Privity of Contract: Contracts for the Benefit of Third Parties [1996] EWLC 242(5) (31 July 1996)

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5.1 The Consultation Paper (1) included a consideration of four possible techniques (2) by which reform of the third party rule could be effected:

(i) further exceptions to the third party rule could be made in specific instances;

5.2 Our provisional recommendation was that reform should be by way of a detailed legislative scheme (that is, option (iv) above). Almost all consultees were in favour of this provisional conclusion. (3) They believed that anything less than a detailed legislative scheme would lead to unacceptable uncertainty. Before confirming our views on this issue, we shall briefly consider the advantages and disadvantages of the various options.

(1) Further Exceptions in Specific Instances

5.3 The first suggestion, that reform might be effected by specific further exceptions to the third party rule, has the advantage that particular needs in particular situations can be directly addressed in detail. Another possible advantage is that exceptions in specific circumstances should leave little room for debate about whether there is an intent to give an enforceable right in particular cases. But to create further situation-specific exceptions misses the point that the third party rule is generally flawed. Creating further specific exceptions will merely serve to make the law more complex while still leaving unacceptable gaps in a third party's rights.

(2) Abolishing the Rule Preventing Recovery by the Promisee of Third Party's Loss

5.4 In the Consultation Paper we accepted that the major advantage of this technique of reform is that it avoids the need to address several difficult questions which arise if third parties are given directly enforceable rights, such as: what is the test for enforceability by a third party?; can the original parties vary or rescind the contract?; can the promisee sue in addition to the third party?; is the promisor entitled to rely on defences available against the promisee? However, in our view, this would not be an adequate method of reform, most centrally because the promisee may be either unwilling or unable to enforce a contract made for a third party.

(3) Removal of the Bar to Third Party Enforcement

5.5 The preferred method of reform advocated by the Ontario Law Reform Commission was that "[t]here should be enacted a legislative provision to the effect that contracts for the benefit of third parties should not be unenforceable for lack of consideration or want of privity". (4) The Ontario Commission preferred this approach to a detailed legislative scheme for several reasons:

5.6 We acknowledged in the Consultation Paper that this method of reform has the attraction of making the change of principle a legislative matter while leaving subsequent development to the courts. However, we also expressed the view that the problems involved are too complex and numerous to lend themselves to an incremental approach. We concluded that this approach would beg many important questions about the detailed application of reform of the third party rule, and that to leave these issues to the courts with no legislative guidance could be said to be an abdication of responsibility when we are aware that they involve questions of principle which will at some stage have to be faced. While this approach undoubtedly achieves flexibility it does so at the expense of clarity and certainty. We felt that the development of the law in the United States, even with the assistance of the Restatements, illustrates some of the disadvantages of such an approach. (5) We continue to find these arguments to be convincing, and thus reject a simple abolition of the privity rule as a method of reform.

(4) Reform by Means of a Detailed Legislative Scheme

5.7 This was the approach adopted in Western Australia, (6) Queensland, (7) New Zealand, (8) and recommended in Manitoba. (9) On this approach, policy would be determined and provision made for such matters as the contractual provisions that are enforceable by third parties, the rights of contracting parties to vary or discharge the contract, and promisors' defences. The crucial advantage of this approach is its certainty.

5.8 Although the House of Lords could, if a suitable opportunity arose, reconsider the third party rule in English law, (10) the House has on a number of occasions declined to do so. Moreover, one may have to wait a very long time for a suitable case to reach the House of Lords. In any event a legislative reform has the advantage that many of the difficulties of detail identified in the Consultation Paper and in this Report can be addressed and dealt with in a manner not open to the judiciary. In line with the overwhelming view of consultees, we therefore believe that a detailed legislative scheme is the best way to proceed.

2. Judicial Development of Third Party Rights

5.10 We should emphasise that we do not wish our proposed legislation - which we believe to be a relatively conservative and moderate measure - to hamper the judicial development of third party rights. Should the House of Lords decide that in a particular sphere our reform does not go far enough and that, for example, a measure of imposed consumer protection is required or that employees (even though not mentioned in the contract) should be able to rely on exclusion clauses that protect their employers under a doctrine of vicarious immunity (11), we would not wish our proposed legislation to be construed as hampering that development.

3. Reform of The Promisee's Remedies?

5.12 While it is our view that a reform of the rule preventing recovery by the promisee of the third party's loss is not the correct way to reform privity, this seems the most appropriate point in this Report to consider whether, in any event, there should be legislative reform of the promisee's remedies in a contract for a third party's benefit.

5.13 As we have seen in Part II, (12) a promisee's remedies can in some circumstances be of benefit to the third party. The promisee may be able to obtain an order of specific performance (13) or, if the promisor's breach causes loss to the promisee, may obtain substantial damages. If, however, the breach does not cause the promisee any loss and the case is not an appropriate one for specific performance, there will be a difficulty. Normally, the promisee can recover only for his or her own loss and this may mean that he or she will get only nominal damages even if there has been a substantial loss to the third party. The traditional view is also that the promisee will normally be unable to bring an action in debt to enforce payment to him or her of sums due to the third party under the contract, since those sums were by definition not due to the promisee. (14)

5.14 In our Consultation Paper, we did not raise as a specific issue the possibility of reforming the promisee's remedies, albeit that we did provisionally recommend that reform of the rule preventing the promisee from recovering the third party's loss in damages would not be an adequate method of reforming the third party rule. (15) The question we now wish to address, however, is whether, in addition to our central recommendations for reform of the third party rule, we should also recommend reforms to the law on the promisee's remedies.

5.15 We believe that to make specific recommendations in relation to the promisee's remedies in a contract for the benefit of a third party raises matters properly looked at in a more specific review. As the issue was addressed in a rather peripheral manner in our Consultation Paper, we do not believe that it would be appropriate in this Report to make detailed recommendations for its reform. Moreover, in recent years the courts have gone a considerable way towards developing rules which in many appropriate cases do allow the promisee to recover damages on behalf of the third party. The Albazero (16) and Linden Gardens Trust Ltd v Lenesta Sludge Disposals Ltd (17) are particularly important in this respect. Our recommendation is that this is a matter at present better left to the evolving common law. Certainly we would not wish to forestall further judicial development of this area of the law of damages.

5.16 Indeed it is important to emphasise that, while our proposed reform will give some third parties the right to enforce contracts, there will remain many contracts where a third party stands to benefit and yet will not have a right of enforceability. Our proposed statute carves out a general and wide-ranging exception to the third party rule but it leaves that rule intact for cases not covered by the statute. On the facts of Linden Gardens itself, there would be no question of the third party having a right of enforcement under our proposed reform. The property in question had been sold to the third party after the contract for work on the property had been entered into and there was a clause in the works contract barring assignment of the rights under it. The recognition in that case that the promisee could have recovered damages based on the third party's loss will be as important after the implementation of our proposed reform as it is under the present law; and we would not wish our proposed reform to be construed as casting any doubt on the decisions in The Albazero, Linden Gardens and Darlington BC v Wiltshier Northern Ltd. (18)

5.18 The co-existence of an action by a third party to enforce a promised benefit, and the potential ability of the promisee to recover substantial damages for a third party's loss, raise the question of how any overlap between these claims is to be dealt with. We address this in Part XI below. (19)

Footnotes to Part V

(2)It was also envisaged that it would be possible to combine some of these possibilities, for instance (i) and (iii).

(9)9 Manitoba Law Reform Commission, Report No 80, Privity of Contract (1993) p 57. See para 4.1, note 1, above.

(10)10As shown by the inroads into the rule made by the courts in other jurisdictions. Eg, Australia (Trident General Insurance Co Ltd v McNiece Bros Pty Ltd (1988) 165 CLR 107); Canada (London Drugs Ltd v Kuehne & Nagel International Ltd (1992) 97 DLR (4th) 261); USA (Lawrence v Fox 20 NY 268 (1859)).

(11)See London Drugs Ltd v Kuehne & Nagel International Ltd (1992) 97 DLR (4th) 261. See paras 2.31-2.32 above.