Legal Update: Considering letters of comfort

In the recent case of IDBI Bank Ltd v Axcel Sunshine Ltd [2025] EWHC 442 (Comm) (27 February 2025), the High Court examined whether a document described as a "letter of comfort" was, in fact, a guarantee and indemnity, thereby allowing the bank to recover unpaid amounts from Axcel Sunshine Ltd as a guarantor of amounts which were unpaid by the borrower.

What is a letter of comfort?

• In the realm of finance and business transactions, a "letter of comfort" is often utilised to provide assurance or encouragement to a lender or third party regarding the obligations of a borrower. For example, a parent company may provide a letter of comfort to a lender in respect of a loan made to a member of its group.  However, the legal standing of such letters can sometimes be ambiguous, leading to disputes over their enforceability.

What is a guarantee?

• A guarantee is a contract where the guarantor promises to be liable for the performance of an obligation owned by a principal to a third party, should the principal fail to perform the guaranteed obligation.  For example, a guarantor promises to pay money owed to a lender by a borrower, if the borrower fails to perform.  A key element is that a guarantors liability is a secondary obligation, meaning the guarantor is not obliged to do anything unless and until the principal fails to perform the obligation.  That said, a well drafted guarantee will always include an indemnity to ensure the guarantor is always on the hook. Simply put, an indemnity goes further than a guarantee in that it creates a primary obligation - it does not require there to be a breach of obligation by the principal to a third party.

• This article explores a recent case that sheds light on the nature of letters of comfort and offers guidance on how to ensure they align with your intentions.

Exploring the case

• There have been numerous considerations on whether letters of comfort are only letters of comfort or whether the parties intended to create a legal relationship and for the letter to have contractual effect.

• The case in question involved a letter labelled as a "letter of comfort," which, upon closer examination, contained explicit agreements and undertakings. These included commitments to ensure the borrower adhered to all obligations under the finance documents and to guarantee repayment of the facility. Additionally, the letter included an indemnity clause and stated that it was "irrevocable and constitutes legal and binding obligation(s) upon us, our successors and permitted assigns."

• Despite these clear terms, the provider of the comfort argued that the letter was not intended to be legally binding and claimed that it was not meant to be relied upon by the bank. Essentially, the provider alleged that the letter was a sham, designed to appear as though it created legal rights and obligations that were not actually intended.

• The judge, however, dismissed this argument, referencing Associated British Ports v Ferryways [2009] EWCA Civ 189 and noting that the description or name of the document is not determinative of the content and that the document needs to be ruled as a whole.  The court further noted that the key distinction between a letter of comfort and a guarantee is that a guarantee provides a contractual promise as to future conduct and it is not simply a statement of fact.  On this basis the court ruled that the letter was indeed a legally binding guarantee and indemnity which created contractual liability between the parties.  This decision underscores the importance of the content of the document over the label it carries.

Key Takeaways

• This case serves as a crucial reminder that the label "letter of comfort" does not automatically exempt a document from creating contractual liability. When determining whether a document constitutes a legally binding contract, it is essential to examine the document in its entirety rather than relying solely on its title.

• For those drafting and/or receiving a letter of comfort, clarity is paramount. If the intention is for the letter not to have legal effect, this must be explicitly stated. Conversely, if the aim is to ensure the letter is legally binding, this should also be clearly articulated.

Conclusion

In conclusion, while letters of comfort can be useful tools in business transactions, their legal implications must be carefully considered. This case highlights the necessity of precise language and clear intentions in such documents. By explicitly stating the intended legal effect — or lack thereof —parties can avoid unintended obligations and ensure their agreements reflect their true intentions.

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