Frustration of Contracts in law: Getting out of Contract Obligations (Termination of Contracts)

The law takes legally binding contracts seriously.

It's difficult to get out of contracts and escape liability for performance, even when something happens that makes it harder, more expensive or onerous to perform.

Whether a contract has been frustrated or not can mean the difference between:

1. a claim for a serious breach of contract, or
2. relief from performance of the contract.

 

What is Frustration of Contract?

Frustration of contract is the general law's method of allowing parties to be relieved of their legal obligations.

It only applies to contracts which have become impossible to perform.

A supervening event changes the circumstances of performance of the contract so significantly, that the parties no longer need to perform the contract.

The supervening event terminates the contract.

 

Covid-19 and Frustrated Contracts

Whether or not a contract has been frustrated by the Coronavirus depends on:

1. on the type of contract it is
2. the sort of goods or services to be supplied, or the assets being bought, sold or licensed
3. the precise performance requirements of the parties under the contract
4. how the supervening event interferes with the parties' obligations to perform their respective commitments.

First some background. Then we come on to some examples.

 

Consequences of Frustration

Frustration brings a contract to an end immediately and automatically: Maritime National Fish Ltd. v. Ocean Trawlers Ltd [1935] UKPC 20. It's one of the methods of termination.

It’s the supervening event that causes impossibility of performance that causes that legal effect. It’s a method of discharge of a contract.

If the supervening event does not frustrate the contract, the party required to perform (and hasn't) is in breach of contract.

That breach of contract will probably be a repudiatory breach of contract.

That’s because the contract probably has not been performed in accordance with its terms: the frustrating event prevented it.

 

Why is termination by frustration limited?

Contracts are serious business, in this sense.

It is a big deal to enter into a contract. It’s a legally binding agreement.

Contract sets up expectations on both sides of the deal. Each party promises to do something, in exchange for the promise of the other. The parties have imposed upon the contract upon themselves.

 

Legal Policy of Frustration

The law takes the view that these promises are serious. When a defaulting party lets the innocent party down by failing to perform, it will have serious consequences for the innocent party.

Maintaining the certainty and purpose of commercial business agreements is a high priority in the law.

Also, courts don't have the power to rewrite contracts: the parties do.

So contracting parties are not relieved easily of their obligations. To do so would mean that there would be an easy way out for one party to disappoint the party for non-performance.

It could also mean that a wealthy contracting party could easily defeat a weaker business partner with the aid of the law.

Why might that be the case?

A better funded party could go to court and see the dispute through to the trial. The other party might not be able to defend themselves properly, as they would wish.

The claim by the better funded party is not going to be waved through by a court.

It’s a high threshold to succeed, even for well-funded business. Doesn't matter who you are.

That's why the requirements of frustration are so strict.

There are alternatives to frustration in contract law.

They can lead to the same result. I set out some of them further down.

What’s the test to work out whether a contract is frustrated?

 

Frustrated Defined: What does it mean?

The test for a frustrated contract was defined by Lord Radcliffe in Davis Contractors Ltd v Fareham Urban District Council [1956] AC 696.

It’s settled law:

...frustration occurs whenever the law recognises that without default of either party a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract. … It was not this that I promised to do.

Central to the test is the reference to "radically different". The doctrine of frustration is not lightly invoked.

When events entirely overtake the deal, the doctrine of frustration has its place.

It means that there must be a break in the circumstances when the contract was agreed, and its performance in the new circumstances.

That’s what needs to be shown to succeed in a legal frustration claim, in a nutshell.

The test is deceptively simple on its own, for a few reasons.

• Each case is assessed on its own merits. Previous legal cases and decision dealing with frustration have little value.
• Frustration doesn’t protect against "imprudent commercial bargains".
  That's one of the downsides of freedom of contract.
• The contract might be "wide enough" to apply to the new situation, in which case the contract will not be frustrated.
  For example, the parties may:
  • owe a contractual duty to one another to prevent the frustrating event from occurring or
  • had already planned for it.

Also, special importance attaches to the unexpected event which changes the circumstances, which creates the “radically different” contract: Davis Contractors v Fareham Urban District Council [1956] AC 696, Lord Reid.

This "radically different" contract:

• must change in the significance of the obligation that the thing undertaken would, if performed, be a different thing from that contracted for
• requires a significant change in circumstances of performance
• is assessed using an objective standard.
  The legal effect of frustration can't depend on the parties' intention or their opinions, or even knowledge of the event: Hirji Mulji v Cheong Yue Steamship Co (1926) AC 497.
  After all, the parties did not have knowledge of the event at the time of the contract.

Frustration - and automatic termination of the contract - is:

• the outcome that the parties would have agreed upon if, having such possibility in view, they had made express provision as to their several rights and liabilities in the event of its occurrence
• what a fair and reasonable person who is disinterested - not uninterested - in the outcome would think. That person ends up being the judge hearing the case.

 

Events leading up to Frustration 

Death or incapacity of one of the contracting parties frustrates a contract.

That’s not the case where the contracting party is a company or other separate legal entity. The contracting party must be a human being.

The supervening event must give rise to the impossibility of performance.

In all cases, the event needs to so severely impact performance that it becomes impossible. But this is only the first step. There’s more to it. The sorts of events include:

1. war, rioting and civil unrest
2. Acts of God: storm of unusual or unpredictable strength
3. Change of law: such as:
   1. banning of sale of particular products (food, drinks, plastic straws)
   2. outlawing services such as particular types of financial services, money or lending services or methods of providing those services
   3. trade embargoes imposed on a country or person, for the sort of goods or services to be delivered (such as trade embargoes with Iran)
   4. banning attendance at event venues following a virus outbreak, such as pubs, clubs, business conference centres or ski fields
   5. prevention of entry to countries in the interests of public health, by the government of a country 
4. Injunctions: an injunction which prevents performance of the contract to continue, and
5. Destruction of the subject matter of the contract.

 

When those sorts of events make it impossible for the parties to execute the contract, a case of frustration is more likely to succeed.  

These are just categories of events. In the real world, there are any number of sorts of events which can give rise to a frustration event.

Courts consider all of the circumstances of the case at hand, not on some theoretical or conceptual state of affairs.

We cover types of factual scenarios next, followed by 4 examples.

 

All the Circumstances of the Case

In a frustration case, the background and factors considered include:

1. the terms of the contract itself, and the relevant background to the contract
2. the parties' knowledge, expectations, assumptions as to the risk assumed by each of them as at the date of the contract
3. the nature and effect of the supervening event
4. the contracting parties’ possibilities of future performance in the new circumstances
5. Most importantly, the consequences of the frustration.
   The frustration of the contract may well mean that the contractual allocation of risk is reversed. For example:

A courier contracts to deliver a package within a specified time frame. The courier accepted the risk of delivering on time doing so by entering the contract.

If the courier doesn't deliver on time, the courier is in breach of contract.

Frustrating the contract reverses the risk of delivery onto the customer.

Should the customer be forced by a court to bear that risk?

 

Limitations to Discharge by Frustration

The frustrating event can't:

• be reasonably foreseeable by the parties.
  It must be some outside event or extraneous change of situation outside the control of the parties

Fault of Parties

• be brought about or occur by the fault of the party seeking frustration.
  So it can't be due to the act or election of the party seeking to rely on it.
  The inability to perform would have come about due to an act of the party seeking to rely upon a frustrating event

More inconvenient, expensive or onerous

• only cause performance to become more onerous, inconvenient or expensive
• be based on a commercial impossibility. Where performance has become more difficult, but remains possible is not enough for frustration.
  Hardship or inconvenience or material loss by itself is inadequate. It must be coupled with a change in the significance of the contract obligation, that:
  • the obligation undertaken would, if performed,
  • be a different thing from that contracted for

Common Assumptions

• be based on a common assumption that an event or state of affairs will be maintained.

Example: Destruction of subject matter of the contract

Suppose you own a plantation of pine trees.

You enter into a contract for the sale of the pine trees.

Assume lightning strikes are not common in the part of the world that the plantation is located.

Lightning strikes one of the trees and causes to the trees to burn (an Act of God).

The contract would likely be frustrated.

Example: Fixed Price Contract; Materials and Labour shortage

A contract required construction of 80 houses over 9 months. It’s for a fixed price. 

Work begins.

The expected labour and materials for the work wasn’t available in the market. The building works fall behind schedule.

The contractor wanted to be paid more for the work. The customer refused to raise the price.

The contract was not frustrated. The builder was in breach of contract.

The nature of the contract didn’t change by the lack of availability of labour and materials.

In essence, the contractor took the risk under the contract that labour would not be available. Also, the lack of availability of labour was able to be foreseen. The contractor could have insisted on a special contractual stipulation for the lack of labour, and not have to rely on frustration to terminate the contract.

Example: More Onerous Performance

The sellers agreed to sell to buyers Sudanese ground nuts for shipment. The carrier planned to use the Suez Canal. It was closed during war in the 1950s, after the contract was signed.

An alternative route existed around the Cape of Good Hope. The route was more than twice as long and much more expensive.

The sellers refused to ship the goods.

Although the journey around the Cape of Good Hope involved a change in the method of performance, it was not such a fundamental change as to bring about frustration.

Importantly, the buyers did not attach importance to the route to be taken or the time to be taken for delivery. Though more expensive, it would not involve any failure to deliver in accordance with the contract.

Example: Common Assumption

In Krell v Henry (1903) 2 KB 740, a flat was hired for the purposes of viewing the Coronation of the King.

The King fell ill and the procession didn’t take place.

The contract in that case was frustrated.

The modern approach of Lord Radcliffe means that Krell v Henry would be decided differently today.

Those sorts of contracts are properly characterised as contracts subject to a condition or a conditional contract (which is not satisfied). Both parties take their chances that the event will take place.

What are some alternatives to Frustration?

Whether frustration is available or not depends on the terms of the contract, the background facts and the interrupting supervening event. The contract must be interpreted.

Just because the law of frustration won’t terminate a contract, doesn’t mean your at the end of the road.

With the difficulty presented by the law of frustration, a good deal of judicial brainpower has gone into analysing alternative legal grounds and arguments to reach the same result as frustration provides: termination of the contract.

Here are a few.

1. Force majeure

   Don’t think force majeure is an easy out.
   Unless a force majeure clause exists in the contract, and the supervening event is provided for in the contract it may not be a solution.
   It applies to catch the class of event relied on to relieve the parties of their performance obligations.

2. Implied conditions

   A common implied term is one whereby a continuing state of affairs would continue.

3. Conditional Contracts; Contracts subject to a Condition

   The contract was conditional upon an event would (or would not) take place.
   The term could be an implied term or an express term of the contract.

4. Mutual Mistake

   Obtaining legal relief for mutual mistake is limited to mistakes of fact, not law. 
   Where the mistake relates to the present, it is a case for mutual mistake.
   Where it is of a future fact, it is a case of frustration.

   In the first case the contract is void from the very beginning. In the second,  it is binding until the assumption becomes false.

5. Quantum Meruit

   Quantum meruit claims rely on an implied promise to pay a reasonable sum for the work done and a failure to pay such sum.

In amongst all of this, a party may also breach the contract, giving rise to a right to terminate and other opportunities.

What are the remedies in contract law for frustration?

When a contract is frustrated:

• it happens automatically, by operation of law
• it is "discharged", and terminates.

The law says that the parties don’t need to do anything: because the contract terminated automatically when the supervening event took place.

But that's a "legal fiction".

Disputes arise. Parties disagree. One says it was a frustrating event. The other says it’s not.

That may lead to a lawsuit. Companies sue one another to resolve the dispute.

In a frustrated contract case, the question asked of the court is: "Was the contract frustrated by the intervening event or not?".

When a Contract is Frustrated

If the court confirms that the contract was frustrated, then:

1. the parties’ legal rights as at the date and time of the frustration event are preserved.
   You could think of this as an inbuilt preservation of rights clause.
   For instance:
   1. a party could have owed money on the contract and the amount remained to be paid, or
   2. a party might have been in breach of contract.
2. all the primary legal obligations of each party are no longer legally binding. There may be secondary obligations which continue after the frustration (such as preservation of confidential information).

When the Contract is not Frustrated

It is almost certain that one of the parties will be in repudiatory breach of contract, because the contract was not performed.

The other party will have (at least) a claim for damages against the non-performing party, and probably a right to terminate the contract.

 

Coronavirus Developments and Frustration

Contextual Examples

The fact that there is a pandemic (ie a global epidemic) on its own is not likely to frustrate a contract.

• The performance requirements may be localised to a particular geographic location and not cause supply chain problems to the service provider or supplier.
• Another type of contract might depend entirely on supply of components of products from China.  China itself suffered a shutdown of industry, with well-reported delays to manufacturing activity and supply delays: as you would expect when 40 million people are required to stay at home.
• On the other hand, even with a "stay at home" order by local government doesn't necessarily answer the problem.
  IT Consultancy services which might be delivered remotely without personal attendance on site by a contractor - even if painfully difficult and more expensive to deliver - can still be performed and delivered.
  It's less likely that the contract has been frustrated.
  Contrast this situation in 2020 with a hypothetical pandemic in the early 1990s.
  If a pandemic similar to the Coronavirus crisis was to have happened in  the early 1990s, before remote working became possible (and not even prevalent), then the answer would probably be different.

Any particular case depends on what was contracted to be delivered, and how it is effected by (1) the virus, or (2) the fallout from the virus: government regulations and orders being one of them.

It's not the sort of area of law that applies in the abstract.

Questions of law and legal entitlements can't be resolved on a high level of abstraction, that is, without looking at the precise contractual obligations and the effect(s) on the performance of the contract.

 

Guideline Test for Frustration:

Complete the following sentence, replacing the prompts with the circumstances of the supervening event and the subject matter of the contract.

Example of Frustrated Contract

It’s a rough and ready (ie over-simplified) guide to whether a contract has been frustrated:

The parties had not foreseen or be taken to foresee that [insert supervening event] might be taken to interfere with the [primary purpose of the contract], would make it impossible to perform the contract on terms which bore any real commercial resemblance to those agreed between the parties. To hold us bound to our contract in these altogether different commercial circumstances would be positively unjust.

For example:

The parties had not foreseen, nor should be expected to have foreseen that [the car having been destroyed by a freak accident] might be taken to interfere with the [sale of the car], and would make it impossible to perform the contract on terms which bore any real commercial resemblance to those agreed between the parties. To hold us bound to our contract in these altogether different commercial circumstances would be positively unjust.

All of that has to be read against the backdrop of the terms of the contract. 

Consequences of Frustration: Remedies

Termination by Frustration

Not only does the law of frustration end the contract where a supervening event takes place.

Pre-paid products and services 

When customers have prepaid for products or services, English law in some circumstances requires the contractor (or consultant service provider, or supplier of a product) to refund prepayments of money for the performance the contract.

There are variety of defences available to the contractor, all which are subject to a broad discretion which remains with the court.

The aim of the exercise is to arrive at a solution which is fair to both parties, rather than one or other of the parties bearing the entire brunt of the financial loss caused by the supervening event.

The usual law of damages which apply in contract law do not apply to frustration of contract law.

Different rules of law apply in different situations: entitlements of the parties depend on the facts of the case at hand.

 

Conclusion

Parties as a matter of course (whether they know it or not) allocate risk of future events in their contracts.

In frustration cases, tensions arise because one of them will be better off for being relieved of their obligation to perform the contract (which it can no longer perform).

The other will be worse off for the loss of the deal made legally binding by the contract, such as in the courier example, above.

It is not just any unforeseen event that qualifies to frustrate a contract. The change of circumstances must be so dramatic that the new circumstances were completely outside the contemplation of the parties at the time of the contract.

The objective of frustration is to achieve a just and reasonable result between the parties. It does so by recognising that events do interfere with contractual performance. It is an expedient to escape from injustice where such would result from enforcement of a contract in its literal terms after a significant change in circumstances.

The justice of the case requires that the contract no longer applies.

Frustration of Contract: Business Solicitors

It's tough to try and pick up frustration law from a standing start.

Asking whether a contract has been frustrated or not is a simple question to ask. The answer is usually complex, because there are so many moving parts involved.  

We have advised on frustration of:

1. retail contracts
2. event contracts
3. agency agreements
4. employment agreements
5. holiday and leisure related contracts
6. advertising and marketing contracts in football, 

to name a few.

Need legal advice from an expert frustration solicitor as it applies to a business contract? Facing down an alleged discharge of a contract by frustration? 

We advise businesses operating internationally and English companies on the effects of frustration and force majeure clauses, to improve situations for their business that first appear to be complete disasters with no way out. 

In the current environment we've heard a lot of reasons to say that a contract has - or hasn't - been frustrated. Most are ... untenable. Companies have competing interests:

• those wanting to be paid money to sustain turnover under existing contracts in a harsh economic climate; and
• those wanting to retain cash reserves.

Smart businesses take legal advice when there is huge uncertainty in a given situation to narrow the unknowns and position themselves for what's coming.

Don't be left by the side of the road.

Call us on +44 20 7036 9282 or email us at contact@hallellis.co.uk for assistance.