of contract and quantifiable loss. An indemnity is a promise to reimburse the buyer in respect of a particular type of liability, should it arise. The purpose of an indemnity is to provide guaranteed compensation to a buyer on a pound-for-pound basis in circumstances in which a breach of warranty would not necessarily give rise to a claim for damages or to provide a specific remedy that might not otherwise be legally available.

An indemnity is a contractual promise to accept liability for another’s loss. It is independent of the obligation of a third party to the beneficiary of the indemnity under which the loss arose.

An indemnity comes in the form of a contract by which the party providing the indemnity undertakes as an original and independent obligation to indemnify (make good) a loss. This means the right to recover one pound for every one pound of loss, as distinct from a collateral contract, which gives the innocent party the right to damages.

This gives much wider protection and, if drafted correctly, could cover all losses on a full indemnity basis for the party who has the benefit of it.

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