Letter of Guarantee

The word ‘Guarantee’ means a promise; usually in writing that the Surety (Guarantor) shall fulfill the promise if the concerned Principal Debtor (Customer) fails to discharge his responsibility/obligation to the Creditor (Beneficiary). In brief, a Bank Guarantee is an undertaking given by a Bank to perform the promise or discharge the liability of its customer in case of his default.


  • The guarantee must be for a certain fixed amount and the period of its validity must be limited and fixed.
  • Bank should look to the past performance both for Bank Guarantee & Investment (if any) of the Customer.
  • Bank may request potential Customer to open an Al-Wadiah Current Account andlet him maintain the account satisfactorily for a reasonable period.
  • The customer must execute a ‘Counter Guarantee’ to the Bank providing inter-alia that he will indemnify the Bank against all consequences and gives authority to the Bank to charge all payments to his account. Tangible security (cash & collateral security) in support of “Counter Guarantee” shall also be obtained securing the entire amount of the Guarantee.
  • The guarantee will be issued only after completion of full documentation as per sanction stipulation.
  • • The Bank Guarantee for procurement of any assets / property / services may be settled under Bai Al-Murabaha / MPI / Bai Al-Muajjal / Hire Purchase under Shirkatul Mielk (HPSM) mode of investments with the Principal Debtor (Customer).
  • • As soon as the guarantee period is over, the original guarantee should be called back duly cancelled by the beneficiary.

 Types of Bank Guarantee

Various types of Guarantee are issued by Bank for several purposes as when and where needed by the surety. Bank secures the providedfacility by either cash or collateral security and or by both as per sanction by the competent authority. The most common types of Bank Guarantees are

  • Tender or Bid Guarantee
  • Performance Guarantee
  • Shipping Guarantee
  • Advance Payment Guarantee
  • Return of Bond Deduction Guarantee
  • Customs Guarantee
  • Payment Undertaking Guarantee
  • Miscellaneous Guarantee

1. Tender or Bid Guarantee

Government Organization and Institutions, Corporations, Companies etc. generally invite tenders for completion of their projects, such as road building, construction of bridges, building construction, and use of facilities, performance of any service and / or sale of unwanted goods. Parties bidding for the tender must submit with their bids a guarantee to the beneficiary or issuer of the tender (Government Organization and Institutions, Corporations, Companies etc.). This type of guarantee is known as a “Tender of Bid Guarantee”. It is, generally, sought for 2 per cent to 5 per cent of the contract amount.

After the declaration of the successful bidder/bidders, the original guarantees, of parties whose bids have not been successful, are returned to the Bank for cancellation. Only the guarantee of the successful bidder is retained till the signing of the final agreement and submission of another guarantee under the name of “Good performance of Undertaking Guarantee”. In case of default of the successful bidder, at whose request the Guarantee is issued, in entering into the agreement and / or in submitting a Good Performance of Undertaking Guarantee, the beneficiary may en-cash the “Tender for Bid Guarantee” from the issuing Bank. As such, this type of Guarantee should usually be issued at higher cash margin with collateral security covering the Guarantee amount.

2.      Performance Guarantee

Guarantee, which is issued in consideration of specific performance of contract, is called ‘Performance Guarantee’. This type of Guarantee would require higher cash margin with collateral security covering the Guarantee amount with Power of Attorney to collect bills from the beneficiary (Government Organizations and Institutions, Corporations, Companies etc.).

The Performance Guarantee may be mainly of two types

 2.1   Good Performance of Undertaking Guarantee

This type of guarantee is issued to ensure the proper and timely performance of undertakings by the successful bidder. The object of this type of guarantee is the assurance of good performance of undertakings arising from signing of a contract, which is issued at the request of the applicant (the contractor), in favour of the beneficiary (Government Organization and Institutions, Corporations, Companies etc.), to ensure the performance of the undertakings accepted by the contractor, according to the stipulations of agreements signed. The submission of this type of guarantee by the contractor is an essential per-requisite for the signing of the agreement with the beneficiary (Government Organization and Institutions, Corporations, Companies etc.).

 2.2   Good Performance of Job Guarantee

This type of guarantee is issued by the Bank at the request of the Customer (Contractor) to assure the beneficiary (Government Organization and Institutions, Corporations, Companies etc.) of the proper working of the customer (contractor) and the attainment of the forecast output, within the stipulated time, after part of the job has been covered. It is valid for a stipulated period after the completion of the project and the start-up of the work for which the project was taken in hand.

 3.      Shipping Guarantee

Banks give guarantee to shipping companies for release of goods in the absence of shipping documents, in case goods arrive before receipt of such documents by the consignee and are incurring demur-rage or original documents have been lost after retirement from the Bank. These guarantees are limited to bill amount or letter of credit value and for period till receipt of original bill of lading. The guarantee is actually signed by the importer in favour of shipping company and countersigned by the Banker. Normally, full value of invoice or letter of credit must be retained as margin for issue of guarantee. Alternatively, the goods may be cleared by Bank and kept in its custody as soon as the original shipping documents are received, these shall be sent to clearing agents to facilitate return of original guarantee. In the alternative way, custom authority’s confirmation regarding cancellation shall be obtained.

4.      Advance Payment Guarantee

The objective of this type of guarantee is to secure the funds, paid by the beneficiary (Government Organization and Institutions, Corporations, Companies etc.) to the contractor, before start of the job, or in the process of the job, to strengthen the financial position of the contractor for speeding up the progress of work. The beneficiary will take steps to re-collect the funds paid by en-cashing the Guarantee, in case of the contractor’s failure to meet his commitments. These guarantees are issued by the Bank, in favour of the beneficiary, at the request of the contractor.

These are required for a fixed percentage of the total amount of the contactor that the beneficiary is expected to pay to the contractor in the form of advance payments. The funds, paid by the beneficiary to the contractor, are deducted from the job position reports at various stages in such a manner that before the last temporary/partially job position report is filed in, the said amount should have been amortized.

According to the general terms of the contract, the amount of the guarantee is also reduced each time up to the amount of the deductions, on the basis of the beneficiaries’ declaration, and the guarantee is released, with the consent of the beneficiary, at the latest, by the date of the temporary/partially hand-over of the job.

5.      Return of Bond Deduction Guarantee

In spite of the supervision and various tests carried out by the beneficiary during the period of the contract, at various stages of the process of work, for greater confidence regarding proper performance of the job, after the final handing over, and for a stipulated period, the beneficiary deducts the equivalent of 10% (more or less) of the gross amount of the job position over the reports of the contractor, and holds it in an account with himself, and may return the good performance of job assurance amount to the contractor against the Bank guarantee.

This Type of guarantee, issued by the Bank at the request of the customer (contractor) in favour of the beneficiary is called “Return of Bond Deductions Guarantee”.

According to the general terms of the contract, the equivalent of 50% of the amount of such guarantees, is released by the beneficiary, immediately after the approval of the final position of job report, and the remaining 50% of the guarantee remains valid until the approval of the memorandum of final hand-over.

At the end of each month, in accordance with the terms  of the contract, and, with the approval of the overseer (to be appointed and introduced by the beneficiary), the contractor prepares a report of all the jobs completed till that date, as well as, the material on the job site, and submits it to the beneficiary. This document is known as the “Position/Program Report”.

The Guarantee period is a fixed duration of time, after the temporary hand-over, to guarantee the rectification of mistakes and short-comings caused by non-adherence to the specifications of the contract and / or the use of bad or poor material on the job, which the contractor is committed to redress.

 6.      Customs Guarantee

This guarantee is issued in favour of customs authority on account of custom duties for imported goods and machinery or export commodities on behalf of Clients.

Sometimes, importers are not in a position to pay in cash, the customs duties to release their imported goods. As such, they need to submit Bank Guarantee to the Customs for an amount equivalent to the amount of the customs duty.

By issuing the above guarantee, the Bank makes commitment for payment, and must pay the amount of the guarantee to the Customs Authority, without any delay, at the fixed maturity or on the dates when the installments fall due.

In same circumstances like disputes over taxation, customers’ desire guarantees to release the goods under guarantee up to final settlement of dispute by the competent authority.

 7.      Payment Undertaking Guarantee

This type of Guarantees is issued by the Bank to make payment of dues at fixed maturities, such as the “Guarantee to Pay Taxes.” Normally, this type of guarantee is issued against 100% cash security.

 8.      Miscellaneous Bank Guarantees

Besides the various guarantees stated above, applications may be received for the issuance of multifarious other types of Bank guarantee for all kinds of jobs. The draft of such guarantees is usually dictated by the beneficiary.

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