24 November 2017

When are unfair contract terms in a construction contract unenforceable?

The Australian Consumer Law can protect small businesses from unfair contract terms in standard form contracts. This article explains when and how this legislation applies.


Who does the unfair contract legislation apply to?

The unfair contract legislation applies where:

  • the contract is in a standard form;
  • the contract was executed on or after 12 November 2016 (or if any terms are varied, the legislation will apply to those terms);
  • at least one of the parties is a small business (less than 20 employees employed on a systematic basis); and 
  • at the time of entering the contract, the contract price is less than $300,000 (or if the contract has a duration of more than 12 months, less than $1 million).

In a construction context, these contracts could include head contracts, subcontracts, consultant and supplier agreements.

What is a 'standard form contract' for the purposes of the unfair contracts legislation?

Any contract will be presumed to be a standard form contract unless the party seeking to enforce it proves otherwise.

To determine whether a contract is a standard form contract, a court may take into account anything it thinks relevant, but must take into account the following:

  • Did one party have all or most of the bargaining power?
  • Was the contract prepared before negotiations started?
  • Was the contract presented on a 'take it or leave it' basis?
  • Did the other party have an effective opportunity to negotiate the terms of the contract?
  • Did the terms of the contract take into account the specific characteristics of the other party or the particular transaction?

The legislation can apply to any kind of contract, regardless of its origin. For example, it might be a bespoke document prepared by the party, it could be a contract prepared by an industry body, or it could be something else. The origin of the contract will not be material when considering whether it is caught by the legislation.

What is considered 'unfair'?

A term will be considered unfair if:

  • it would cause a significant imbalance in the parties' rights and obligations; 
  • it is not reasonably necessary to protect the benefitting party's interests; and 
  • it would cause detriment to the small business if applied.

It is important to appreciate that each of the above criteria need to be satisfied.

In deciding if a term is unfair, the Court will consider the term in the context of the whole contract. In doing this, it has to weigh the legitimate commercial interests of the business against the detriment suffered by the small business if the term is enforced.

For example, if a term would cause a significant imbalance between the parties, and if it would cause detriment to the small business - it will not be unfair if the term is reasonably necessary to protect the legitimate interests of the party seeking to enforce it.

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What happens if a term is unfair?

If a Court determines that a term of a contract is unfair, that term will be void.

The remainder of the contract will continue to apply, as long as it can operate without the void term. 

The legislation does not penalise a party for including an unfair contract term. However a disadvantaged party or the ACCC can seek compensation for loss suffered as a result of the unfair term. 

 

What types of terms might be considered 'unfair'?

While the ACL protections have not yet been applied to a standard form construction contract, there are a number of terms which are commonly found in construction contracts that may be caught by the legislation. 

Extreme time bars

time bar purports to extinguish a party's rights if certain requirements are not met within a stipulated time. 

For example, a time bar might seek to deprive a contractor of an EOT if certain notices, containing certain information, are not given within the time required by the contract.

An example of a potentially unfair time bar might be a clause that is virtually impossible to comply with - such as a clause that requires extensive information to be given, in writing, within an exceptionally short timeframe. 

However, it is important to remember that what is reasonable will vary in different circumstances. There may be circumstances in which it is reasonable for the contract to impose onerous notice requirements. The fact that a contract term is onerous does not necessarily mean that it will be unfair.

Termination for convenience

Some contracts will give a party (typically the principal or head contractor) the right to terminate the contract at any time, for any reason, even where the other party is not in default.

Typically these clauses will apply to one party to the contract, but not the other. In many instances, the party whose contract is terminated will be entitled to limited compensation and often will not be entitled to claim any loss of profit.

The legislation identifies this type of clause as one that 'may be unfair'. Whether any particular clause is in fact unfair will depend on the circumstances.

For example, a head contractor may be able to justify the clause where its head contract contains a corresponding provision.  It may not be able to justify the provision if its rights under the clause (or the detriment imposed on the other party) is greater than is necessary to protect the head contractor's position.

A clause that makes one party liable for circumstances beyond its control

A term which requires a contractor to grant an indemnity or accept a liability for circumstances outside of its control could arguably be considered unfair under the ACL.

Some examples could include:

  • warranties in relation to work performed by others (eg pre-existing work, or warranties in relation to designs prepared by others); and
  • broad, unqualified indemnities (eg an indemnity for any losses suffered in connection with the work, regardless of the cause of the loss).

Keep in mind that contracting parties are able to share and allocate risk as they see fit. Again, just because a clause is onerous does not necessarily make it unfair.

An example is a latent condition clause. Although it is possible that in some circumstances a latent condition could be considered unfair, in many instances it will not - particularly where the clause has been made known to the contractor at the time of pricing the project and it has been given the opportunity to price for this risk.

In many cases, the key question will be whether the clause is necessary to protect the legitimate interests of the party who would seek to benefit from it.

Unseen documents

Contracts can sometimes bind a party to provisions contained in a separate document which it has not seen.

Typical examples include provisions in a head contract or a lease, or policy documents maintained by one party to the transaction.

Indeed, the 'transparency' of the term is one consideration that will be taken into account in deciding whether the term is unfair.

Proportionate liability exclusion

Where a loss is caused by concurrent wrongdoers, the proportionate liability legislation means that each wrongdoer will usually only be liable for the proportion of the loss it has caused.

However, in some States it is possible to 'contract out' of this regime, so that all concurrent wrongdoers may potentially become liable for all of the liability. Where one wrongdoer is required to pay more than their share, it is then left to claim 'contribution' from the other wrongdoers.

Where the proportionate liability legislation is excluded, one wrongdoer could become disproportionately liable for the loss it has caused if another wrongdoer is unable to contribute (for example, because it is uninsured or insolvent).

One effect of these clauses is to transfer the risk of insolvency of a concurrent wrongdoer from the principal (or head contractor) to others down the contracting chain. Whether this type of clause can be rendered unenforceable by this legislation remains to be seen.

What should parties do to protect themselves?

Although the boundaries of this legislation are yet to be tested, a recent decision by the Federal Court provides some insights on how it will be applied.

In this case, the Court declared that eight terms in a standard form contract used by waste management company, JJ Richards & Sons Pty Ltd, were unfair and void.

Some examples of the terms which were found void included:

  • a term binding customers to subsequent contracts if a customer fails to cancel the contract within 30 days prior to the end of the term;
  • a term allowing JJ Richards to unilaterally increase the price;
  • a term removing any liability for JJ Richards where performance is “prevented or hindered in any way";
  • an unlimited indemnity in favour of JJ Richards; and
  • a term preventing customers from terminating their contracts if they have payments outstanding. 

If you regularly enter contracts with small businesses, it is worth reviewing your standard form contracts to make sure they do not contain any unfair terms. There is no point issuing contracts that contain terms that will not be enforceable. 

Similarly, it will be important to keep this legislation in mind if you are considering relying on a potentially unfair term. For example, if you seek to rely on a term that is void under this legislation, you may be at risk of repudiating the contract and becoming liable for damages.

Conversely, if you are a small business 'on the wrong side' of an unfair contract term, it is obviously useful to be aware of this legislation and to understand how and when it might apply.

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About the Author

Morgan McIntosh | Associate

Morgan is a commercial lawyer whose practice is mainly focused on transactional matters in the construction space.


morgan.mcintosh@turtons.com | (02) 9229 2901

About Turtons

Turtons is a commercial law firm in Sydney with specialist expertise in privately owned construction and technology businesses.

Morgan McIntosh | Associate

Author

Morgan McIntosh | Associate

morgan.mcintosh@turtons.com

Morgan is a commercial lawyer whose practice is mainly focused on transactional matters in the construction space.


morgan.mcintosh@turtons.com | (02) 9229 2901

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