Letter of indemnity

Letter of indemnity. The short duration, of tanker voyages and the tanker trade frequently causes the cargo to be sold many times before final delivery, while the ship is still at sea.

Each transaction requires transmission of documents between different banks. This can take a considerable time. The ship may arrive at its final port of discharge and the bills of lading may not yet have arrived. Misdelivery of cargo is generally very troublesome for any shipowner and delivery without presentation of a bill of lading can be “misdelivery”. This problem can be overcome by charterers and/or receivers issuing a “Letter of Indemnity” (“LOI”) under which the issuer undertakes to indemnify the owner should there be any claim for cargo after the cargo has been delivered to the issuer. The party issuing the LOI warrants that the bill of lading has not yet arrived but that he is. the owner of the cargo.

Shipowners’ P. & I. Associations recommend that cargo should only be delivered on non presentation of a bill of lading if the LOI is backed by a guarantee from a first-class, reputable bank of approximately 200 per cent of the CIF value of the oil. The guarantee is necessary because claims by holders of a bill of lading can be very large. A LOI can be required also when the actual port of discharge is different from that named in the original bill of lading, that is, because of a change in destination.

Letter of indemnity. Such a document is a written undertaking by one person to make good the loss another person may suffer as a result of the act or default of the first. For example, the master of a vessel may be promised a “letter of indemnity” by a shipper for signing a clean bill of lading prepared by the shipper when the master is in doubt as to the condition of the goods. Another example is where a vessel arrives at the port of delivery of the goods but owing to the documentary credit system the bills of lading have not yet arrived. The master or agent of the vessel may be requested to deliver the goods to an alleged consignee who produces a “letter of indemnity”, which may or may not be guaranteed by a bank. The first letter of indemnity is fraudulent because it is a false misrepresentation of a material fact. The second may also be fraudulent, especially if it is not guaranteed, thus imposing considerable liability on the carrier. If the letter of indemnity is guaranteed by a bank, this means that the bank can also become liable to indemnify the liability of the earner.

In some situations the letter of indemnity given at the loading port is clearly fraudulent and would be unenforceable as an illegal contract. That given at the discharging port should be guaranteed by a bank and, if it is genuinely not a document which assists a fraud, that is, the consignee is genuine and he is really the only person entitled to the goods but the bills of lading have not yet arrived, the document should be called a “letter of guarantee” because of the confusion that can arise because of the fraudulent nature of the letter of indemnity given at the loading port. In some places a letter of indemnity is sometimes called a “counter letter”.

The unenforceability (because of its fraudulent nature) of a letter of indemnity given at the loading port was laid down in the leading case, Brown Jenkinson v. Percy Dalton, 1957. A cargo of orange juice in barrels was leaking. The barrels were old. The defendant shippers were anxious to obtain clean bills of lading and undertook to indemnify the plaintiff carrier. The bills of lading were not claused. On arrival at the delivery place, the consignees brought a successful action against the carrier. The carrier then attempted to enforce the “indemnity” against the shipper. The shipper alleged that the letter of indemnity was unenforceable because it was an illegal contract. The court agreed that the letter of indemnity was unenforceable because it was a fraud on the buyer. It was said:

“….at the request of the defendants the plaintiffs made a representation which they knew to be false and which they intended should be relied on by persons who received the bill of lading, including any banker who might be concerned. In these circumstances, all the elements of the tort of deceit were present. Someone who could prove that he suffered damage by relying on the representation could sue for damages. I feel impelled to the conclusion that a promise to indemnify the plaintiffs against any loss resulting to them from making the representation is unenforceable.”

An example of the goods being delivered without presentation of the original bill of lading but on the strength of a “letter of indemnity or “letter of guarantee” is found in Sze Hal Tong Bank v. Rambler Cycle Co., 1959. The traditional principle is that the carrier is under a fundamental obligation to deliver cargo only to the first person who produced a good bill of lading. Delivery without presentation may be such a serious breach of the contract of carriage that the earner may be unable to enjoy any protection under the contract. Delivery of goods without presentation of a bill of lading is known as “misdelivery” and many shipowners’ Protecting and Indemnity Associations (“P. and I. Clubs”) decline to cover their members for misdelivery.

In the Sze Hai Tong Bank case, the shippers shipped goods under a bill of lading which contained a form of protective “cesser clause”, providing that the responsibility of the carrier would cease absolutely after the goods were discharged from the vessel. On arrival at Singapore, the goods were discharged from the vessel and delivered to the consignee without presentation of a bill of lading but after receiving a letter of guarantee from the bank. Although such a procedure was common practice in Singapore at the time, the court decided that the carrier had breached the contract of carriage and also, by delivering the goods—without presentation of the bill of lading—to a person who was not entitled to receive the goods, became liable in the tort of “conversion”. The earner was deprived of the protection of the cesser clause.

In The Siam Venture, 1987, it was confirmed that the shipowner is not obliged to deliver cargo without presentation of the original bill of lading or, in its place, a guarantee from a first class bank. The master refused to discharge cargo at the agreed destination because neither the bills of lading nor a good guarantee from a reputable bank were available. The charterers’ and consignees’ undertaking were unacceptable. Delay ensued. The court decided that the master’s refusal was reasonable and the owners were entitled to demurrage.

Sometimes a “letter of indemnity” may be offered in exchange for a new set of bills of lading after it is alleged that the first set of originals has been lost. The first set may have been stolen through the shippers’ carelessness or the shipper himself may be fraudulent and intends to sell the goods to two different buyers, each of whom would be sent one set of bills of lading. The carrier can become liable to the holder of one set after the goods have been delivered to the holder of the other set. (Nikiforos v. Sam Houston, 1978.) In such a case, the second set should have been indorsed with an appropriate clause to prevent fraud.

In the Hamburg Rules, Art. 17 deals with guarantees by the shipper. Similarly to Art.III r.5 of the Hague-Visby Rules, the shipper is deemed to have guaranteed to the carrier the accuracy of the amount of cargo and the identifying marks. ‘The shipper “shall indemnify the carrier” if the latter becomes liable because of any inaccuracies. However, Art. 17, r. 1 of the Hamburg Rules also provides that the shipper guarantees the “general nature of the goods”. This could mean that the apparent order and condition of the goods are also guaranteed. Article 17, r. 2 provides that a letter of guarantee from the shipper (presumably the same as a “letter of indemnity”) for an unclaused or clean bill of lading is void against a third party. The effect of this is to restrict any action or defence by the carrier between the carrier and shipper.

Article 17, r. 3 provides that the letter of indemnity is good against the shipper unless the carrier issued the unclaused bill of lading with intent to defraud a third party. This rule also stipulates that the indemnity by the shipper is not effective against him if the omitted clause or reservation relates to particulars furnished by the shipper. Article 17, r. 4 provides that the carrier will not be able to enjoy any package limitation for liability if there was intentional fraud in issuing the clean bills of lading. When the carrier issues a bill of lading, clean or not; it would be unusual for him to intend fraud against a third party.


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