How to terminate a contract - Part 1 - Breach

We want out. For whatever reason. But trouble can lie ahead if we terminate if we’re not entitled to, or if we don’t comply with what we agreed in the contract. In this part 1 we look at the scenario where the other party is in breach of the contract. In part 2 we’ll look at termination for other reasons.

How to terminate a contract - Part 1 - Breach

Unfortunately, a breach will often be the most common reason for deciding to terminate a contract. On the other hand, quite logically, this is also where the law can give us more assistance.

1. What does the contract say?

Most written contracts will say something about termination for breach of contract and in practice this needs to be our starting point.

A typical scheme might be:

  • unremediable material breach: immediate termination on notice; and
  • remediable material breach: immediate termination if the breach is not cured during a particular period, e.g. 30 days from receiving written notice.

There are plenty of areas for discussion here. For example, how to define “material”, although this doesn’t seem to be a major issue that courts have often had to wrestle with. We probably know what it is when we see it as it will usually relate to one of the key obligations of the party in question e.g. to pay money, or to supply the agreed goods or services. And “remediable”. Non-payment can quite soon be remedied (depending on the approvals process that we may have set ourselves, e.g. requiring more than one signature, or even board approval for large payments). If we can take back the goods and fix them or replace them with others that comply with the contract, then this seems remediable too. On the other hand, making our confidential information public can’t really be fixed. And it is possible by careful drafting to create deadlines which if missed could constitute an unremediable breach (though normally time of performance is not an automatic ground for termination – and also can be dependent on serving a completion notice or otherwise making time of the essence).

We also need to be alert for any limitations on termination that may appear elsewhere in the contract. So there might be an express right to dispute an invoice and escalate within our organisations before any more drastic action can be taken. Or a “force majeure” clause which excuses late delivery or non-performance (though this often comes with conditions regarding the precise circumstances in which we can be excused, what it can be used for – often not for non-payment – and others such as the need to give prompt written notice that we are claiming to be excused from performing). Rights of set off may also affect the ability to terminate for failure to make a payment. We also find “exclusive remedy” clauses e.g. we are limited to liquidated damages, or repair or replacement only for the particular breach we are alleging.

On the other hand, we might have a very widely drafted termination clause that entitles a party to terminate for “any breach” or for a combination of breaches that individually wouldn’t be material, which would make termination more easily available and mean the standard of performance expected will be higher.

If the breach falls squarely within what was envisaged by the contract, then we still need to follow the mechanics the contract lays down – so if we need to give 30 days written notice by courier etc. then we should normally do as agreed.

2. The contract doesn’t say anything (or we don’t like what it does say)

Even if the contract doesn’t provide anything in particular (which is clearly not something we would advise, but which judging by the popularity of this post, seems to be more common than we might think), then the law will still permit us to terminate in serious cases. And we might want to fall back on general legal principles if the contract tells us we should give e.g. 180 days notice, or termination depends on some other condition that we don’t agree should apply in the particular circumstances.

However, we do need to read the agreement carefully – if it states that the grounds for termination it includes are the exclusive or only ones, then we could find that other general grounds aren’t available to us. Even here we need to remember that, if the contract attempts to restrict or deprive the other party of a legal remedy, then unfair contract terms legislation can make this subject to a test of fairness or reasonableness.

In English law, grounds for termination generally fall under the heading of “repudiation” and can take various forms:

a) Breach of a condition

This possibly deserves an entire explanation (or book) in itself but contract terms may generally be “conditions” (essential obligations, breach of which entitles us to terminate) or “warranties” (lesser obligations, breach of which entitles us only to damages). We regularly see important items consigned to “warranties” sections of contracts and, although the courts won’t always enforce unquestioningly the terminology we use, they may infer an intention to give a term a particular legal status from the labels we agree. So if something is central to our expectations under the contract then really we should say clearly that we expect the remedy for breach to be an entitlement to terminate. If we are dealing with breach of a “warranties and representations” clause then that may be different again – see section 3 below.

b) Serious breach of an intermediate term

Just to make things more interesting, some terms are neither warranties nor conditions, and so are classed as intermediate or “innominate” terms. Depending on the seriousness of the breach, they may give a right of termination, or just to claim damages. If the breach “goes to the root of the contract” or its effect would be to “deprive the innocent party of substantially the whole benefit of the contract” we may be entitled to terminate, though this then becomes a matter for the court’s interpretation.

c) Renunciation/Anticipatory breach

If one party refuses to perform or shows their intention not to perform the contract or to walk away from it, then this may be sufficient for the other party to terminate. This needs some careful consideration as it really needs to relate to non-fulfilment of the entire contract and not just some part or a different method of performance from that agreed.

If we do have a renunciation by the other party, then we can accept it (in which case we should make clear that we are choosing to do so). Be aware that if we don’t do so, or take any other action consistent with electing to continue with the contract, then we may be taken to have “affirmed” the contract and won’t later be able to rely on the renunciation.

If we are terminating for repudiation, then in our termination notice we should clearly say so, particularly if our written agreement says something different. As you may expect, this is not something to embark on lightly. If we get this wrong and the grounds for termination don’t exist as we claim, then we ourselves can be taken to have renounced the contract and can find ourselves on the end of a claim for damages in return.

3. The breach is of a representation

Representations can be extremely tricky: the law comes from various different sources, they can be made outside or inside the contract, and what happens if they turn out to be wrong (misrepresentation) depends on how they were made (fraudulently, negligently or innocently). For our purposes here, we can consider them as false statements of fact made by one party that induce the other party into entering into the contract.

One of the main consequences of having been induced into making a contract by a misrepresentation is that “rescission” may be available – so instead of terminating for the future the contract is entirely undone and the parties need to be put back in the position they were in before. For fraudulent misrepresentation, subject to certain exceptions, we always have a right of rescission. For negligent or innocent misrepresentation, the court may award damages in lieu of rescission.

The representation can become a term of the contract, i.e. where the maker promises in the contract that the statement is true. (It is not 100% necessary to call it a representation in the text but if for example we have called it a warranty, as noted above, then we may later be in difficulty to claim it was in fact a representation). If the statement is not true then this is a breach of contract and we can look to either the contractual termination provisions or to whether the breach is such as to constitute a repudiation as noted above. If it was just a warranty then we wouldn’t be entitled to terminate.

Although this post isn’t about damages, note that the measure of damages may be different depending on whether the representation was made fraudulently, negligently or (if damages are available at all) innocently. The type of damages also depends on whether the representation became a contractual term: if it did we might be able to choose between contractual damages (including future losses e.g. losses of profits etc.) or misrepresentation damages (undoing the contract and putting us back in the starting position).

4. Conclusions

English common law gives basic rights of termination for serious breaches of contract. However, these are subject to various limitations and the bar is set quite high if we wish to be released from the contract and not simply to claim damages. Clearly, the best protection for all parties, with scope for fewest arguments, is to control or extend these rights through a carefully drafted termination clause adapted to the particular features and risks presented by the transaction we are entering into.

READ THIS NEXT: How to terminate a contract – Part 2 – No Breach

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