Many countries recognize the obligation to act in good faith when entering into and executing contracts. Acting in good faith imposes an obligation on the parties to observe reasonable commercial standards of fair dealing in accordance with the parties’ actions related to the agreement and also requires faithfulness to the agreed common purpose and consistency. Hence, the doctrine of good faith implies acting with honesty in fact and the observance of reasonable commercial standards of fair dealing. By incorporating the doctrine of good faith, a contract imposes the obligation of good faith in its performance and enforcement with the scope of such contract.
Doctrine of good faith in various jurisdictions:
- United States - The principle of good faith is embodied in the Uniform Commercial Code Section 1-304 which provides that “every contract or duty within this Act imposes an obligation of good faith in its performance or enforcement”.
- Germany - The German Civil Code establishes the general obligation to execute contracts in good faith under Section 242.
- France - Article 1134 of the Civil Code, France, states that agreements must be performed in good faith.
- Netherland - Dutch Civil Code provides that “the relationship between parties to an agreement is governed as well by the principles of reasonableness and fairness”
- England - England is one of the few jurisdictions which does not specifically recognize the implied duty of good faith between contracting parties. English law was said to have "committed itself to no... overriding principle [of good faith] but has developed piecemeal solutions in response to demonstrated problems of unfairness". However, the case of Yam Seng PTE Ltd v International Trade Corp Ltd, established that an implied duty of good faith could also be applied to English contract law in certain circumstances. In this case, it was held that the content of the duty to perform a contract in good faith is dependent on context and relies on construction of the contract in question.
When an agreement contains provison(s) wherein parties are expressly obligated and are under duty to act in good faith, then Courts can give effect to the parties’ intentions. However, the mere fact that a good faith provision or a similar provision exists in the contract does not mean that the Courts will construe the provision as imposing upon the parties a general duty of good faith. In the case of TSG Building Services plc v South Anglia Housing Ltd, the disputed clause required the parties to work together in the ‘spirit of trust, fairness and mutual co-operation’ and which also required the parties to act ‘reasonably’. However, the Court interpreted these obligations restrictively and were held not to extend to a party exercising an unqualified contractual right to terminate the contract.
Doctrine of good faith in India
The doctrine of good faith is not expressly mentioned in the Indian Contract Act, 1872 (hereinafter referred to as the “Act”). However, certain provisions impose obligation on parties to act in good faith. For example, if one person employs another to do an act, and the agent does the act in good faith, the employer is liable to indemnify the agent against the consequences of that act, though it may cause an injury to the rights of third persons.
Further, insurance contracts are governed by the doctrine of “Uberrima Fidei”, i.e., “utmost good faith”. The doctrine of good faith is essential in contract of insurance because in such contracts, parties are required to confirm to a higher degree of good faith. The contract of insurance is a contract of utmost good faith and the parties to the contract are bound to disclose all the material information at the time of entering into a contract.
The obligation to act in good faith is finding its way into commercial contracts both by its inclusion as an express term but also by implication. A duty to act in good faith promotes honesty and fair dealing between parties of commercial contracts. However, the parties may choose to either exclude or define the duty to act in good faith. The parties may also draft carefully to incorporate the doctrine of good faith in contracts.