In the previous two posts’ we have examined the Doctrine of Privity and a consequence of 3rd Party Rights in relation to Collateral Warranties. We should now examine the legislation which effectively replaced the doctrine and that also led to the decision reached in Parkwood Leisure Limited v Laing O’Rourke Wales and West.
The Contracts (Rights of Third Parties) Act 1999 significantly reformed the common law, Doctrine of Privity and removed the second rule of the Doctrine that a third party could not enforce a contract for which he had not provided consideration.
The Act allows third parties to enforce terms of contracts that benefit them or which the contract allows them to enforce as well as allowing access to a range of remedies if the terms of the contract are breached. The ways a contract can be changed without the permission of an involved third party is also dealt with by the legislation. It further provides protection for the promisor and promisee where there is a dispute with the third party, and allows parties to a contract to specifically exclude the protection afforded by the Act if they want to limit the involvement of third parties.
Scope and implementation
As Scots Law has its own rules on privity and third party rights, the legislation applies only in England, Wales and Northern Ireland and came into law on 11 November 1999 although the act did not fully come into force until May 2000. During this period contracts negotiated after the acts passage but before its implementation fell under its provisions if they included language saying that they had been made under the terms of the act.
This legislation had a number of consequences, including allowing third parties to enforce terms. There were also exceptions, such as claiming on behalf of another party, (Jackson v Horizon Holidays Ltd) although the legislation did not repeal or abolish these exceptions and this effectively allows the courts to accept cases based on the old common law exceptions as well as this legislation. It is fundamental to the legislation that allows parties to exempt an agreement from the Acts provisions.
However, despite a largely supportive reception from the judiciary, legal profession and academia; the legislation was criticised by the construction industry for its refusal to make an exception for complex construction contracts and the vagueness of the term “purports to confer a benefit”. Although on balance it was deemed unfair to exempt a particular industry and case law has clarified the meaning of “purports to confer a benefit”.
The legislation is divided into 9 sections and we will now examine each of these.
Section 1: Right of third party to enforce contractual term
The old common law rule that a third party could not enforce the terms of a contract (Dunlop Pneumatic Tyre Co Ltd v Selfridge & Co Ltd) or that a third party could not act against a promisor (Tweddle v Atkinson) and allows a third party to enforce terms of a contract in one of two situations:
- if the third party is specifically mentioned in the contract as someone authorised to
- if the contract “purports to confer a benefit” on him
An exception to the second rule involves contracts that include language barring third parties from applying the rule. A further exception applies to contracts between solicitors and their clients to draft wills.
Where a third party can enforce terms that “purport to confer a benefit on him” have been described as too broad and it was the view that it would be “un-workable” in situations such as complex construction contracts involving dozens of sub-contractors with chains of contracts among them. The phrase “purport to confer a benefit” was originally found in the 1937 Law Commission paper on reform of the doctrine of privity and was used in the New Zealand Contracts (Privity) Act 1982 before being adopted in the English legislation.
The third party must be identified by name or a member of a group even if that party does not exist when the contract is formed. This can cause issues however where for example, Party A enters a contract to have Party B construct a building. Party A later sells the building to Party C who finds that it has structural problems; Party C has no cause of action against Party B because he was not named in the original contract.
If a third party chooses to enforce the terms of a contract, he can do so against the promisor and has the right to any remedy that would be available if he was party to the contract, such as specific performance. The only exception is the ability to terminate the contract and have it rendered void as this may be contrary to the promisee’s wishes or interests”.
Section 2: Variation and rescission of contract
This section governs changes to and rescission of contracts whereby it prevents the parties rescinding or altering to remove or modify the terms that affect a third party where the third party has told the promisor that he “assents” to the term, or that has relied on the contract (and the promisor knows this, or could be expected to have known this).
However, this is the default position and the parties may insert clauses into the contract allowing them to rescind or alter the contract without the consent of the third party. The courts can ignore the consent of the third party and allow the promisor and promisee to change the contract if the third party is mentally incapable, unfindable or if it is impossible to tell if the third party has truly consented, although the courts may add conditions to that decision, such as requiring the promisor or promisee to pay compensation to the third party.
Assenting is considered complete when the third party “communicates” his assent to the promisor, which can be done in a variety of ways, although the contract may specify the communication method(s). If a communication method is specified then no other method is valid.
The third party does not have to have suffered a detriment from his “reliance”; it is enough that he has relied on the contract. If the third party has relied on the terms of the contract, which are breached, he can claim damages for any loss suffered from relying on the contract as well as “standard” damages, such as loss of profit.
Section 3: Defences available to promisor
This section deals with the defences available to the promisor if the third party brings an action against him. In a dispute between the promisor and the third party over a term, the promisor can rely on any defence he would have if the dispute was with the promisee, as long as the defence is applicable to the term under dispute. And has been modelled on the similar section of the New Zealand Contracts (Privity) Act 1982.
The legislation further allows the promisor to list additional defences that are able to be used against the third party in the contract. During the drafting stage the Law Commission rejected a suggestion the promisor should have every defence in a dispute with a third party that he would have in a dispute with the promise, irrespective of whether or not it could be applied to the disputed term. By allowing additional defences this can be used to circumnavigate this decision to not give the promisor equal defences against both the third party and promisee by listing those additional defences the promisor would like access to.
However, the legislation does take a different stance in relation to defences available to the third party in counterclaims. Here the Law Commission’s view was that to apply the same rules would be “misleading and unnecessarily complex” as the counterclaim could be more valuable than the original claim. This which would impose an obligation on the third party to pay the promisor money. This is inappropriate under the Doctrine of Privity where it prohibits the placing of a burden or obligation on a third party.
However the parties are able to the contract can insert a clause overriding this.
Section 4: Enforcement of contract by promisee
This section preserves the right of the promisee to enforce any term of the contract which allows the promisee to sue for losses to themselves, but not for losses of the third party.
Section 5: Protection of promisor from double liability
This section protects the promisor from double liability, having to damages for the same breach to both the third party and the promisee if the promisor breaches the contract.
However this is limited as the promisor is only protected if he has first paid damages to the promisee, and the third party’s claim comes after that. Payment has been made. Further the legislation only limits damages paid in this situation and do not eliminate them. If the promisee brings action against the promisor and wins, any damages paid to the third party in a subsequent action must take the previous damages paid to the promisee into account.
If the third party brings action and the promisee does so following this then the promisee cannot claim any damages as it was determined during the drafting stage that the promisee would have no interest in the dispute any more.
This does not take into account situations where the promisee has suffered personal loss from the breach of contract. If the promisee brings an action first then the third party is prohibited from doing so, unless the promisee’s action fails at which time the third party is free to pursue his own claim.
Section 6: Exceptions
This section defines exceptions to the scope of the Act.
Where the Act applies to standard contracts and contracts made by deeds, it does not apply to contracts made as a part of negotiable instruments, bills of exchange or promissory notes, or contracts governed by the Companies Act 1985, such as the articles of association.
transport of goods across national boundaries is also exempt as this is governed under international trade laws.
Further, terms in employment contract which allow a third party to sue an employee are exempt. This for two distinct reasons:
- Either the position of third parties in those types of contract are too well established to be easily changed, or
- For reasons of public policy the involvement of third parties is not a good idea
Section 7: Supplementary provisions relating to third party
This section includes supplementary provisions relating to the rights of third parties.
It prevents third parties from using the definition of “third party” in this Act when applying any other Act of Parliament, and excludes the section of the Unfair Contract Terms Act 1977 that covers negligence from applying to actions against a third party.
Further, Section 7(1) ensures any exceptions to the rule of privity which existed prior to this legislation remain valid.
Section 8: Arbitration provisions
The legislation allows for arbitration clauses, which require the parties to submit to specific arbitration procedures in the event of disputes to be inserted into contracts.
Although initially The Law Commission excluded arbitration clauses in the draft bill, this was later amended to allow third parties to take advantage of arbitration proceedings.
Section 9: Northern Ireland
This section recognises and takes into account differences between English and Northern Irish law. It further modifies how to interpret the legislation in Northern Ireland.
The use of “Companies Act 1985” in Part VI is substituted with the Northern Irish equivalent, the Companies (Northern Ireland) Order 1986 and Part IX also repeals sections 5 and 6 of the Law Reform (Husband and Wife) (Northern Ireland) Act 1964.
The consequences of this legislation is that while a blot on the legal landscape has been removed with the Contract (Right of Third Parties Act , it has at the same time made drafting of contracts with third party rights more onerous in order to take advantage of the situations that exist in the legislation to insert overriding clauses.