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You are here: BAILII >> Databases >> The Law Commission >> Privity of Contract: Contracts for the Benefit of Third Parties [1996] EWLC 242(1) (31 July 1996) URL: http://www.bailii.org/ew/other/EWLC/1996/242(1).html Cite as: [1996] EWLC 242(1)

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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 (1) 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. The autonomy of the will of the parties should be respected. The law of contract should give effect to the reasonable expectations of contracting parties. Principle certainly requires that a burden should not be imposed on a third party without his consent. But there is no doctrinal, logical, or policy reason why the law should deny effectiveness to a contract for the benefit of a third party where that is the expressed intention of the parties. Moreover, often the parties, and particularly third parties, organise their affairs on the faith of the contract. They rely on the contract. It is therefore unjust to deny effectiveness to such a contract. I will not struggle with the point further since nobody seriously asserts the contrary. (2)

1.2   In this Report we make recommendations for the reform of that part of the doctrine of privity of contract which lays down that a contract does not confer rights on someone who is not a party to the contract (hereinafter referred to as the "third party rule"). Our proposals will mean, for example, that subsequent purchasers or tenants of buildings can be given rights to enforce an architect's or building contractor's contractual obligations without the cost, complexity and inconvenience of a large number of separate contracts; (3) that an employer can take out medical expenses insurance for its employees without there being doubts as to whether the employees can enforce the policy against the insurance company; (4) that a life insurance policy taken out for one's stepchild or cohabitee is enforceable (subject to a term to the contrary) by that named beneficiary; (5) and that a contractual clause limiting or excluding one's liability to a third party (for example, the promisee's subsidiary company or sub-contractor or employee) will be straightforwardly enforceable by that third party. (6)

1.3   The Law Commission first became interested in this subject after the Commission's creation in 1965. (7) Item 1 of the First Programme of Law Reform was the codification of the law of contract. Item 3 included the topic of third party rights. A substantial amount of work was done on this topic in conjunction with work on consideration. At that time it was felt that reform of privity could not usefully be undertaken without reform of the doctrine of consideration. The relationship between the doctrines of privity and of consideration is discussed in Part VI below, where we explain why we believe that reform of the third party rule can be profitably undertaken without reassessing the entire doctrine of consideration.

1.4   In 1973 work was suspended on the production of a contract code (8) which, in its draft form, would have provided for the creation of rights in third parties. (9) The Law Commission's strategy since then has been to tackle problems in the law of contract as separate projects. (10) In arriving at the view that a project on privity was justified, we were influenced by, for example, the continued judicial and academic criticism of the doctrine, (11) by the work of Commonwealth law reform bodies, (12) by insights gained from our work on the rights of buyers of goods carried by sea, (13) and by a more cautious judicial approach in the late 1980s and early 1990s to tort liability for pure economic loss. (14) In short we had little doubt that the continued existence of the third party rule represented a pressing problem for the English law of contract.

1.5   In Consultation Paper No 121, (15) we set out the current law on the third party rule, the case for its reform, and the main issues that would need to be dealt with in any reform. In an Appendix, we gave an account of the way in which the problem has been dealt with in other jurisdictions. Our provisional conclusion was that the law ought to be reformed and that the reform should be embodied in a detailed legislative scheme. The principal feature of that scheme (that is, the test of enforceability) would be that a third party should be able to enforce a contract where the parties intended that the third party should receive the benefit of the promised performance and also intended to create a legal obligation enforceable by the third party.

1.6   The Consultation Paper attracted 102 replies. A clear majority accepted the validity of our arguments in favour of reform. Our provisional proposals were particularly welcomed by the legal profession and some other professional bodies, academic lawyers, consumer organisations, and the insurance and banking industries. While it was to be expected that the subject of the Consultation Paper would be of great interest to academic lawyers, the wide range of responses from non-academic lawyers and non-lawyers reflects the degree to which the third party rule still causes significant difficulties in practice.

1.7   The minority who opposed the proposals outlined in the Consultation Paper did so in reliance on four main general arguments. (16) First, that reform was unnecessary because the rule caused few problems in practice given that those who were affected by it could use various devices, described below, (17) to get round the third party rule. Secondly, that no legislative reform could hope adequately to deal with all the diverse situations where the third party rule is relevant. Thirdly, that the existing legal regime, while complicated, achieved certainty, and that reform would only result in uncertainty and litigation. Fourthly, that the proposals for reform might lead to contracting parties being bound to third parties when this was not their true intention.

1.8   We disagree with the view that the third party rule does not cause significant problems in practice. (18) We cannot ignore those who do not have access to (good) legal advice and, in any event, our proposed reforms will provide a simpler way of affording a third party the right to enforce a contract than the present convoluted techniques. This will not only save the parties costs, it will also save the taxpayer the needless litigation costs caused by the complexity of the present law. Nevertheless the response of the minority who opposed the proposed reform was invaluable in requiring us to reassess whether our proposals were too uncertain and would result in the imposition of unintended liabilities. In certain respects - and especially as regards the test of enforceability - we have modified our provisional recommendations in an attempt to allay those kinds of fears. We should emphasise, at the outset, that our recommendations are not concerned to override the allocation of liability within contracts but rather rest on an underlying policy of effectuating the contracting parties' intentions. At root our recommendations would enable the parties to create enforceable third party rights in contract without the complexities of the devices presently used to circumvent the privity doctrine.

1.9   Our general approach has been to devise moderate reform proposals which can be expected to gain wide support. Some more radical possibilities have been put to one side for fear that the central reform would otherwise be endangered. For example, we do not in this report recommend a special test of enforceability for third parties who are consumers; (19) we do not propose a reform of insurance contracts that goes as far as section 48 of the Australian Insurance Contracts Act 1984; (20) and we do not seek to recast the decision of the House of Lords in White v Jones (21) by bringing the claims of disappointed beneficiaries under negligently drafted wills within our proposed Act. (22)

1.10   It has also been important in our thinking that, while we believe that a detailed legislative scheme is the best means of reforming privity, we have no desire to hamper judicial creativity in this area. For example, we have left to the developing common law, what the rights of promisees should be in contracts for the benefit of third parties; (23) and we have left open for the judges to decide what the rights of a joint promisee, who has not provided consideration, should be. (24) In general terms, we see our draft Bill as achieving at a stroke and with certainty and clarity what a progressive House of Lords might well itself have brought about over the course of time. While the draft Bill departs from a long-established common law rule, we hope that it will not be seen as cutting across the underpinning principles of the common law.

1.11   The arrangement of this Report is as follows. In Part II we examine the present law and calls for reform. In Part III we present the case for reform. Part IV looks at precedents for reform. In Parts V and VI we examine the form of the legislation and the relationship between our reform and the consideration doctrine. In Parts VII to XIV we set out the important issues raised by any reform. In each of Parts VII to XIV, we comment on the responses received to the provisional proposals in our Consultation Paper, and then make detailed proposals for dealing with the issues raised. Part XV contains a summary of our recommendations. A draft Bill to give effect to our recommendations is to be found in Appendix A. Certain statutes from other jurisdictions to which we commonly refer are reproduced in Appendix B. Appendix C contains a list of those who responded to the Consultation Paper. Appendix D lists those who participated at a conference examining Consultation Paper No 121 held at the Institute of Advanced Legal Studies.

1.12    @ We gratefully acknowledge the assistance of the following people, who helped us with various aspects of this paper:-

Professor Jack Beatson, Rouse Ball Professor of English Law at Cambridge University, who was the Law Commissioner in charge of this project until October 1994 and who has subsequently continued to provide invaluable advice and assistance to us in bringing this Report to fruition; Professor Hugh Beale, University of Warwick, Professor Aubrey Diamond QC, Notre Dame University, and Professor Sally Wheeler, University of Leeds, who together formed our advisory working party; Professor Guenter Treitel QC, Vinerian Professor of English Law at Oxford University, who gave generously of his time and expertise in the final stages of this project; Sir Wilfred Bourne QC who carried out the analysis of consultation; Professor Roy Goode QC, Norton Rose Professor of English Law at Oxford University; Lord Justice Saville; Mr Justice Longmore; Mr Justice Rix; Michael Brindle QC; Stewart Boyd QC; V V Veeder QC; David Foxton; Toby Landau; Frances Paterson; Michael Marks Cohen; Alexander Green; Bruce Harris; Alex Maitland Hudson; Dr Malcolm Clarke, St John's College, Cambridge; Dr Gerhard Dannemann, Centre for the Advanced Study of European and Comparative Law, University of Oxford; Professor Richard Sutton, New Zealand Law Commission.

(1)1 [1995] 1 WLR 68.

(2)2 Ibid, at p 76. For other calls for reform, see paras 2.63-2.69 below.

(3)See paras 3.12-3.19 below.

(4)See paras 3.25-3.26 and 7.32 below.

(5)See paras 3.25-3.26 and 7.34 below. The Married Women's Property Act 1882 extends only to spouses and children.

(6)See paras 2.19-2.35, 3.20, 7.10 and 7.43 below.

(7)7 This project now comes within Item 1 of the Sixth Programme of Law Reform, Law Com No 234.

(8)8th Annual Report 1972-1973, Law Com No 58, paras 3-4.

(9)9 See H McGregor, Contract Code drawn up on behalf of the English Law Commission (1993) ss 641ff.

(10)Exemption Clauses: Second Report (1975) Law Com No 69; Scot Law Com No 39 (see the Unfair Contract Terms Act 1977); Report on Contribution (1977) Law Com No 79 (see the Civil Liability (Contribution) Act 1978); Implied Terms in Contracts for the Supply of Goods (1979) Law Com No 95 (see the Supply of Goods and Services Act 1982); Pecuniary Restitution on Breach of Contract (1983) Law Com No 121; Minors' Contracts (1984) Law Com No 134 (see the Minors' Contracts Act 1987); The Parol Evidence Rule (1986) Law Com No 154; Implied Terms in Contracts for the Supply of Services (1986) Law Com No 156; Sale and Supply of Goods (1987) Law Com No 160; Scot Law Com No 104 (see the Sale and Supply of Goods Act 1994); Rights of Suit in Respect of Carriage of Goods by Sea (1991) Law Com No 196; Scot Law Com No 130 (see the Carriage of Goods by Sea Act 1992); Contributory Negligence as a Defence in Contract (1993) Law Com No 219; Firm Offers (1975) Law Com Working Paper No 60; Penalty Clauses and Forfeiture of Monies Paid (1975) Law Com Working Paper No 61.

(11)11See paras 2.63-2.69 below.

(12)12See paras 4.5-4.14 below.

(13)Rights of Suit in Respect of Carriage of Goods by Sea (1991), Law Com No 196; Scot Law Com No 130 (see the Carriage of Goods by Sea Act 1992).

(14)See, eg, Caparo Industries Plc v Dickman [1990] 2 AC 605; Murphy v Brentwood District Council [1991] 1 AC 398.

(15)Privity of Contract: Contracts for the Benefit of Third Parties (1991) (hereinafter referred to as Consultation Paper No 121).

(16)16The main opposition to the proposals in the Consultation Paper came from some, although by no means all, of the twenty or so responses from the construction industry. Professor Burrows presented a revised version of our proposals in a lecture to the Society of Construction Law on 4 April 1995; and a copy of that lecture was sent to members of that society inviting comments. The response to that lecture, both at the time and subsequently, suggests that our final recommendations will not be opposed by the construction industry.

(17)17See paras 2.8-2.62 below.

(18)See paras 3.5-3.6 and especially 3.9-3.27 below.

(19)See paras 7.54-7.56 below.

(20)See paras 12.22-12.25 below.

(21)21[1995] 2 AC 207.

(22)See paras 7.19-7.27 below.

(23)See paras 5.12-5.17 below.

(24)See paras 6.9-6.12 below.