An indemnity bond is often used as a guarantee to make good any losses suffered by one party as a result of past actions of another. An example of cases where such an agreement may be made is when one party is buying a company which has a trading history, a ready made company.
The purchaser of the company might carry out extensive due diligence on the proposed entity and even after this has been completed, there may be no certainty that undisclosed or potential liabilities do not exist.
They might therefore seek to secure a deed of indemnity agreement with the vendors, that any such liabilities which come to light within a defined period will be met by the seller and not by the purchaser of the company.
Whilst having a deed of indemnity in these cases might be standard, the practicalities of locating the seller and recovering monies from them long after the sale has been completed, presents additional problems. If the seller can not be made to compensate the purchaser for any debts which emerge following the transfer of the company, then the indemnity bond agreement is effectively worthless.
Examples of potentially unknown liabilities which might exits when purchasing a company are:
- VAT liabilities due to previously incorrect returns being submitted.
- Corporation tax underpayment due the errors made in calculating the company’s tax liability.
- Undisclosed or unknown legal actions being brought against the company at the time of purchase.