Privity of Contract: Contracts for the Benefit of Third Parties [1996] EWLC 242(7) (31 July 1996)

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1. Consultation and Our Recommendation

7.1 In the Consultation Paper the test of enforceability was identified as the central issue involved in reform of the third party rule. (1) The test of enforceability provides the answer to the question, "When (ie in what circumstances) does a third party have the right to enforce a contract or contractual provision to which he/she is not a party?" The Consultation Paper set out six possible tests. These were as follows:

7.2 It was provisionally concluded in the Consultation Paper that the third party should only be able to enforce a contract where the contracting parties intend that he should receive the benefit of performance and intend to create a legal obligation enforceable by him (the "dual intention" test set out in option (iii) above). (3) It was also provisionally recommended that reform should enable consideration of the circumstances surrounding the making of the contract when deducing the parties' intentions. (4)

7.3 The recommendation of a "dual intention" test drew the most comment from consultees. There were roughly six strands of consultees' opinions. First, the majority of consultees accepted the proposed dual intention test without criticism. Secondly, a substantial minority feared that the proposed dual intention test would lead to unacceptable uncertainty in the law and might lead to unintended liabilities being forced onto contracting parties. Such critics tended, therefore, to reject reform altogether or, if there were to be reform, they tended to prefer the Law Revision Committee's proposal (that is, option (i) above) or something like it. Thirdly, some consultees thought that the second, or "intention to create an enforceable right" limb of the test, was artificial and preferred option (ii) or (vi) above. Fourthly, and somewhat similarly, some consumer interests feared that the second limb would prove difficult to apply to consumer transactions and argued that it should not apply in that field. (5) Fifthly, a few consultees saw the first limb of the test, requiring an intention to benefit a third party, as unnecessary and redundant. Finally, a few consultees, while approving the dual intention test, suggested that to avoid uncertainty in its application, the implementing legislation should contain a series of presumptions for or against the creation of legally enforceable rights in particular circumstances.

7.4 While we continue to believe (along with the majority of consultees) that, of the options set out in the consultation paper, the "dual intention" test is the best approach, we also consider, in the light of the views of some consultees, that it requires modification and clarification in order to provide an acceptable statutory test. This is for two main reasons.

7.5 First, where the parties have expressly conferred legal rights on the third party, we agree with those consultees who suggested that it ought not to be necessary to show additionally that the third party was an intended beneficiary of the contract. Secondly, we agree with the strong view of many consultees that a test of effecting the parties' intentions in the light of the contract and the surrounding circumstances produces unacceptable uncertainty. In other words, while we continue to believe that one must seek to effect the parties' intentions to confer legal rights on the third party, we also consider that, to avoid unacceptable uncertainty, one needs a clearer and sharper test for implementing that policy. We have therefore ultimately opted for a test of enforceability which, like the recommendations of the Law Revision Committee in 1937, emphasises the express terms of the contract but also closely follows the New Zealand Contracts (Privity) Act 1982 in relying on a rebuttable presumption of an intention to confer legal rights on a third party.

7.7 Before examining each of the two limbs of our recommended test of enforceability, it is worth emphasising that our recommended test of enforceability rests on the belief that the novel context of third party rights requires a novel approach to contractual intention. In English contract law the intentions of the contracting parties are important in two main areas; (i) intention to create legal relations; and (ii) establishing and construing the terms, express and implied, of the contract. However, the existing law on each of those aspects of contractual intention does not easily lend itself to determining the contracting parties' intentions as regards the legal rights of third parties. The law on intention to create legal relations draws a distinction between commercial and domestic agreements, with a presumption being made in favour of an intention to create legal relations in respect of the former but not in respect of the latter. Such an approach is inappropriate when one is considering the parties' intentions as regards the legal rights of third parties; indeed, as the fear of unintended liabilities has been most keenly impressed upon us in respect of commercial, as opposed to domestic, contracts, a presumption of an intention to create legal rights in third party beneficiaries in commercial but not domestic contracts, would directly undermine our policy objectives.

7.8 At first sight the concept of an implied term might be thought more fruitful. Indeed we were for some time attracted by the view that the appropriate method of reform was to rely on existing tests for the implication of terms into contracts, namely the "officious bystander" or "business efficacy" tests. (7) The difficulty with the former, however, is that if the test is strictly construed it leads to there being no right of enforceability in even the plainest cases (see examples 1-3 below) (8) where we consider reform to be essential. In particular, on a strict construction of the "officious bystander" test, a term can only be implied where it is clear that both parties would have agreed to the term; and, again, the standard requirement that the parties must know the facts upon which the implication is based would appear, analogously, to require the parties to know of the legal difficulties in leaving it to the promisee to enforce the contract. Similarly, it is far from clear that the "business efficacy" test for implying terms can be sensibly applied to the question of whether a third party has the legal right to enforce the contract because a contract will rarely be unworkable simply because a third party has no right to enforce it: the promisee will always have that right. Of course, one might leave the courts to loosen the traditional tests so as to render them more workable in this new context. But this would defeat the whole point of relying on existing tests and would seem to be a recipe for uncertainty and confusion. In any event, to rely on implied terms is to rely on a body of law and tests that are notoriously unclear in their application even in respect of standard two-party contracts. And even analysed as a matter of theory, the implication of terms into contracts ranges from an exercise in construing the true actual intention of the parties through to imposing liabilities on parties subject to their contracting out with no very clear divide between the extremes. Put another way, the line between implied terms in fact (based on the parties' actual intentions) and implied terms in law (based on considerations other than the parties' intentions) is a thin and slippery one.

7.9 Ultimately therefore we have come to the view that a novel approach to contractual intention is required in respect of creating legal rights for third parties that rests neither on the existing law relating to intention to create legal relations nor on implied terms.

2. The First Limb of the Test of Enforceability

7.10 This limb is largely self-explanatory. It is satisfied where the contract contains words such as "and C shall have the right to enforce the contract" or "C shall have the right to sue". In our view, it would also cover an exclusion (or limitation) clause designating third parties (eg "C shall be excluded from all liability to A for damage caused in unloading the goods") because an exclusion clause, as a legal concept, has no meaning unless it is intended to affect legal rights and, where the third party is expressly designated as a person whose liability is excluded, the plain meaning of the exclusion clause is that the third party is to have the benefit of it without having to rely on enforcement by the promisee. (9) We also tend to think that a clause such as "and the obligation to build to a safe standard shall enure for the benefit of subsequent owners and tenants for a period of ten years" falls within this first limb so as to be enforceable by subsequent owners and tenants. Of course, even express words sometimes give rise to questions of interpretation (as the last example shows) but the great merit of this limb of the test is that it should give rise to very few disputes.

7.11 Although the Law Revision Committee's test of a contract "expressly purporting to confer a benefit directly on a third party" is ambiguous, one interpretation of it, and the one favoured by several consultees, is that it accords with this first limb. Indeed some consultees considered that this first limb should be the only test on the basis that anything else is likely to give rise to uncertainty and to some risk of unintended liability. However, in our view, to have a reform based just on this first limb would be excessively narrow. For example, it would not cover the facts of problematic past cases, such as Beswick v Beswick. (10) Nor would it cover many other situations (see the examples discussed in paras 7.28-7.34 and 7.39-7.41 below) in which we believe that a third party should have the right of enforceability, consistently with the parties' intentions to confer that right, and yet the parties have not expressly conferred that right. It would also operate to the disadvantage of those who do not have the benefit of (good) legal advice.

7.12 One issue that we have found difficult is whether this first limb should permit the creation of rights of enforcement by third parties who are not intended to be beneficiaries. While this question does not arise in respect of our recommended second limb - because the third party must there be an intended beneficiary - it is conceivable that the parties may expressly confer a right of enforceability on a third party who is not to be a beneficiary.

7.13 A few consultees questioned the need for the third party to be a beneficiary. They pointed out that it is not normally a condition for the validity of a contractual provision that it benefits the person seeking to enforce it. And they thought that the meaning of ?benefit' might give rise to (unnecessary) difficulty. Two main examples were given of where the parties might seek to contract to create obligations which would benefit a range of persons not party to the contract but in the interests of simplicity and certainty might wish to confine the ability to enforce the rights arising to a third party who was not a beneficiary. First, A contracts with B to transfer £10,000 to C, which C is to hold on trust for the benefit of D: and C is expressly given the right to enforce A's obligation to B. It was argued that, in that situation, C should have the right to enforce the contract even though the performance of A's obligation would be for the benefit of D and (although we do not agree with taking such a narrow interpretation of ?benefit') C could perhaps be said not to "benefit" from the performance by being made a trustee of the benefit. Secondly, A (a developer) and B (the client) might wish to designate C (a management company) as having the right to sue to enforce warranties in the construction contract for D-Z (the tenants). In the light of these sorts of example it was therefore argued that a requirement of "benefit" provided a useful means of identifying the most common category of contracts where third parties should be permitted to enforce contracts, but should not be essential.

7.14 The contrary view was taken by the Scottish Law Commission, in a Memorandum published in 1977 dealing with the ius quaesitum tertio in Scottish law. (11) It said, "Where there is merely title to sue without personal benefit, it may well be that an altogether different legal relationship is established between the three parties involved from that which arises when a contract is concluded with the intention of benefiting a Tertius...[I]f a person has merely bare title to sue it is difficult (unless he acts in the capacity of agent) to see what patrimonial loss he could establish if he sued for non- performance...[T]he expression jus quaesitum tertio seems to have been stretched inaptly to include the type of cases just mentioned...[U]nless the third party designated in a contract as entitled to accept payment or performance is a beneficiary or an agent, mandatory, or trustee, we do not think that he should have a right to sue at all".

7.15 An argument in favour of the Scottish view is that to permit the creation of bare rights to sue would recreate one of the difficulties of the present law, whereby a contracting party in a contract for a third party's benefit, while able to sue, will generally recover no substantial damages because it has suffered no loss. Even if damages are substantial there is some difficulty in deciding whether they can be retained by the contracting party or must be paid over to the third party beneficiary. Our reform seeks to minimise this problem of the contracting party having a bare right to sue by giving the third party beneficiary a right to sue. But if the third party need not be a beneficiary, and yet has the right to sue, those problems would be recreated as between third and fourth parties rather than as between promisee and third party.

7.16 Ultimately, however, we do not consider this to be a strong enough reason for denying giving effect to the expressed intention of the parties. A third party suing for the benefit of a fourth party under our reform will be in no worse position than a contracting party suing for a third party beneficiary under the present law. And while the remedies available to that third party may be inadequate in many situations, in others they will not (for example, specific performance or the award of an agreed sum may be available even if substantial damages are not). In any event, the mere insistence that the third party be a beneficiary does not erase the problem that the primary benefit (and hence primary loss) may be that of a fourth party not the third party. It is our view, therefore, that under the first limb of the test the third party need not be an intended beneficiary of the contractual provision in question.

3. The Second Limb of The Test of Enforceability

7.17 This limb is concerned to cover those situations where the parties do not expressly contract to confer a legal right on the third party. In general terms it establishes a rebuttable presumption in favour of there being a third party right where a contractual provision purports to confer a benefit on an expressly designated third party. But that presumption is rebutted where on the proper construction of the contract the parties did not intend to confer a right of enforceability on the third party. In our view, this second limb achieves a satisfactory compromise between the aims of effecting the intentions of the contracting parties while not producing an unacceptable degree of uncertainty in the law. It is very similar to (and would seem to reach the same results as) the sole test of enforceability in the New Zealand Contracts (Privity) Act 1982. It may also be said to come close to the Law Revision Committee's proposals that the contract must expressly purport to confer a benefit directly on a third party.

(2) Negligent Will-Drafting

7.19 In fixing the boundaries of our proposed reform, we have encountered most difficulty with the situation where a solicitor negligently fails properly to draw up a will thereby causing loss to the intended beneficiaries of the will. Should those beneficiaries have the right to sue the solicitor under a reform of privity? While we can certainly see the force in allowing those beneficiaries a cause of action, we do not think that this is best rationalised as effecting the parties' intentions to confer that right. Moreover, as the House of Lords in White v Jones (13) has now held that the prospective beneficiaries have an action in the tort of negligence against the solicitor, we see no pressing practical need to stretch our facilitative reform in order to achieve what is widely perceived to be the just solution.

7.20 The wording of our proposed reform is therefore not intended to include negligent will-drafting (and analogous) situations. The crucial words are that the promise must be one to confer a benefit on the third party. The solicitor's express or implied promise to use reasonable care is not one by which the solicitor is to confer a benefit on the third party. Rather it is one by which the solicitor is to enable the client to confer a benefit on the third party. (14)

7.21 In support of the line here being taken, it is significant that in White v Jones neither Lord Goff, giving the leading speech of the majority, nor Lord Mustill, in his dissenting speech, thought that the facts of White v Jones would naturally fall within a jus quaesitum tertio. Lord Goff said, "It is true that our law of contract is widely seen as deficient in the sense that it is perceived to be hampered by the presence of an unnecessary doctrine of consideration and (through a strict doctrine of privity of contract) stunted through a failure to recognise a jus quaesitum tertio. But even if we lacked the former and possessed the latter, the ordinary law could not provide a simple answer to the problems which arise in the present case, which appear at first sight to require the imposition of something like a contractual liability which is beyond the scope of the ordinary jus quaesitum tertio". (15) And Lord Mustill, dissenting, said: "But even under a much expanded law of contract it is hard to see an answer to the objection that what the testator intended to confer on the new beneficiaries was the benefit of his assets after his death; not the benefit of the solicitor's promise to draft the will". (16)

7.22 Similarly, in New Zealand it was accepted in Gartside v Sheffield, Young & Ellis (17) that section 4 of the Contracts (Privity) Act 1982 does not give the disappointed beneficiary under a will a right to sue the solicitor. In Cooke J's words, "[O]n an ordinary and natural reading of the key s 4 of that Act, a prospective beneficiary under a proposed will could not invoke the Act. For the contract between the testator and the solicitor would not itself contain a promise conferring or purporting to confer a benefit on the prospective beneficiary. Putting the point in another way, the solicitor has not promised to confer a benefit on him." (18)

7.23 In the Consultation Paper, we invited comments on how best, if at all, to deal with the question of improperly executed wills prejudicing prospective third party beneficiaries. (19) There was an overwhelming view (and this prior to White v Jones) that this area should not be treated as an aspect of the law on contracts for the benefit of third parties. (20)

7.24 The distinction that our second limb seeks to draw between a promise to confer a benefit on a third party and a promise of potential benefit to a third party is also strongly supported by Kit Barker in his illuminating article entitled, "Are We up to Expectations? Solicitors, Beneficiaries and the Tort/Contract Divide". (21) He writes:

7.25 It is our view, therefore, that the negligent will-drafting situation ought to lie, and does lie, just outside our proposed reform. It is an example of the rare case where the third party, albeit expressly designated "as a beneficiary" in the contract, has no presumed right of enforcement. Indeed it is arguable that, by merely adjusting the wording of the second limb to include promises that are "of benefit to" expressly designated third parties, rather than those that "confer benefits on" third parties, we would have brought the negligent will-drafting situation within our reform. But we believe that those words draw the crucial distinction between the situation where it is natural to presume that the contracting parties intended to confer legal rights on the third party and the situation where that presumption is forced and artificial. (22)

7.26 It has also been important in our thinking that, if the negligent will-drafting situation were brought within our reform, it would be impossible to exclude the inter vivos gift situation. Say a solicitor negligently fails to draw up properly the documentation for an inter vivos gift. The donor, believing it to be valid, executes the documents. The mistake comes to light some time later during the lifetime of the donor but after the gift to the intended donee should have taken effect. The donor, by then, having changed his mind, declines to perfect the imperfect gift in favour of the intended donee. If the negligent will-drafting case were within our reform, it is hard to see how this could not be. Yet in this situation, even supporters of White v Jones may baulk at giving the third party a right against the solicitor given that the donor can rectify the position should he or she so wish. A duty of care to the third party was denied at first instance in an analogous situation in Hemmens v Wilson Browne (23) and certainly in White v Jones Lord Goff did not think that the third party should have a claim in this type of inter vivos situation. He said:

I for my part do not think that the intended donee could in these circumstances have any claim against the solicitor. It is enough, as I see it, that the donor is able to do what he wishes to put matters right. From this it would appear to follow that the real reason for concern in cases such as [White v Jones] lies in the extraordinary fact that, if a duty owed by the testator's solicitor to the disappointed beneficiary is not recognised, the only person who may have a valid claim has suffered no loss, and the only person who has suffered a loss has no claim. (24)

7.27 However we must add that, while we consider that negligent will-drafting should fall outside our proposed reform, at a theoretical level we prefer the view that the right of the prospective beneficiaries more properly belongs within the realm of contract than tort. It is very difficult to explain the basis of the claim, which deals with an omission and pure economic loss, as being other than one to enforce the promise of the solicitor (albeit by a party who was not intended to have that right). Had White v Jones been decided against the potential beneficiaries, we would have seriously contemplated a separate provision - outside our general reform - giving prospective beneficiaries a right to sue the negligent solicitor for breach of contract. The primary basis of such a provision would have been that a right of action for the beneficiaries is the only way to ensure that the promisee's expectations engendered by the solicitor's binding promise are fulfilled. But given the decision in White v Jones the practical need for such a provision has been obviated.

(3) The Application of the Second Limb of the Test to Various Hypothetical Situations

7.28 1. A promises B, his father, that in return for the transfer of the family home, A will pay C an annuity of £5,000 per annum for her life. B dies, and A refuses to continue payments. The promise is one by which A is to confer a benefit (£5,000 per annum) on C, who is expressly identified by name. C will therefore have the right to enforce A's promise (subject to A rebutting the presumption by pointing to a term, or other feature of the contractual matrix, showing that A and B did not intend C to have that right).

7.29 2. B Ltd contracts with A Ltd for the sale of a plot of land. The consideration is to be £100,000 paid to B Ltd and £50,000 paid to C Ltd, which is an associated company of B Ltd. The land is transferred. B Ltd receives its payment but A Ltd, experiencing financial difficulties, refuses to make the payment to C Ltd. The promise is one by which A Ltd is to confer a benefit (£50,000) on C Ltd, which is expressly identified by name. C Ltd could therefore sue A Ltd for breach of the payment obligation (subject to rebuttal by A under the proviso to the second limb). (25)

7.30 3. B owes £5,000 to C. To discharge this debt, B enters into a contract with A that A will carve a sculpture for C. A fails to carve the sculpture. The promise is one by which A is to confer a benefit (the sculpture) on C, who is expressly identified by name. C will therefore have the right to sue A (subject to rebuttal by A under the proviso to the second limb).

7.31 4. B takes out a liability insurance policy with A whereby A agrees to indemnify B and all B's subsidiary companies, contractors and sub-contractors in respect of liabilities incurred in carrying out B's construction contracts. C, a sub- contractor, is held liable in negligence for injuries suffered by a workman and wishes to be indemnified by A under the insurance policy with B. Subject to rebuttal by A under the proviso to the second limb, C would be able to enforce A's promise: A has promised to confer a benefit (indemnity payment) on C, who is expressly identified by class.

7.32 5. B takes out a policy of insurance with A Ltd to cover her employees against medical expenses. The policy provides that payments under it will be made direct to ill employees or, at the discretion of A Ltd, to the provider of the medical services in discharge of an employee's liability to that provider. C, an employee, suffers a disorder and requires hospitalisation. Meanwhile B disappears. C seeks to sue as a beneficiary of B's contract of insurance with A Ltd. Subject to rebuttal by A Ltd under the proviso to the second limb, C would be able to do so: A has promised to confer a benefit (direct payment or the discharge of C's liability to the provider of medical services) on C, who is expressly identified by class.

7.33 6. B takes out a personal accident insurance policy with A Ltd to cover his employees against accidents. By the terms of the policy, payments are to be made to B, receipt by B alone is to be an effectual discharge of A Ltd's liability, and A Ltd is to be entitled to treat B as the absolute owner of the policy. C, an employee, is injured and B is insolvent. C seeks to recover from A Ltd as a beneficiary of B's contract with A Ltd. This is a difficult example. (26) On one view, B retains an absolute discretion whether to hand on to C the payments received from A Ltd and it is therefore difficult to say that under the contract of insurance A purports to confer a benefit on C. Again, one might say that there is a rebuttal by A under the proviso to the second limb. The alternative and, in our opinion, preferable view is that, once received, the money is held by B on trust for C. On that view, the contract does purport to confer a benefit on C (who is expressly identified by class) and one can argue that there is no rebuttal by A under the proviso to the second limb: the channelling of the payment through B is a matter of administrative convenience and does not negate C's right to enforce payment by A to B.

7.34 7. B takes out a life insurance policy with A Ltd naming C as the beneficiary of the policy. C has co-habited with B for fifteen years although they are not married. B is killed in a car accident. Subject to rebuttal by A Ltd under the proviso to the second limb, C would be able to enforce the policy on B's death. A Ltd has promised to confer a benefit (payment) on C in the event of B's death, and C is expressly identified by name.

7.35 8. A Ltd insure B & Co, a firm of solicitors, against professional negligence. C Fund, an intended beneficiary of X's will, has obtained judgment against the firm for its failure to ensure that X's will was drawn up properly and with expedition. B & Co has no assets save its professional indemnity policy. C Fund argues that it can sue A as beneficiary of the firm's insurance cover. It cannot do so. A has not promised to confer a benefit on C, and C has not been expressly identified.

7.36 9. B is an elderly man with a substantial estate which he plans to leave to his favourite charity, the C Fund. He approaches A & Co solicitors to prepare a will which will achieve these intentions. D, a partner of the firm, negligently fails to take any steps to prepare the will for several weeks, during which time B dies. C Fund, on hearing of this, seeks to sue the solicitors. C cannot enforce A's promise to use reasonable care and expedition in drawing up the will because that promise does not purport to confer a benefit on C. Rather it is a promise to enable B to confer a benefit on C. C will therefore not be able to sue A for breach of contract and will instead have to rely on its cause of action in the tort of negligence as established in White v Jones. (27)

7.37 10.B & Co enters into a contract with A & Co, who are building contractors, to construct a chemical plant. B & Co sell the plant to C & Co, who operate it for a short period before defects in the building allow an escape of poisonous gases. These cause substantial financial losses to farmers, whose livestock must be destroyed. The farmers sue C & Co, who, close to bankruptcy, seek to sue on the contract between A & Co and B & Co. C & Co cannot sue A & Co as A & Co have not promised to confer a benefit on C & Co, who have not been expressly identified. The position would be different if the building contract expressly states that the rights as to the quality of the building work are to enure for the benefit of subsequent owners and/or tenants of the plant. This would probably satisfy the first limb of our test of enforceability but, even if it does not, C & Co would have the right of enforceability under the second limb (subject to rebuttal by A & Co under the proviso) as A & Co have promised to confer a benefit on C & Co (that, as and when occupied by C & Co, the building will be of a particular standard) who are expressly identified by class.

7.38 11.C Ltd engages B Ltd, a construction company, to construct a new plant for its rapidly expanding publication operations. B Ltd engages A Ltd, a well known subcontracting firm, to lay flooring in the plant. A Ltd fails to provide flooring of an appropriate standard and, through consequent delay to the start of manufacturing operations at its new plant, C Ltd loses a valuable export order. C Ltd could not sue A Ltd for failure to perform its obligations to provide flooring of a suitable standard. Even if there were a promise by A Ltd to confer a benefit (a floor of a particular standard) on C Ltd, who were expressly identified, the right of enforceability is rebutted under the proviso to the second limb. On a true construction of the sub-contract, construed in the light of the head-contract and the understanding and practice of the construction industry, C Ltd is not intended to have a right against A Ltd. Rather C Ltd's right of redress lies against B Ltd for A Ltd's breach (and B Ltd's right of redress lies against A Ltd). (28)

7.39 12.B engages A to build a conservatory onto his daughter C's house as a birthday present. Through A's failure to use proper care in constructing the conservatory, C's house suffers structural damage and her valuable collection of orchids is ruined. If A has promised to confer the benefit (the building of a conservatory using reasonable care) on C, who has been expressly identified, C will have the right to sue A for breach of that contractual provision (subject to rebuttal by A under the proviso to the second limb).

7.40 13.Mr B books two rooms in a luxury hotel owned by A Ltd in the Lake District for a two week holiday for himself and his wife and children. On arrival, the hotel has double booked and cannot offer alternative accommodation. Mr B's party are forced to stay in a hotel a long distance away, which, though more expensive, has less celebrated cuisine and few facilities. Mr B's wife and children, who will have been expressly identified, will have a right to sue A Ltd (subject to rebuttal by A Ltd under the proviso to the second limb) for any additional expenses incurred as a result of the hotel's breach of contract, and for the loss of enjoyment resulting from the double booking. (29)

7.41 14.On Mr and Mrs C's marriage, their wealthy relative B buys an expensive 3 piece suite as a wedding gift from A Ltd, a well known Central London department store with a reputation for quality. She makes it clear when purchasing the 3 piece suite that it is a gift for friends and indeed the delivery slip and instructions show that it is to be sent to Mr and Mrs C's home and should be left with the housekeeper as it is a gift. After 2 weeks of wear the fabric on the suite wears thin and frays, and after 3 weeks, two castors collapse. Subject to rebuttal by A Ltd under the proviso to the second limb, Mr and Mrs C can sue A Ltd for breach of an implied term in the contract that the goods be of a satisfactory quality. (30) A Ltd have promised to confer a benefit (the suite of satisfactory quality) on Mr and Mrs C, (31) who have been expressly identified by name.

7.42 15.Again, the above example, save that A Ltd are entirely unaware that the suite is a gift for anyone, and it is delivered to B's home. Mr and Mrs C could not sue A Ltd, since the contract between B and A Ltd does not purport to confer a benefit on Mr and Mrs C, who have not been expressly identified.

7.43 16.B & Co's standard form of building contract contains an exclusion clause which seeks to exclude the liability to its clients of "all agents, servants, employees and subcontractors" engaged by B & Co in the performance of the contract works for any loss and damage occasioned other than through wilful misconduct. A & Co, a developer using B & Co's services in constructing nuclear power plants, discovers that one of these is built on dangerously unstable ground, and will have to be decommissioned. The surveyor engaged by B & Co to carry out the site survey, Mr C, has clearly been negligent. Mr C has extensive professional indemnity cover. Mr C seeks to claim the benefit of the exclusion clause in A & Co's contract with B & Co to prevent A & Co from recovering against him in tort for negligence. Mr C would succeed under the first limb of our test or, on the basis that the exclusion clause is a promise to confer a benefit (the exclusion of liability) on Mr C, who is expressly identified by class, under the second limb.

7.44 17.A contracts with B to carry A's packages by road. It is a term of the contract that the value of the packages is "deemed to be not over £100 unless otherwise declared". B sub-contracts with C to carry a package. C loses the package which was worth £1000 and is sued by A in the tort of negligence. C has no rights to enforce the ?deemed value' clause under our proposals because C has not been expressly identified as a beneficiary of that clause. Nor has C been expressly given the right to enforce that clause under the first limb of the test of enforceability.

7.45 How would the second limb of the test of enforceability apply to the facts of some of the most celebrated cases where the third party rule has caused difficulty?

7.46 In Beswick v Beswick, (32) the provision of old Mr Beswick's contract with his nephew providing for payment of an annuity to Mrs Beswick would give Mrs Beswick a presumed right of enforceability under our second limb. The nephew promised to confer the benefit (the annuity payments) on Mrs Beswick, who was expressly named. This presumption could only be rebutted if the nephew could demonstrate that, on the proper construction of the contract, he and old Mr Beswick had no intention at the time of contracting that Mrs Beswick should have the right to enforce the provision. In our view, the nephew would not be able to satisfy that onus of proof so that Mrs Beswick would have the right of enforcement.

7.47 In Junior Books Ltd v Veitchi & Co Ltd, (33) it may be that Veitchi's sub-contractual obligations, including the obligation to use reasonable care in laying the floor, purported to benefit Junior Books, who were presumably expressly identified as beneficiaries. However, since Veitchi's sub-contract was part of a wider chain of contracts, under which Junior Books' rights for breach of Veitchi's obligations, were to lie against the head-contractor under the head-contract, we consider that the presumption of an enforceable right would be rebutted. Junior Books would therefore have no right to enforce Veitchi's obligations to the head-contractor.

7.48 We have already explained why, in White v Jones, (34) Mr Barratt's daughters could not use our reform to sue Mr Jones' and Messrs Philip Baker-King & Co for the breach of their contractual obligations to Mr Barratt to prepare his will with due care and attention. This is because the solicitors' implied promise did not purport to confer a benefit on the daughters. Rather it was Mr Barratt who was to confer the benefit on the daughters through his will.

7.49 In Woodar Investment Development Ltd v Wimpey Construction UK Ltd, (35) the contract between Wimpey Construction UK Ltd and Woodar Investment Development Ltd provided for payment of part of the purchase price of a plot of land to Transworld Trade Ltd. The purchasers sought to terminate, and the vendors sued for damages, including the sum due to Transworld. Although a majority of the House of Lords held that the purchasers were entitled to terminate, so that the vendors had no claim for breach of contract, they also indicated that the vendors could not have obtained substantial damages in respect of the purchasers' failure to pay Transworld. Under our proposals, Transworld could have brought proceedings for the due sum directly. The contract purported to confer a benefit on Transworld, who was expressly identified and, in our view, the purchasers could not have rebutted the presumption that Transworld was intended to have the right to enforce the payment obligation.

7.50 In Trident General Insurance Co Ltd v McNiece Bros Proprietary Ltd, (36) Trident had taken out a liability insurance policy which, in its definition of "assured" purported to cover McNiece, a principal contractor. When one of its employees was injured, McNiece sought to rely on its rights under the policy. While there was no clear consensus as to the basis on which the claim was upheld, the High Court of Australia by a majority held that McNiece could enforce the contract. Under our proposals, McNiece would have a right to enforce the contract. The contract purported to confer a benefit on McNiece, who was identified in the contract by class ("all Contractors and Sub-Contractors") and there was nothing to rebut the presumption that it was intended that McNiece should have a right to enforce the contract.

7.51 In Green v Russell, (37) an employer took out a personal accident group insurance policy which named the employer as the "insured" and certain of his employees as the "insured persons". The recital to the policy stated that, "Whereas the insured is desirous of securing payment of benefits as hereinafter set forth to any insured person in the event of his sustaining accidental bodily injury..."; and one of the clauses in the policy stated that, "The company shall be entitled to treat the insured as the absolute owner of this policy and shall not be bound to recognise any equitable or other claim to or interest in the policy and the receipt of the insured or the insured's legal representative alone shall be an effectual discharge". One of the employees named in the policy died in a fire at the employer's premises. The question at issue was whether money paid, or about to be paid, by the insurers to the employee's mother should not be deducted from her claim under the Fatal Accidents Acts 1846-1908 on the basis that, under section 1 of the 1908 Act, it was "paid or payable on the death of the deceased under any contract of assurance or insurance". The Court of Appeal decided that the sum did fall within section 1 and should therefore not be deducted. But in doing so, it decided that the deceased had had no right, legal or equitable, to payment of the sum: there was no contractual claim because of the privity rule and there was no trust as it was not the employer's intention to constitute itself a trustee. On the face of it, this reasoning means that the employer has an absolute discretion whether to hand on to an employee the money paid by the insurance company on this sort of policy. One impact of our reforms is that such group personal accident policies could be reworded so as to give the third party employee the undoubted right to enforce the policy (without having to create an immediate trust of the promise). More difficult is the question whether a policy, such as that in the Green case, would give employees a right of enforceability under the second limb of our test. It is our view that, once paid, the sum is best regarded as being held on trust for the employee, or that the employer is otherwise accountable to the employee for the sum, so that the insurance contract does purport to confer a benefit on the employees (who, in the Green case were expressly identified by name). The fact that the money is first channelled through the employer, and that payment to the employer discharges the insurer, is a matter of administrative convenience and does not rebut the presumption that the third party is intended to have a right of enforceability (so that it can enforce the insurer's obligation to pay the employer). (38)

4. The Rejected Tests

7.52 It is worth clarifying that our recommended test of enforceability does not conform precisely to any of the six tests set out in the Consultation Paper, (39) albeit that it comes close to option (iii). We have rejected the other tests both because they did not command majority support among consultees and because each is flawed in some way. Option (i) is ambiguous and, on one interpretation, is too wide and, on another, too narrow. (40) Option (ii) contains no reference to the parties' intentions to confer a legal right on the third party. Option (iv) would potentially lead to too much uncertainty and, in some respects, may be too narrow. (41)

7.53 Our recommended test is furthest away from options (v) (reliance by third party) and (vi) (third party benefited). We think that it may be useful for us to clarify in a little more detail the clear differences between our approach and those two options. Those two options not only do not seek to effect the parties' intentions to confer legal rights on third parties, which we regard as crucial, but would also produce unacceptably wide liability. Option (v) on the face of it would mean, for example, that a person who buys a home on the faith of a new motorway being built would be able to sue the builder for loss caused (eg extra petrol costs) if the motorway is not completed on time. Again if a boxer cancels a fight in breach of his contract with the promoter, application of this option would appear to mean that he could be sued by the television companies who had arranged to televise the fight and by all those who have bought tickets to watch the fight. (42) Option (vi) would produce an even wider, and even more unacceptable, liability than option (v). That is, it would be sufficient for a third party to show that it would have gained from due adherence to the contract and it would be irrelevant that the third party had not relied on the contract. It would mean, for example, that all those whose property would have been enhanced in value by the building of a new road or a new shopping centre would be able to sue if, in breach of contract, the road or shopping centre is not built on time (or at all). (43) The fact that they have not bought their properties on the faith of those developments (or have not otherwise relied on those developments) would not matter.

5. A Special Test of Enforceability for Consumers?

7.54 Some consultees argued that a test of enforceability based on effecting parties' intentions would not go far enough in protecting consumers. Rather they urged us to go beyond effecting the contracting parties' intentions and to impose a measure of consumer protection. In effect, their suggestion was that, where the third party is a consumer, reform should be based on options (v) and (vi). Clearly third party consumers stand to gain from our proposals. For example, under our proposals a manufacturer and retailer could expressly confer legal rights on the purchaser to enforce the contract as regards the quality of the goods purchased, thereby affording the purchaser a remedy if the retailer became insolvent. (44) Again a retailer and a purchaser could in their contract expressly confer a right of enforceability on a third party for whom the goods are being bought. Indeed where a contractual provision in the contract of sale purports to confer a benefit on a third party, who is expressly identified, the third party will have a right of enforceability subject to the retailer establishing that, on the proper construction of the contract, the retailer and purchaser did not intend to confer that right. (45) Similarly where a lead holiday-maker makes a booking for a holiday for a number of persons on terms set out in a booking form, the other members of the party will be able to sue in the event of a breach of contract (subject to the proper construction of the contract being that the parties did not intend to confer that legal right). (46) Again in a construction contract between a head- contractor and the owner a subsequent owner or tenant who is expressly given legal rights to enforce the contract will be able to do so: as, subject to rebuttal, will the subsequent owner or tenant on whom the contract purports to confer a benefit and who has been expressly identified. (47)

7.55 However, while our proposals will therefore mean that consumer third parties will have rights that they do not at present have, our proposals do not automatically give consumers such rights. We consider that the automatic conferring of contractual rights on third parties who are consumers rests on policy considerations that need to be tackled in relation to specific areas. We do not think that they can properly be addressed through the kind of general reform with which we are here concerned. Indeed we think that it would be dangerous - in terms of producing a potential conflict of reform proposals - for us here to embark on specific measures of consumer protection when there are other reform initiatives under discussion in specific areas, based on protecting consumers. We have in mind particularly consumer guarantees (48) and the rights of subsequent purchasers or tenants to sue for defective construction work. (49) Rather our strategy is to reform the general law of contract, based on effecting contracting parties' intentions, which then leaves the way free for more radical consumer protection measures in future in specific areas.

Footnotes to Part VII

(2)This was the test advocated by the Law Revision Committee's Sixth Interim Report (1937), para 48. The Committee did not analyse its proposed test in detail so that it did not clarify whether the contracting parties must have intended to confer a legal right of enforceability: on the face of it there is no such requirement (so that the test is a wide one) but some of our consultees construed the test as laying down that the parties must expressly confer a legal right of enforceability (so that the test is a narrow one).

(5)For example, one consultee feared that a strict application of the dual intention test would mean that most consumer sale of goods transactions would not fall within the reform, and thus argued that a looser test was required for such transactions.

(6)6 The contractual provision could be implied, albeit that the third party must be expressly identified: see examples 11 and 14 in paras 7.38 and 7.41 below.

(7)For these tests see, eg, Treitel, The Law of Contract (9th ed, 1995) pp 185-188; E McKendrick, Contract Law (2nd ed, 1994) pp 152-155.

(9)This means that our reform provides a solution to the enforcement of ?Himalaya' clauses by third parties that does not involve any of the complexity or artificiality that the courts have been forced into in order to render such clauses enforceable: see paras 2.24-2.35 above.

(11)11Scottish Law Commission, Memorandum No 38, Constitution and Proof of Voluntary Obligations: Stipulations in favour of Third Parties (1977) pp 18-24.

(12)12In a classic statement of the law on the proper construction of a contract in Reardon Smith Line Ltd v Yngvar Hansen-Tangen [1976] 1 WLR 989, 995-996 Lord Wilberforce said, "No contracts are made in a vacuum; there is always a setting in which they have to be placed. The nature of what it is legitimate to have regard to is usually described as ?the surrounding circumstances' but this phrase is imprecise: it can be illustrated but hardly defined. In a commercial contract it is certainly right that the court should know the commercial purpose of the contract and this in turn presupposes knowledge of the genesis of the transaction, the background, the context, the market in which the parties are operating".

(14)If one were to view the contracting parties as having given the third party the legal right to enforce the contract, one would need to qualify that right by recognising the testator's undoubted power to change his will. That is, the right of enforceability could only come into play once the testator had died without having changed his mind. Yet to regard such a qualification as having been thought through by the contracting parties at the time of contracting seems fictional.

(20)It is noteworthy that a number of consultees thought that the appropriate solution lay in amendments to the law of succession (see on this T Weir, ?A Damnosa Hereditas' (1995) 111 LQR 357 and, for a contrary view, S Cretney, "Negligent Solicitors and Wills: A Footnote" (1996) 112 LQR 54) or in recognising a restitutionary action by the beneficiary against the residuary legatee, rather than in contract or tort.

(22)In deference to the important arguments of Professor Markesinis, ?An Expanding Tort Law - The Price of a Rigid Contract Law' (1987) 103 LQR 354, we should explain that our reform is based on a model of a contract for the benefit of third parties and does not seek to embrace the wider German concept of a contract with protective effects for third parties. We would be afraid of the uncertainty that the generalised legislative introduction of that German concept would create: see K Barker (1994) 14 OxJLS 137, 143-146. However we would not wish our reform to be construed as preventing the House of Lords embracing that more radical approach in specific situations: see para 5.10 above.

(25)For a discussion of some other issues affecting contracts for the sale of land that are raised by our reform, see paras 14.8-14.11 below.

(29)This is not a package holiday within the Package Travel, Package Holidays and Package Tours Regulations 1992 (SI 1992/3288): see para 2.62 above.

(30)Our understanding is that, although delivery is to be made to a third party, the contract will qualify as a contract for the sale of goods to the promisee for the purposes of the Sale of Goods Act 1979 so that the relevant term will be implied by reason of ss 13-14 of the 1979 Act. But it should be noted that to qualify as a contract for the sale of goods within the definition in s 2(1) of the Sale of Goods Act 1979 ("A contract of sale of goods is a contract by which the seller transfers or agrees to transfer the property in goods to the buyer for a money consideration, called the price") one must assume that, although delivery is to be made to the third party, there is a moment in time at which property first passes to the promisee. Although not directly on the point, we have found the following cases of assistance: E & S Ruben Ltd v Faire Brothers & Co Ltd [1949] 1 KB 254; Jarvis v Williams [1955] 1 WLR 71. Even if we are wrong on this, one can readily assume that, irrespective of the statute, the courts would normally imply a term that the goods be of satisfactory quality.

(31)If there is to be no delivery to a third party it will normally be difficult to argue that a contract of sale purports to confer a benefit on a third party.

(33)[1983] 1 AC 520. See para 2.14 above. See also para 7.38 (example 11) above.

(38)This reasoning derives some support from the judgment of Pearce LJ (the other substantial judgment being given by Romer LJ with whom Hodson LJ agreed). Pearce LJ said, at pp 246- 247, "It is true that the company are entitled (as a matter of convenient machinery) to deal direct with the policy holder, and to treat him as if he alone were intended to get the benefits of all the insured persons. But the terms of the agreement as a whole make it clear that (whatever may be Green's legal or equitable rights against the policy holder) the £1,000 payable on Green's death is intended by the parties to be a benefit to Green's estate, and is not intended for the pocket of Russell. Moreover, I think that the terms of the agreement as a whole show that the parties envisage payment of the £1,000 direct to the policy holder and payment over by him to Green's estate. Thus the second payment, namely, by the defendant to the plaintiff, is a payment envisaged by the contract, and is clearly in my view a sum paid under a policy of assurance within the terms of the Fatal Accidents (Damages) Act, 1908". Indeed if the employer were simply able to keep the insurance payments for itself, it would seem that the insurance policy might be void under the Life Assurance Act 1774, section 3. See, generally, Chitty on Contracts (27th ed, 1994) paras 39-007-39-010.

(42)In Consultation Paper No 121, para 2.19, we gave the further example of a report prepared by a firm of auditors under a contract with a company and put into more or less general circulation. Such a report may foreseeably be relied on by third parties for any one of a variety of different purposes but we do not think that all those parties should have the right to sue in contract for their losses in the event of the report having been negligently prepared. Cf Caparo Industries plc v Dickman [1990] 2 AC 605 (no tortious duty of care owed by auditor to potential investor).

(43)It is to be noted that the US Second Restatement draws a distinction between such incidental beneficiaries and intended beneficiaries, and that incidental beneficiaries are not permitted to enforce purported benefits under contracts: United States Restatement (2d) - Contracts, American Law Institute (1981) §§ 302 & 315. See paras 4.17-4.18 above.

(44)Without such an express term, the purchaser would normally have no such right because even if expressly identified as a beneficiary of the manufacturer's contract with the retailer, the chain of contracts giving the purchaser a remedy against the retailer for the manufacturer's breach means that on a proper construction of the contract, construed in the light of the surrounding circumstances, the manufacturer and retailer do not intend to confer a legal right of enforceability on the third party.

(48)See European Commission, Green Paper on Guarantees for Consumer Goods and After-Sales Services, COM (93) 509 final, 1993. See also Consumer Guarantees, a Consultation Document issued by the Department of Trade and Industry, February 1992.

(49)See, eg, Latent Defects Liability and ?Build' Insurance, a Consultation Paper issued by the Department of the Environment, April 1995, paras 33-39.

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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(7) (31 July 1996) URL: http://www.bailii.org/ew/other/EWLC/1996/242(7).html Cite as: [1996] EWLC 242(7)