Tick! Tock! Make a Claim Before the Clock Stops

Angela Yap and Claudia Cheah explain why a clause that limits time for making a claim under a guarantee is valid.
The Federal Court in the recent case of The Pacific Bank Berhad v State Government of Sarawak (Federal Court Civil Appeal No. 01()-8-2011(Q)) decided on an interesting issue as to whether the terms and conditions in a letter of guarantee which limit the time or restrict the period for making a claim is void under section 29 of the Contracts Act 1950 (“Act”).
Section 29 of the Act provides as follows:
“Every agreement, by which any party thereto is restricted absolutely from enforcing his rights under or in respect of any contract, by the usual legal proceedings in the ordinary tribunals, or which limits the time within which he may thus enforce his rights, is void to that extent.”
The Respondent, the State Government of Sarawak, had issued a timber licence to Niah Native Logging Sdn Bhd (“Niah Native”) to extract timber. One of the conditions for the issuance of the timber licence required Niah Native to provide a letter of guarantee to the Respondent to guarantee the payment of all the royalties due to the Respondent for extracting timber at the licenced area (“Letter of Guarantee”).
The Appellant issued the Letter of Guarantee in favour of the Respondent whereby the Appellant guaranteed that in the event that Niah Native defaults in the payment of royalties, the Appellant would be liable to pay the Respondent a sum not exceeding RM100,000.00. In consideration of the Appellant issuing the Letter of Guarantee, Niah Native’s contractor, Syarikat Mustafa & Ngu Timber Sdn Bhd issued a Letter of Indemnity in favour of the Appellant. Both the Letter of Guarantee and the Letter of Indemnity were valid for only one year, i.e. from 25 April 1997 to 24 April 1998.
The bone of contention between the parties concerned the effect of a clause in the Letter of Guarantee which reads as follows:
“This guarantee is effective from 25th April 1997 and shall expire on 24th April 1998. All claim (sic), if any in respect of this guarantee shall be made during the guarantee period failing which it shall be deemed to have been discharged and released from all and any liability, under this Guarantee.” (“Relevant Clause”)
Prior to the expiry of the Letter of Guarantee, the Appellant wrote to Niah Native’s contractor to enquire whether they wished to renew the Letter of Guarantee. There was no response and the Letter of Guarantee expired on 24 April 1998. Thereafter, the Appellant informed the Respondent in writing that the Letter of Guarantee had expired and was accordingly cancelled. The Respondent received the Appellant’s letter but did not raise any objection or dispute the contents of the said letter.
On 20 October 1998 i.e. about six months after the expiry of the Letter of Guarantee, the Respondent made a claim against the Appellant for a sum of RM118,790.69. It was not disputed that the said sum arose from royalties which were payable during the validity period of the Letter of Guarantee. The Appellant rejected the Respondent’s claim on the ground that it was made after the Letter of Guarantee had expired.
The Respondent filed a suit in the High Court against Niah Native for non-payment of royalties due under the timber licence and against the Appellant as the Guarantor under the Letter of Guarantee. 
The Decision of the Deputy Registrar
The Respondent’s claim was struck out by the Deputy Registrar upon the application by the Appellant under Order 18 rule 19 of the Rules of the High Court, 1980 (“RHC”), on the ground that Section 29 of the Act did not apply to the facts of the case.
The Decision of the High Court Judge
On appeal by the Respondent, the High Court Judge ordered the matter to be determined by an issue of law framed under Order 14A of the RHC, namely, whether Section 29 of the Act applies to the terms and conditions stipulated in the Letter of Guarantee that require all claims to be made during the one year guarantee period.
The High Court Judge found that the Relevant Clause had the effect of limiting the period during which the Respondent may enforce its right against Niah Native under the Letter of Guarantee. Thus, the High Court Judge held that the Relevant Clause was void under Section 29 of the Act and ordered the Appellant to pay the sum of RM100,000.00 with interest to the Respondent.
The Appellant appealed to the Court of Appeal against the said decision. 
The Appellant’s appeal was dismissed by the Court of Appeal by a majority decision.
The majority decision agreed with the High Court Judge that the terms and conditions of the Letter of Guarantee had the effect of limiting the Respondent’s ability to enforce its right to make a claim to a one year period, when in fact the Respondent should be entitled to a six year period under the Limitation Ordinance Sarawak.
The majority decision approved and followed the principles in New Zealand Insurance Co Ltd v Ong Choong Lim (t/a Syarikat Federal Motor Trading) [1992] 1 MLJ 185 and the commercial ‘common sense approach’ in MBf Insurance Sdn Bhd v Lembaga Penyatuan dan Pemuliharaan Tanah Persekutuan (FELCRA) [2008] 2 MLJ 398 which held that where the breach had occurred during the validity period of guarantee, the fact that the claim was made outside of the validity period of the guarantee did not render the claim bad or invalid.
The dissenting Judge, Dato’ Hishamudin Mohd. Yunus JCA, took the view that the making of a claim and the enforcement of a right are two distinct matters. The claim or demand must be made following a breach, within the prescribed time frame and validly taken. It is only when the claim or demand is not satisfied that the enforcement of a right i.e. suing by judicial proceedings arises. His Lordship held that since the limitation of time stipulated in the Relevant Clause only related to the making of a demand and was not concerned with the Respondent’s right to enforce the claim, the said clause was not in breach of Section 29 of the Act.
Aggrieved by the decision of the Court of Appeal, the Appellant applied for leave to appeal to the Federal Court.
Leave was granted by the Federal Court to the Appellant on the following question of law:
“Whether the terms and conditions in the Letter of Guarantee which limit the time or restrict the period for making the claim is (sic) void?”
The Federal Court answered the above question in the negative and allowed the appeal. The main reasons for Federal Court’s decision are summarized below:
  1. The language of the Letter of Guarantee was clear and as such, its plain and ordinary meaning must be given. The issue of whether or not a prior demand is a condition precedent to the creation of liability in a guarantee depends on the precise terms of the contract. In this regard, a distinction has to be made between limiting a right and limiting the enforcement of a right. In this case, the Relevant Clause only limits the time when a right to sue or a cause of action would accrue to the Respondent. In short, once the right to sue or cause of action accrued, it did not affect the six year limitation period within which the Respondent may sue.
  2. Section 29 of the Act is in pari materia with the old Section 28 of the Indian Contracts Act (“ICA”). In this regard, the Indian courts have consistently held that the old Section 28 of the ICA only invalidates agreements which limit the time within which a person has to enforce his rights, and not agreements which determine when a right arises or the time when a right will arise. The Federal Court took note of the fact that Section 28 of the ICA has been amended and that the new Section 28(b) would invalidate a clause such as the Relevant Clause. However, Section 29 of the Act did not contain a provision which is similar to the new Section 28(b) of the ICA. 
  3. It is commonplace for parties to contract to regulate or modify their rights in the event of breach and the rights of accrual of any cause of action in any way they deem fit. In this case, it was clear that parties had expressly agreed that for liability on the part of the Appellant to arise, a claim (demand) must be made during the guarantee period upon an event of default. 
  4. New Zealand Insurance and MBf Insurance are distinguishable on the facts. Further, the commercial ‘common sense’ approach in MBf Insurance is not in accordance with the principles that parties are free to agree on terms governing when and how their right of action will arise. If the parties have agreed on a cut-off date for a demand to be met, then that would represent the business common sense between the parties. Further, the courts should be mindful in following the said cases as they both involved insurance contracts, which are uberrimae fidei contracts. 
  5. The English law governing guarantees is instructive in that the law requires that a demand be made under a guarantee, though not as a precondition of liability, but as a notice to claim, unless such requirement for notice to claim or demand is waived by the parties. 
The decision of the Federal Court in Pacific Bank is noteworthy. The Federal Court has drawn a distinction between a provision which limits the time for making a claim and one which limits the time within which a claim may be enforced and has determined that a clause which limits the time for making a claim is not invalidated by Section 29 of the Act. Thus, a party who seeks to exercise his rights under a guarantee must comply with any time period stipulated therein for making a claim or demand as failure to do so may result in the loss of the right to enforce the guarantee, even though the liability had been incurred during the validity period of the guarantee.
It will be interesting to see whether the Malaysian Courts will apply the principles laid down in Pacific Bank to uphold the validity of similar time limitation clauses that may be contained in other forms of commercial contracts.