Privity

1. The doctrine of privity restricts the parties who can sue or be sued on a contract. This means that: (i) a third party cannot sue for a benefit under a contract even though the parties intended to confer a benefit on her, and (ii) the contract parties cannot impose a burden on a third party by their contract.

2. Rule (i) follows from the traditional requirement that the party suing on a contract must be the promisee and has given consideration for the promise. This bar against third party action is justified on the grounds of the exclusivity of contracts, the priority of buyers and ‘floodgates’ concerns.

3. Section 1(1) of the Contracts (Rights of Third Parties) Act 1999 creates an exception to the privity rule by giving the third party a direct right to enforce a term (including exemption clauses) although she is not the promisee and has not given consideration for it, where:

  1. the contract expressly gives her that right; or
  2. the contract purports to confer a benefit on her (unless it is clear from the contract that the parties did not intend for the third party to sue (section 1(2)).

4. Section 5 of the 1999 Act protects the promisor from double liability by reducing the third party’s claim to take account of any damages already recovered by the promisee in respect of the third party’s loss. However, the third party’s claim seems to be unaffected by any damages recovered by the promisee for her own loss.

5. The third party must be expressly identified in the contract by name, as a member of a class or as answering a particular description, but need not be in existence when the contract was made (section 1(3)).

6. Section 2(1) prevents the contract parties from varying or rescinding the third party’s right without the third party’s consent if the third party has:

  1. communicated to the promisor her assent to the term;
  2. relied on the term to the promisor’s knowledge; or
  3. relied on the term and the promisor can reasonably be expected to have foreseen this;

unless the parties expressly exclude this (section 2 (3)).

7. Unless otherwise agreed, the right acquired by the third party replicates the right of the promisee to sue the promisor (section 1(5)), subject to minor variations (eg the remedy of termination is not available, the promisor cannot rely on any counterclaim she has against the ­promisee and the third party’s protection from UCTA is limited).

8. The privity rule has attracted widespread criticism for creating a legal ‘black hole’ (since the third party cannot sue and the promisee is unable to obtain a substantial remedy because she has suffered no pecuniary loss) which defeats the intention of the contract parties to benefit the third party, causing injustice to the third party and potentially resulting in unjust enrichment of the promisor. The rule is also criticised for generated uncertain and complex ‘exceptions’ and for creating difficulties in commercial life. However, there is controversy over the extent to which the 1999 Act addresses these criticisms.

9. The 1999 Act is inconsistent with the traditional view of the doctrine of consideration as requiring enforceable undertakings to be paid for and only allowing promisees who have made the payment to enforce them. However, the 1999 Act is not inconsistent with the alternative view that consideration merely determines which undertakings are unenforceable, while the 1999 Act simply adds to the categories of parties who can sue.

10. The 1999 Act preserves pre-existing ways for promisees and third parties to enforce contractual obligations against the promisor, including the following:

    1. enforcement by the promisee. The so-called legal ‘black hole’ is avoided where the promisee can claim specific performance or damages. The main basis for claiming such damages for the third party’s loss are: (i) for contracts made in domestic and social situations (eg restaurant meals and family holidays); and (ii) the Albazero exception (which allows the promisee to sue for the third party’s loss where she intends to benefit a third party who has no direct contractual rights against promisor, but the precise scope is uncertain). There may also be some scope for arguing that the promisee can claim for her own loss on the ‘broad ground’ elaborated in Panatown.
    2. enforcement by the third party, for example, via: contract rules which turn a third party into a contract party by finding:
      • a collateral contract between the promisor and the ‘third party’; or
      • that the ‘third party’ was really the principal on whose behalf the apparent promisee contracted;
        • tort rules allowing a third party to claim for the negligent promisor’s breach of a duty of care, or shielding a third party from the negligence action of a contract party;
        • trust rules which may regard the promisee as holding her right to sue on trust for the third party beneficiary;
        • other exceptions, including the promisee’s assignment of her right to sue to the third party, negotiable instruments or statutory exceptions, most notably relating to insurance.

11. Generally contract parties cannot impose burdens on third parties, but a third party may be bound by the contract of others in the following circumstances:

  1. The tort of inducing breach of contract where the third party intentionally or recklessly induces one party to breach her contract. This may sound in damages at common law and an injunction at equity where it is still possible for the contract to be performed.
  2. Sub-bailment contracts, where the third party bailor might be bound by the terms of the sub-bailment contract between the bailee and the sub-bailee.
  3. Unconscionable conduct in exercising her legal right in respect of property acquired regardless of the claimant’s right, where she had undertaken to honour the claimant’s right when he acquired the property.

12. The 1999 Act is inconsistent with the traditional view of the doctrine of consideration as requiring enforceable undertakings to be paid for and only allowing promisees who have made the payment to enforce them. However, the 1999 Act is not inconsistent with the alternative view that consideration merely determines which undertakings are unenforceable, while the Act simply adds to the categories of parties who can sue.