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Privity of Contract Contracts for the Benefit of Third Parties PRIVITY OF CONTRACT CONTRACTS FOR THE BENEFIT OF THIRD PARTIES LAW COMMISSION LAW COM No 242 The Law Commission (LAW COM No 242) PRIVITY OF CONTRACT: CONTRACTS FOR THE BENEFIT OF THIRD PARTIES Item 1 of the Sixth Programme of Law Reform: The Law of Contract Presented to Parliament by the Lord High Chancellor .. by Command of Her Majesty July 1996 LONDON: HMSO E18.20 - - Cm 3329 The Law Commission was set up by section 1 of the Law Commissions Act 1965 for the purpose of promoting the reform of the law. The Commissioners are: The Honourable Mrs Justice Arden DBE, Chairman Professor Andrew Burrows Miss Diana Faber Mr Charles Harpum Mr Stephen Silber QC The Secretary of the Law Commission is Mr Michael Sayers and its offices are at Conquest House, 37-38 John Street, Theobalds Road, London, WClN 2BQ. The terms of this report were agreed on 19 June 1996. I .. 11 THE LAW COMMISSION PRIVITY OF CONTRACT: CONTRACTS FOR THE BENEFIT OF THIRD PARTIES CONTENTS Paragraph Page SECTION A: BACKGROUND PART I: INTRODUCTION 1 PART 11: THE PRESENT LAW AND CALLS FOR REFORM 1. The Present Law 2.1 6 (1) A Brief Statement of the Third Party Rule in Contract 2.1 6 (2) Development of the Third Party Rule 2.2 6 (3) Existing Exceptions to, or Circumventions ofJ the Third Party Rule 2.8 9 Trust of the Promise 2.8 9 Covenants Concerning Land 2.10 10 Tort of Negligence 2.13 12 Agency 2.15 14 Assignment 2.16 15 Collateral Contracts 2.18 16 Techniques Used to Enable Third Parties to Take the Benefit of Exclusion Clauses 2.19 16 Promisee’s Remedies Assisting the Third Party 2.36 25 (i) Damages 2.37 25 (ii) Specific Performance and a Stay of Action 2.47 29 Statutory Exceptions 2.52 31 (i) Life Insurance 2.53 31 (ii) Fire Insurance 2.54 31 (iii) Motor Insurance 2.55 31 (iv) Third Parties’ Rights Against Insurers 2.56 31 (v) Insurance by Those with Limited Interests 2.57 32 (vi) Bills of Exchange 2.58 32 (vii) Bills of Lading 2.59 32 (viii)Law of Property Act 1925, Section 56(1) 2.60 33 (ix) Companies Act 1985, Section 14 2.61 34 (x) Package Travel, Package Holidays and Package Tours Regulations 1992 2.62 34 2. Calls for Reform 2.63 35 ... 111 I Paragraph Page SECTION B: PRELIMINARY ISSUES PART 111: ARGUMENTS FOR REFORM 1. The Intentions of the Original Contracting Parties are Thwarted 3.1 39 2. The Injustice to the Third Party 3.2 39 3. The Person Who Has Suffered the Loss Cannot Sue, While the Person Who Has Suffered No Loss Can Sue 3.3 40 4. Even if the Promisee Can Obtain a Satisfactory Remedy for the Third Party, the Promisee May Not be Able to, or Wish to, Sue 3.4 40 5. The Development of Non-Comprehensive Exceptions 3.5 41 6. Complexity, Artificiality and Uncertainty 3.6 41 7. Widespread Criticism Throughout the Common Law World 3.7 41 8. The Legal Systems of Most Member States of the European Union Allow Third Parties to Enforce Contracts 3.8 41 9. The Third Party Rule Causes Difficulties in Commercial Life 3.9 43 (1) Construction Contracts 3.10 43 (2) Insurance Contracts 3.24 48 10. Conclusion 3.28 50 PART IV PRECEDENTS FOR REFORM 1. The Law Revision Committee Report 4.2 53 2. Abrogation of Third Party Rule in Other Common Law Jurisdictions 4.5 55 (1) Western Australia 4.5 55 (2) Queensland 4.8 56 (3) New Zealand 4.9 57 (4) United States 4.15 60 PART V. THE FORM OF THE LEGISLATION 1. A Detailed Legislative Scheme? 5.1 63 (1) Further Exceptions in Specific Instances 5.3 63 (2) Abolishing the Rule Preventing Recovery by the Promisee of Third Party’s Loss 5.4 63 (3) Removal of the Bar to Third Party Enforcement 5.5 64 (4) Reform by Means of a Detailed Legislative Scheme 5.7 65 2. Judicial Development of Third Party Rights 5.10 65 3. Reform of the Promisee’s Remedies? 5.12 66 PART VI: THE THIRD PARTY RULE AND CONSIDERATION 1. Introduction and Consultation 6.1 68 2. Consideration Must Move From the Promisee . 6.3 68 3. The Joint Promisee Exception 6.9 70 4. Reforming Privity Without Reforming Consideration: the Deeper Policy Question 6.13 72 iv Paragraph Page SECTION C: CENTRAL REFORM ISSUES PART VII: THE TEST OF ENFORCEABILITY 1. Consultation and Our Recommendation 7.1 74 2. The First Limb of the Test of Enforceability 7.10 77 3. The Second Limb of the Test of Enforceability 7.17 80 (1) General Aspects of the Second Limb 7.17 80 (2) Negligent Will-Drafting 7.19 81 (3) The Application of the Second Limb of the Test to Various Hypothetical Situations 7.28 85 (4) The Application of the Second Limb of the Test to Some Past Cases 7.45 90 4. The Rejected Tests 7.52 92 5. A Special Test of Enforceability for Consumers? 7.54 93 PART VIII: DESIGNATIONyEXISTENCE, AND ASCERTAINABILITY OF THIRD PARTY 1. Designation 8.1 95 2. Existence of Third Party 8.5 96 3. Pre-Incorporation Contracts: A Special Case? 8.9 97 4. Ascertainability of Third Party and Certainty 8.17 100 PART IX: VARIATION AND CANCELLATION 1. Provisional Proposals and Consultation 9.1 101 2. The Two Extreme Positions 9.5 102 (1) Variation or Cancellation at Any Time 9.5 102 (2) No Variation or Cancellation 9.10 103 3. Possible ccCrystallisationyyTests 9.11 104 (1) Awareness 9.12 104 (2) Reliance 9.14 104 (3) Detrimental Reliance 9.15 104 (4) Acceptance 9.16 105 (5) Adoption Expressly or by Conduct 9.17 105 4. Choice of Test 9.18 105 5. The Reliance Test: Further Details 9.27 108 (1) Need the Promisor Be Aware OJ or Forsee, the Reliance? 9.27 108 (2) Material Reliance 9.31 109 (3) Protection of the Third Party’s Reliance or Expectation Interest? 9.32 109 (4) Burden of Proof 9.34 110 (5) Reliance by Someone Other Than the Third Party 9.35 110 6. Reservation of a Right to Vary or Cancel 9.37 111 7. Can the Relevant Crystallisation Test be Laid Down in the Contract? 9.41 112 8. Crystallisation Where There Is More Than One Third Party 9.43 112 9. Creating Irrevocable Rights 9.45 113 10. Judicial Discretion to Authorise Variation or Cancellation 9.48 113 V Paragraph Page PART X: DEFENCES, SET-OFFS AND COUNTERCLAIMS 1. Introduction 10.1 115 2. Precedents for Reform 10.5 116 (1) Law Revision Committee1Western AustralialQueensland 10.5 116 (2) United States 10.6 117 (3) New Zealand 10.7 117 3. Options for Reform 10.8 118 4. Defences,-Set-Offs and Counterclaims Available Only Against the Third Party 10.17 122 5. Third Party Enforcing an Exclusion or Limitation Clause 10.22 123 6. The Line Between Benefits and Burdens 10.24 124 PART XI: OVERLAPPING CLAIMS 1. More Than One Plaintiff: Claims by the Third Party and by the Promise e 11.1 128 (1) Promisee’s Rights 11.1 128 (2) Promisee’s Rights Where Performance by Promisor to Third Party 11.5 128 (3) Promisee’s Rights Where Release oflsettlement with Promisor by Third Party 11.7 129 (4) Releases Where More Than One Third Party 11.9 130 (5> Third Party’s Rights Where Performance by Promisor to Promisee (Rather than to Third Party), or Release oflsettlement with Promisor by Promisee 11.11 131 (6) Priority of Action? 11.14 131 (7) Avoidance of Double Liability 11.16 132 2. More Than One Defendant: Claims by the Third Party Against the Promisor, and Against the Promisee on a Pre-Existing Liability 11.23 135 PART XII: EXISTING EXCEPTIONS 1. Preserving Existing Exceptions 12.1 138 2. Should Existing Legislation Conferring Rights of Enforceability on Third Parties Preclude a Third Party Taking Rights under Our Proposed Legislation? 12.5 139 (1) Contracts for the Carriage of Goods by Sea 12.7 140 (2) Contracts for the International Carriage of Goods by Road, Rail or Air 12.12 142 (3) Contracts Contained in Bills of Exchange, Promissory Notes and Other Negotiable Instruments 12.16 144 3. Should This Opportunity Be Taken to Reform the Third Parties (Rights Against Insurers) Act 1930 and the Married Women’s Property Act 1882? 12.18 145 (1) Third Parties (Rights Against Insurers) Act 1930 12.19 145 (2) Married Women’s Property Act 1882 12.22 146 vi Paragraph Page PART XIII: CONSEQUENTIAL AMENDMENTS 1. Our General Approach 13.1 149 2. The Unfair Contract Terms Act 1977 13.9 151 3. Limitation Act 1980 13.14 155 1 1 PART XIV. MISCELLANEOUS ISSUES ~ 1. Joinder of Promisee 14.1 156 2. Assignment of the Third Party’s Right 14.6 157 3. Contracts for the Sale of Land 14.8 158 4. Choice of Law 14.12 160 5. Arbitration Agreements and Jurisdiction Agreements 14.14 160 6. Commencement of the Legislation 14.20 163 SECTION D: SUMMARY PART XV SUMMARY OF RECOMMENDATIO iS 164 Appendix A: Draft Contracts (Rights of Third Parties) Bill with Explanatory Notes 173 Appendix B: Legislation From Some Other Jurisdictions 184 Appendix C: List of Persons and Organisations who Commented on Consultation Paper No 121 191 Appendix D: Participants at the Conference on Reform of the Law of Privity of Contract 194 vii THE LAW COMMISSION Item 1 of the Sixth Programme of Law Reform: The Law of Contract PRIVITY OF CONTRACT: CONTRACTS FOR THE BENEFIT OF THIRD PARTIES To the Right Honourable the Lord Mackay of Clashfern, Lord High Chancellor of Great Britain SECTION A BACKGROUND PART I INTRODUCTION 1.1 In 1995 in the Court of Appeal in Darlington Borough Council v Wiltshier Northern Ltd’ Steyn LJ, in criticising the present law, said the following:- The case for recognising a contract for the benefit of a third party is simple and straightforward.
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