#14992 - Privity - Contract Law

COMMON LAW DOCTRINE OF PRIVITY

At common law, A and B cannot confer on T, a third party, a direct right of action against A. Nor could parties A and B give T the benefit an exclusion clause.

Cases establishing that a third party cannot acquire rights under a contract -> Absence of consideration supplied by 3^rd party bars 3^rd party from suing – Tweddle v Atkinson (1861) where A and B made contract that A will pay C 200 quid. Held C could not sue A for the 200 quid as consideration did not flow from C ie C was not a party to the contract so could not enforce it

• Followed in Dunlop Pneumatic Tyre Co Ltd v Selfridge [1915] where C could not sue as not part of contract. Judges here said C cannot sue as “consideration must flow from promisor” while in Tweddle v Atkinson judges said “consideration must move from the claimant”. Though these 2 are usually taken to mean the same thing

• Emphasis that B was that B was not a non-party

• Now we have 2 reasons why a third party cannot sue

1. Tweddle v Atkinson because of consideration did not flow from promise

2. Dunlop Pneumatic Tyre Co Ltd v Selfridge because B was not a party to the contract

• Privity of contract reaffirmed by HL in Scruttons v Midland Silicones [1962], (which was an exemption clause case) which extends this to exemption clauses

• In this case, the HL applied the Dunlop Pneumatic Tyre Co Ltd v Selfridge reasoning the stevedores were not parties to the contract

Freedom of contract demands that A and B cannot impose a burden on T without his consent. And so T cannot be subjected to a duty to pay money to A or B, nor can A and B impose on T the burden of an exclusion clause, preventing T from being able to sue A or B, or restricting his capacity to obtain compensation.

In Re Schebsman [1944] (only an express trust of a promise will be recognised. Here, 3^rd party cannot sue as there was no express trust created) the court held that the third party could not sue for breach of promise because:

• In the past, there will be an equitable remedy that there was an implied trust between B and T with B as the trustee and T as the beneficiary

• Therefore B must sue on T’s behalf

• But after Re Schebsman there must be (i) express language and (ii) A and B must intend to give T the right

1. He had not provided consideration for the promise.

   1. However, we can argue that it should not matter that only B has provided consideration. The function of consideration is to render the contract binding between A and B. It is an unconvincing extension of the role of consideration to require a third party to have earned or bought the right to sue given him by the contracting parties.

   2. Further, immediately after the contract’s formation, B can assign the benefit of the contract to T. The fact that T has not given anything to earn this right does not preclude him from acquiring a right to assignment. Upon assignment, T will acquire a direct right against A.

2. He was not an addressee of the promise made by A to B. A was committing himself only to an obligation towards B but not to an obligation towards the third party.

   1. However, it is arguable that A intends to commit himself to an obligation towards the third party

3. If T was granted a direct right of action, such a right would be ‘irrevocable’. It could not be altered or extinguished by A unilaterally, nor even consensually, by A and B. As the third party’s right arises gratuitously, he should not have initial ‘sovereignty’ over A and B’s agreement, although the position might change once he has acted on it, or assented to it.

For this reason, under s2 the Contracts (Rights of Third Parties), A and B can vary or extinguish their contract until:

• T notifies A that he accepts the contract or

• T has relied on the contract

PROBLEMS RESULTING FROM THE COMMON LAW RULE

Firstly, it thwarts the intention of A and B where they both intend to give T a right to enforce the contract.

Secondly, it is arguable that in situations where the contract suggests that the intention of A and B is to give T rights under the contract, T has a reasonable expectation of having a legal right to enforce the contract. These expectations are ignored by the rule. However, Smith (1997) queries why T’s expectation of gaining rights under the contract is reasonable, as T has not provided any consideration.

Thirdly, it creates a lacuna in the law, because where a contract intended to benefit T is breached by A, it is often T rather than B who suffers the loss, though T has no right to sue on the contract. The consequence is that A is not held to account for his breach of contract, as even if B sues A, B would most likely be awarded a token sum as B has not suffered any significant loss.

Fourth, the rule causes practical difficulties in commercial life. A life insurance policy taken out for the benefit of a cohabitee will not be enforceable by the cohabitee

JUDGE MADE EXCEPTIONS TO COMMON LAW RULE

The express trust of a promise – Re Schebsman (1944)

Creation of a collateral contract ie A-C contracts – eg Wells (Merstham) Ltd v Buckland Sand (1965) where it was held in return for A’s promise to pay C, C caused B to enter into a contract with A. Therefore there was an A-C contract so C could sue A

• Used in The Eurymedon (1975) where PC analysed A-C contract as A making a unilateral offer to C and C accepted the offer (and thus covered by exemption clause) by conduct in unloading the goods. Though it was later suggested in The Mahkutai (1996) that the offer was a bilateral one

`TRUSTS OF PROMISES’: DIRECT RIGHT OF ACTIONS IF TRUSTEE DEFAULTS BY FAILING TO SUE PROMISOR

The benefit of A’s promise to pay money to T, or to transfer property to T (‘choses in action’), can be held by B on trust for T, B thereupon becoming obliged in equity to sue A for T’s benefit. This is based on the notion that the promise to pay money or to transfer property is itself a valuable asset, an intangible chose in action (right to sue somebody). This equitable concept provided a means of sidestepping the common law rule against contractual claims by third parties.[1944] limited its application by requiring trusts of promises to be expressly created by a party.

Who declares the trust? In the usual case, B will have provided consideration and declared the trust of a promise, or A and B might jointly agree to its creation. But if A’s promise is gratuitous, resting on a deed, Feltham (1982) has suggested that it will be A alone who can create the trust and so appoint B to be trustee.

According to CA in Re Schebsman:

• First, the contracting parties must use express language to create the trust. E.g. ‘this promise is to be held on trust for T’ or ‘B is to hold A’s promise for T’s benefit’

• Second, A and B must clearly intend that T should acquire irrevocable rights against A.

(1) B is obliged by Equity to sue A on T’s behalf;

(2) if B fails to sue A, T can sue A (joining B as co-defendant) – this is the direct right of action by the third party denied at common law;

(3) damages (etc) payable by A will be held by B on trust for T

(4) A, B and T should each be party to the litigation (or arbitration reference); this joinder requirement is intended to protect A against potential double suit by B and T in successive litigation; however, A can `waive’ this protection.

(5) the trust obligation prevents A and B reducing or waiving A’s liability to perform the contract.

DIFFERENCES BETWEEN TRUSTS OF PROMISES AND DIRECT RIGHTS OF ACTION UNDER THE 1999 ACT

The Contracts (Rights of Third Parties) Act 1999 creates a direct right of action exercisable by T against A, and section 7(1) of the Act preserves any parallel direct rights of action which T might have. Sometimes, T will have both a third party action under the Act and a trust of a promise.

1. Under a trust of a promise, T acquires at the date of formation an irrevocable right; A and B cannot vary or extinguish it without T’s consent. But under the Act, A and B can agree to vary or extinguish T’s rights without his consent until T has notified A or relied on A’s promise

2. Trusts of promises are confined to money and property transfers (a trust of a promise is not applicable to, for example, a contract to perform services for T’s benefit, nor a contract to confer on T the benefit of an exclusion clause). But the Act covers all species of contractual obligation in favour of T and the conferring of the protection of exclusion clauses upon T.

3. A trust of a promise can only be created by express language whereas rights under the Act can arise as an offshoot of an intent to confer a benefit on T without the parties’ express stipulation that T shall have a direct right of action.

ACTIONS BROUGHT BY THE PROMISEE

DEBT (IN THE THIRD PARTY CONTEXT)

If A promises B, for consideration, to pay a fixed sum to T, B cannot sue and obtain this sum (even on T’s behalf), because:

Firstly, A promised to pay T and not to pay B (it would be different if B had mandated A to pay T, but B had retained the power to nominate another payee, including himself (Beswick v Beswick [1968]))

• Secondly, even if B were to recover the debt on T’s behalf, common law lacks the machinery to ensure that B would not keep the money. B would then be unjustly enriched at T’s expense.

There are two ways round this problem:

• If A promises to pay B, B can immediately assign that debt claim to T and T as assignee can sue A directly,

• Or under the 1999 Act, T might now have a direct claim against A for payment

SPECIFIC PERFORMANCE (IN THE THIRD PARTY...