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What is Termination of Contract in Australia?

An Overview on Termination of Contract in Australia

While contracts are often privately formed by communication of offer and acceptance between voluntary parties, termination may occur when parties cannot resolve their disputes. Contracts are aptly described as the “engine of commerce” (Edelmen, et al., 2016, p. 46). However, legal disputes may arise from a termination because remedies, such as the recovery of damages or specific performance, may be obtainable.  It is not uncommon that legal disputes are litigated, and the monetary award from a valid termination of contract be substantial.

Before examining termination of contract, the legal definition of a contract is explored to build the theoretical framework. The frequently asked questions on termination of contract are then explored within that landscape, including:

What is a contract?

Classical theory of contract underpins the modern understanding of contracts in Australian contract law and was instrumental in the development of English contract law during the 19th century (Robertson & Paterson, 2020). Reflecting a jurisprudential view to give effect to contracting parties’ intents, classical contract theory promoted the freedom for contracting parties to participate in private law making (Shatwell, 1954).

In summary, classical contract theory views a contract as a legally binding agreement between parties that comprises the following legal elements: Offer and Acceptance, Consideration, an Intention to Create Legal Relations, Capacity, Certainty and Formalities.

The legal elements of a contract are briefly summarised.

Legal ElementsSummary
Offer and AcceptanceOffer must be communicated by a party making the offer, and acceptance must be communicated in response to the offer by another party.  
ConsiderationConsideration is an exchange between the parties to a contract that is of value. When assessing consideration to a contract as the agreed price, the consideration should be sufficient but need not be adequate.
An Intention to Create Legal RelationsThere must be intention to create legal relations between the parties. 
CapacityDuring contract-making, the parties must have legal capacity to enter into a contract. If there is lack of capacity, the contract may not be legally binding, and could be set aside.
CertaintyA contract should be sufficiently certain and complete as to its essential terms. A contract that is not certain or complete, would lack certainty and not be complete.
FormalitiesCertain types of contracts must comply with formality requirements. The formality requirements will depend on each State or Territory in Australia.

Background topics prior to termination of contract involve formation of contract and contract-making. Those topics include:

What is a right to terminate?

Depending on the breach, a right to terminate is an elective right by an innocent party to end a contract in response. However, a breach will not automatically terminate the contract unless an election is made by the innocent party (Carter, 2018).

Because a termination of contract discharges prospective contractual obligations, a right of termination may be described as a legal “right to terminate the performance of a contract” (Carter, 2018, p 671). This right may a be based on a common law right, the terms of a contract, or be conferred by law.

Are there restrictions to a right to terminate?

A right of termination may not always be freely performed and may be limited by restrictions. Restrictions may limit how the right of termination of contract can be exercised. The restrictions may include: not being ready and willing to perform, affirmation, waiver, estoppel, good-faith, unconscionability, contractual provisions, and impositions conferred by law.

Can a common law right of termination be excluded?

Whether a common law right of termination is excluded by express terms will depend on the proper construction of a contract. In the High Court decision of Progressive Mailing House Pty Ltd v Tabali Pty Ltd (1985) 157 CLR 17 at [30], Mason J highlighted that the terms and conditions of a contract could regulate parties’ right to terminate:

“It is, of course, open to the parties by their contract to regulate the exercise of the common law right to determine for repudiation or fundamental breach”.

Therefore, a right of termination may also be expressly written in a contract, and the contract may prescribe procedures that must be complied before termination of contract can be performed.

Otherwise, the exercise of a right of termination may be invalid if there is not proper compliance with procedural requirements. To fully ascertain the scope and limits to a right of termination, a legal inquiry of the facts and the legal effect of a contract would be required.

What are the consequences from a termination of contract?

Generally, after a contract is terminated, the parties’ prospective contractual obligations towards a contract are released from future performance (Robertson & Paterson, 2020). The flow-on effect from a termination can be significant as rights accrued before termination may be unaffected and remain enforceable (Robertson & Paterson, 2020). However, the obligations “of the parties to perform or to be ready and willing to perform unperformed obligations [are] discharged” (Carter et al., 2006, p. 279).

Read More: What is Causation in Australian Contract Law?” explores the principles of causation, and its relevance to loss and damages.

What is breach of contract?

A breach of contract is described as being at the “core of contract law” because it creates causes of action (Seddon & Bigwood, 2023, para 9.1). A breach arises when a party does not perform in accordance with terms of a contract. The inquiry of a breach is not an ethical or moral investigation on a person’s blameworthiness or carelessness (Robertson & Paterson, 2020). It is also not based on events outside a person’s control. Rather, the inquiry of a breach is a question of both fact and law (Seddon & Bigwood, 2023).

When defining breach, a breach may be viewed as a strict contractual liability by reason that at its simplest, a breach of contract may entitle an innocent party to recover damages (Robertson & Paterson, 2020). However, not all breaches may entitle an innocent party an election to terminate a contract. If a contractual right to terminate for a breach arises, it may operate “concurrently with any right conferred by law for the breach” (Seddon & Bigwood, 2023, para 21.3).

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How is a contract terminated?

A right of termination once elected by an innocent party ends a contract. The election to terminate a contract causes the breach to be incurable, and the parties to a contract may be released from future performance of their contractual obligations (Seddon & Bigwood, 2023).

Common situations involving termination of contract include termination by agreement, termination for breach of a condition, and termination for repudiation.

What is termination by agreement?

Parties to a contract may terminate a contract by agreement. The termination may arise from the original contract, or by subsequent agreement. Seddon & Bigwood (2023, para 22.7) succinctly describe termination by agreement, as:

What has been created by contract may be extinguished by contract.

A termination by agreement may occur based on: termination by later contract, or termination by original contract.

What is termination by later contract?

Generally, a termination of a later contract may arise when the parties to an original contract enter into a subsequent contract releasing them from the original contract.

Whether the later contract has the actual effect of terminating the original construction is ultimately a legal “question of construction” (Seddon & Bigwood, 2023, para 22.7).

What is termination by original contract?

A right to terminate may arise from the express terms of a contract prescribing a power for termination of contract. The express right to terminate would be written in the parties’ contract.

This type of right of termination may take myriad of forms depending on the parties’ contractual drafting.

A common type of termination by agreement is a default provision. A default provision may be designed such that when a party defaults or breaches a condition, then before termination of contract can occur, the innocent party must follow remedial procedures prescribed in the contract.

Parties to a contract may prescribe that the contract’s performance is conditional on specific events. Notwithstanding, before the contingent condition is met, the parties “will be bound to the contract and may not do anything inconsistent with the relevant contractual obligations” (Robertson & Paterson, 2020 p. 456). An example of a contingent condition is a “subject to finance” clause that may be drawn stating if finance cannot be obtained, then a party may elect to terminate a contract within a specified period of time before a contract becomes unconditional.

What is termination for breach of a condition?

Under common law, a right to terminate may arise depending on the type of breach. Historically, in English law, the traditional dualistic distinction between condition and warranty was adopted from the Sale of Goods Act 1893 (UK) (Gamble, 2008). This artificial distinction separated the kind of breaches that gave rise to a right of termination (Carter et al., 2006).

Notwithstanding, a new category of intermediate or innominate term was introduced in the English Court of Appeal decision in Hongkong Fir Shipping Co Ltd v Kawasaki Kisen Kaisha Ltd [1962] 2 QB 26. While accepting the condition and warranty dichotomy, Diplock LJ reflected that by reason of the complex character of certain contracts, some terms could not be simply reduced as either conditions or warranties, at [70]:

There are, however, many contractual undertakings of a more complex character which cannot be categorised as being “conditions” or “warranties”.

From the decision in Hongkong Fir emerged the tripartite classification as a recent legal invention (Robertson & Paterson, 2023). In Australia, the tripartite classication was subsequently adopted by the High Court in the decision of Koompahtoo Local Aboriginal Council v Sanpine Pty Ltd (2007) 241 ALR 88, and forms part of Australian Contract Law. The High Court described intermediate terms, as:

….at the time a contract is entered into, it may not be possible to say that any breach of a particular term will entitle the other party to terminate, but that sometimes breaches of the term may be serious enough to have that consequence. Breaches of this kind are sometimes described as “going to the root of the contract”.

Legal scholars reflect that the modern concept of intermediate terms “encapsulates the idea that the parties have neither reached agreement that any breach of the term is to give rise to a right of termination nor agreed that no breach can ever justify termination” (Carter et al., 2006, p. 271). This reflects a broader policy dimension that unless the parties agree that a term is a condition, then a contract’s performance “may not be terminated unless the consequences of the breach are dire…” (Carter et al., 2006, p. 272).

The consequences flowing from a breach will depend on the classification of the contractual terms. The classifications are categorised as either condition, intermediate term, and warranty. A summary of the classifications is described in the table (Robertson & Paterson, 2023).

Types of TermsSummary
ConditionIf a term is classed as a condition, it is distinguished from an intermediate term and a warranty. An exercisable common law right to terminate for a breach of the condition may arise.
IntermediateIf a term is classed as an intermediate term, then it is distinguished from a condition and a warranty. A common law right to terminate may arise depending on the breach’s significance, and the legal consequences arising from that breach.
WarrantyIf a term is classed as a warranty, then it is distinguished from a condition and an intermediate term. A breach of a warranty may not create a common law right to terminate.

What happens if a term is expressed as a condition?

Contracts may contain express terms that the contract’s terms are conditions. While the use of the word, “condition” is not conclusive, if there are clear words that reflect the parties’ intentions that a term is, substantively, a condition, then the courts may give effect to the parties’ intentions.

What happens if a term is not expressed as a condition?

In the absence of classification by statute or an express term in a contract, whether a contractual term is a condition will depend on the construction of the contract. The construction of the parties’ intentions is determined objectively.

Other background topics relating to termination of contract, include interpretation of express and implied terms:

What is termination for repudiation?

Under common law, if a party repudiates the contract by showing an unwillingness or an inability to perform their obligations under the contract, then the other party may have a right to terminate. This has been described as evincing “an intention no longer to be bound by it or to fulfill it only in a manner substantially inconsistent with his or her obligations” (Seddon & Bigwood, 2023, para 21.12).

Repudiation is based on an objective assessment of the facts. Generally, repudiation may be shown by a party’s words and conduct that illustrate a refusal to perform or a sufficiently serious breach, or party’s actual inability to perform.

Read More: What is Repudiation in Australian Contract Law?” summarises the legal concept of repudiation in Australia.

Bibliography

  • Carter, J. (2018). Contract Law in Australia (7th ed). LexisNexis.
  • Carter, J., Tolhurst, G., & Peden, E. (2006). Developing the Intermediate Term Concept. Journal of Contract Law, 22(3), 268 – 286.
  • Edelman, J., Goudkamp, J., & Degeling, S. (2016). Introduction. In Edelman, J., Goudkamp, J., & Degeling, S (Eds). Contract in Commercial Law (pp. 1 – 24). Lawbook Co.
  • Gamble, R. (2008). Australia and the Intermediate Term – No Country for Old Rules. Monash University Law Review, 34(2), 457 – 466.
  • Robertson, A. & Paterson, J. (2020). Principles of Contract Law (6th ed). Thomson Reuters.
  • Seddon, N. & Bigwood, A. (2023). Cheshire & Fifoot Law of Contract. LexisNexis.
  • Shadwell, K. (1954). The doctrine of consideration in the modern law. Sydney Law Review, 1(3), 289 – 331.

Implied Terms | Express Terms | Frustration | Legally Binding Agreement | Enforceable Contract | Consideration | Intention To Create Legal Relations | Offer and Acceptance | Certainty | Repudiation | Privity | Classification of Terms | Contract Law (Theories) | Causation | Remoteness | Damages |

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Authored by:
Ben Franklin, Managing Partner (LIV Accredited Specialist – Property Law), &
Matthew Tran, Lawyer.

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