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The Case for Good Faith in English Contract Law

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About The Author

Anirudh Mandagere (Former Law and Social Policy Editor)

Anirudh is the judicial assistant to Lord Justice Jackson. Previously he studied History at St. Catherine’s College, University of Oxford and undertook the Graduate Diploma in Law and the Bar Professional Training Course at City University. Outside of the law, Anirudh enjoys running, badminton and watching the cult Netflix series, ‘Bojack Horseman’.

Image ©: Flazingo

English contract law rests on the general assumption that parties are free to contract as they please. This assumption has been qualified by the imposition of ‘implied terms’ in contracts. Implied terms are those terms which were not within the intention of contract parties, but have been introduced by either courts or legislation in order to reduce uncertainty and provide a distinct basis for contractual rights.

Terms implied by statute are designed to reduce unfairness and promote a fairer bargaining position between the parties. However, there is one term which is prominent by its limited nature: the requirement of good faith in contracts. The Unfair Terms in Consumer Contracts Regulations 1999 (“UTCCR”) introduced the requirement for good faith in consumer contracts for the first time. This has now been superseded by the Section 62(4) of the Consumer Rights Act 2015 which states that:

A term is unfair if, contrary to the requirement of good faith, it causes a significant imbalance in the parties’ rights and obligations to the detriment of the consumer.

However, the doctrine of ‘good faith’ has only been limited to consumer contracts. So, what exactly is good faith? And why has English contract law been so reluctant to embrace good faith?

A History of Good Faith

The principle of good faith in UTCCR was considered in the case of Director General of Fair Trading v First National Bank [2000] Q.B. 672. In this Court of Appeal case, Lord Justice Peter Gibson drew on Professor Beale’s work to define the meaning of ‘good faith’:

I suspect that good faith has a double operation. First, it has a procedural aspect. It will require the supplier to consider the consumer's interests. However, a clause which might be unfair if it came as a surprise may be upheld if the business took steps to bring it to the consumer's attention and to explain it. Secondly, it has a substantive content: some clauses may cause such an imbalance that they should always be treated as unfair.

Thus, good faith essentially means that the parties undertake fair and open dealing. Such a principle has its basis in both Roman law and the notion of bona fides (“good faith”) which established that claims of error and/or duress could be taken into account when considering whether to grant the buyer a positive action. It sought to mitigate the harshness of caveat emptor (“buyer beware”) by providing the buyer with a variety of rights which they could pursue. Roman law subsequently influenced the civil law of nations in Europe, and so the concept of ‘good faith’ became embedded in these legal systems.

English law derives from the old common law rather than the Roman civil law system. Nevertheless, ‘good faith’ has not been completely absent in English common law. In the landmark case of Carter v Boehm, Lord Mansfield introduced the concept of ‘utmost good faith’ (uberrima fides) in insurance contracts, which Rowan Clapp considered in more detail in “'I Honestly Have No Idea': Good Faith and Insurance Contracts”. Mansfield held that someone who is insured must reveal all the risks to the insurer so that the contract accurately reflects the risks being undertaken. He reasoned that, as a ‘contract of speculation’, an insurance contract required a higher standard of duty expected from the parties. When Director General of Fair Trading went before the House of Lords ([2001] UKHL 52), Lord Bingham referenced Lord Mansfield to show that good faith was not ‘wholly unfamiliar’ to British lawyers.

Nevertheless, outside insurance, and subsequently consumer contracts, the doctrine of ‘good faith’ was not recognised as valid. This was clarified in the leading House of Lords case of Walford v Miles [1992] 2 AC 128. The facts of this case are as follows:

  • A wished to buy a company from B.
  • A and B both agreed that B should only deal with A exclusively and should not negotiate with any competing buyer.
  • B decided not to proceed with negotiations and went on to sell the company to C (a third party).
  • A sued for breach of the oral agreement; B contested this, stating that the oral agreement was merely an agreement to negotiate in good faith.

Lord Ackner held that the ‘good faith’ agreement was unenforceable. In doing so, he presented two arguments to justify his refusal. It is worth examining both of these arguments in order to determine whether they stand up to close scrutiny.

Unenforceability of Good Faith in English Law

Argument I: ‘Good Faith’ is contrary to the ‘adversarial position of the parties involved in negotiations’          

Lord Ackner was concerned that imposing a duty of good faith would run contrary to the individualistic position of contract law. Companies which enter into contracts are not social welfare engines; their aim is to make as much profit as possible within a competitive market. This is, of course, subject to the usual restraints, such as misrepresentation. However, contract parties are involved in a competitive situation and cannot be expected to disclose every aspect of their business deal.

Such an argument is rooted in the belief that both judges and Parliament should play a non-interventionist role in the formation of contracts. A central tenet of English contract is ‘freedom of contract’ by which the parties should be able to enter the market, choose who they contract with, set their own terms as they wish, and stick with them. It is a view strongly associated with Robert Nozick whose book ‘Anarchy, the State and Utopia' promoted a minimal state which restricted its activity to, among other things, the freedom of contract. Contract law should facilitate market operations and accommodate business practice, rather than seeking to impose judicial/statutory preferences on businesses. This argument is not without merit. The success of English contract law is evident from the fact that a good proportion of international transactions choose English law. By promoting security of contract and minimal interference, English contract law has moulded itself to market practice.

However, this argument fails to recognise that contract law is influenced by the principle of consumer protection as well as individualism. In essence, this implies a duty of fairness within commercial contracts. This line of thought, described as ‘consumer-welfarism’, is rooted in that which is just, and attempts to ensure that fault is not rewarded. Central to this theory is the principle of ‘constancy’: that parties should not seek to encourage others to form an expectation, only to deny the aggrieved party that expectation. This view is strongly associated with Lord Denning who sought to modify the perceived harshness of the common law by use of an equitable estoppel. This was most notably used in the landmark case of Central London Property Trust v High Trees House Ltd [1947] KB 130 which revived the long-dead doctrine of ‘promissory estoppel’. Taking this line of thought, introducing a doctrine of ‘good faith’ merely extends the scope of ‘consumer-welfarism’ and introduces an element of ‘fairness’ associated with estoppel claims.

The above supposition can be presented as a dichotomy between ‘business efficacy’ and ‘fairness’. However, it can be argued that a doctrine of good faith would actually encourage business dealing by providing contracting parties greater security. Implying a doctrine of good faith would mean that the risk of opportunism and exploitation that was present in Walford v Miles would be exposed. In a similar situation, this would mean that contracting parties would be willing to take risks in the knowledge that if it becomes apparent that they are being exploited, they can rely on ‘good faith’ in the court. Implying such a doctrine would actually encourage trust and better dealing between contracting parties since they would have the security of the good faith doctrine to fall back on.

Argument 2: Good Faith is ‘too uncertain’ to be enforced

Secondly, Lord Ackner felt that implying good faith meant that the court would have to discuss the moral standards by which a contracting party must abide. This is undoubtedly difficult and can lead to varying interpretations as to the meaning of ‘good faith’. Is it the role of the courts to prescribe moral standards to which contractors must be judged by? Is it subjective, in that ‘good faith’ only requires a clear conscience on behalf of both parties (similar to Carter v Boehm), or is it objective? Does it cover pre-contractual conduct or negotiations leading up the conduct? Does it cover omissions or merely negative actions? The scope for such enquiry is vast, and ultimately poses more questions than it answers. Lord Ackner felt that the nebulousness of the term ‘good faith’ meant that it was clearly unenforceable. The uncertainty of ‘utmost good faith’ in insurance contracts was considered extensively in Rowan Clapp’s article.

However, the above supposition is unconvincing. While there is significant debate about what constitutes ‘moral’ conduct, the courts are perfectly capable of coming up with sensible moral arbiters for determining what would be a consistent application of ‘good faith’. The task may be difficult, but it is certainly not impossible and one that the courts can and should discuss. Furthermore, the courts already take a role in judging the parties’ intentions when dealing with damages. Indeed, in Hadley v Baxendale [1854] EWHC J70, the courts determined contractual damages based on what both contracting parties could have foreseen arising out of the contract. This is a clear example of the courts attempting to determine what was in the minds of the parties when executing the contract.

Conclusion

The strongest argument for good faith is that it would bring English contract law into line with international norms. Article 7(1) of the Vienna Convention on Contracts for the International Sale of Goods states the importance of promoting ‘good faith’ in international trade. While it is true that English contract is fairly dominant in international commercial transactions, it does not exist in a complete vacuum. English contract law must adapt to the norms of the internationally globalised economy so that it continues to remain relevant. Furthermore, it is important to note that common law jurisdictions have enforced good faith agreements. In the United States, the Uniform Commercial Code states in Section 1-304 that 'every contract or duty…imposes an obligation of good faith in its performance and enforcement’. Of particular note is Canadian decision of Bhasin v Hynrew 2014 SCC 71 in the Supreme Court of Canada which established an implied duty of good faith between parties to a contract. The facts of the case are as follows:

  • The dispute was between A, a retailer, and B, a wholesaler.
  • The parties were engaged in a three year contract that entitled A to sell B’s goods.
  • An agent of B (C) worked over a number of years to capture A’s client-base. This involved a number of dubious practices, including misleading A and pressuring him into signing for a merger.
  • In the end, B terminated A’s contract and acquired his client-base.

While the facts of this case are convoluted, the essence is simple. B had not acted honestly when performing their contractual obligations. He had misled A in the period, both regarding B’s intentions and in not having paid legitimate regard to A’s interests. The dishonesty was extensive, and in all likelihood played a major part in convincing the Supreme Court of Canada to imply a duty of good faith in the contract.

Determining whether English contract law should imply good facts rests on how one perceives of the role of contract law in society. Should the courts enforce higher standards of fairness in contracts, or promote a laissez-faire attitude to business dealings? How far should the judiciary and parliament intervene in business life? These are value judgments, and cannot objectively be decided one way or the other. However, it is worth noting that English law already regulates attempts to deal with ‘bad faith’ dealing. The concepts of misrepresentation, estoppel, and duress in contract law all exist to ensure that contracting parties do not get away with making unfair deals. If one accepts that these concepts have value and that the courts have a role in regulating dealing in ‘bad faith’ then it seems logical that the courts should address this problem directly by adopting a principle of good faith.

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Tagged: Commercial Law, Contract Law

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