A common issue in recent months has been recovery for deposits paid under the terms of an agreement entered into that has now been frustrated by the COVID-19 pandemic.

Now, as businesses start to open up and the economy takes its first steps towards normality, businesses may be looking to see where and how they can take steps to recover deposits or prices paid under the terms of what is now a frustrated contract.

Under Australian law, a contract is frustrated when it is incapable of being performed due to an unforeseen event or circumstance that arises after its formation by no fault of either party. The frustrating event must significantly change the contractual rights or obligations under the contract, making it impossible to fulfil.

While under the common law it is difficult to recover a deposit or other amount paid when a contract is frustrated, in New South Wales the Frustrated Contracts Act 1978 No 105 (NSW) (Frustrated Contracts Act), and legislation enacted in South Australia and Victoria, may provide an avenue to recover those sums.

This article focuses on the Frustrated Contracts Act in force in New South Wales. A table at the end of this article sets out the key provisions in the South Australia and Victoria legislation.

When will a contract be frustrated?

 Whether a frustrating event has occurred must be determined in respect of each case and will depend upon the contractual terms and factual circumstances.

The Australian courts have held that the relevant question to determine whether a contract has been frustrated is whether the situation resulting from the event was "fundamentally different" from that contemplated by the contract.[1] The event must have consequences which are severe, and there must be a "radical" change deeming performance of the contract impossible.

An event is not a frustrating event if it merely makes the contract more expensive, impractical or onerous to perform, or if a different method of performance is available. Crucially, the event must be unforeseen in order for the contract to be frustrated. This means that where a contract contains a force majeure clause (which we explain further in a previous article) addressing the circumstances giving rise to the frustrating event, it is likely to have the effect of excluding the operation of the doctrine of frustration. This is because including a force majeure clause may demonstrate that parties have already turned their mind to the frustrating issue and contemplated how the risk of the frustrating event should be worn.

Claiming relief under the Frustrated Contracts Act 1978 No 105 (NSW)

The general Australian position under common law is that losses lie where they fall when a contract is frustrated, that is, an amount paid in fulfilment of the contract (for example, a deposit) is generally not recoverable, and accrued rights and obligations under the contract remain.[2] An amount may only be recoverable under common law if it is paid prior to a frustrating event and there has been a complete failure of consideration given in return.[3]

The Frustrated Contracts Act modifies the common law position on recovery of money paid on a frustrated contract to address the potential resulting harshness. It provides a mechanism by which amounts paid (including deposits) and obligations fulfilled in performance of a contract prior to frustration can be recovered or compensated.

The key provisions of the Frustrated Contracts Act are set out below.

  • Recovery for part performance: If a party has partly performed the contract prior to frustration, section 11 makes provisions for repayment to that party, including providing guidance on how to allocate the amount to be paid for the performance. For the purposes of the legislation, "performance" does not include payment of money.
  • Recovery of amounts paid, including deposits: In circumstances where payment was made as consideration for performance, but the corresponding obligation was not performed at the point the contract is frustrated, section 12 provides that the money paid is to be returned.
  • Adjustments for detriment and gain: Where detriment has been suffered as a result of giving performance under the contract, section 13 requires that an amount, equal to half of the amount that would be fair compensation for the detriment suffered, be paid to the party who suffered the detriment. This section also deals with compensation for any property acquired or improvements made to property as a result of giving performance under the contract.
  • Breach of contract claim: While promises made under the contract are discharged at the time of frustration, section 7 allows a claim for damages to be brought for breach of a promise where it was not fulfilled before the time of frustration. This section also provides that promises due for performance (but not performed) before frustration are not discharged if they would have survived frustration had they been due after the contract was frustrated.

Any money recoverable pursuant to each provision outlined above can be recovered as a debt in a court of a competent jurisdiction.

Is your contract an excluded contract?

It is important to note that certain contracts are excluded from the operation of the Frustrated Contracts Act. As set out at section 6, the Frustrated Contracts Act does not apply to:

  • contracts made before the commencement of the act (20 December 1978);
  • a charter-party;
  • contracts for the carriage of goods by sea;
  • insurance contracts;
  • contracts where parties have excluded the operation of the act; or
  • contracts that regulate the affairs of companies, co-operatives, societies, associations, industrial organisations, partnerships, or associations.

The Frustrated Contracts Act also confers the court with discretion to exclude the contract from the operation of sections 9 to 13, and make adjustments as it considers proper, in circumstances where applying those sections would:

 

  • be manifestly inadequate or inappropriate;
  • cause manifest injustice; or
  • be excessively difficult or expensive.

This means that parties must carefully consider the outcome of the relief they seek before any application to the court is made pursuant to sections 9 to 13 of the Frustrated Contracts Act.

What does it mean for you if you have a contract that has been frustrated?

 

If an unforeseeable event like COVID-19 occurs and affects performance of a contract, the question of whether that contract is frustrated will be entirely fact dependant.

Review your contract and consider whether or not it contemplates any frustrating issues – that is to say, check whether a force majeure clause exists.

If not, consider carefully whether it is still possible to perform the contract and whether the circumstances arising from the event are "radically different" from those contemplated by the contract.

If it is not possible to perform the contract, you should consider if the circumstances outlined above apply, and seek legal advice about whether it is open to you to rely on the Frustrated Contracts Act to assist you in recovering amounts paid under the terms of your frustrated contract.

Finally, if you are negotiating a contract in NSW, it is possible to contract out of the Frustrated Contracts Act. If you are a party that regularly receives deposits as part of the terms upon which you engage with your customers, this may be something to consider next time you review your terms and conditions.

If you want to know whether your contract has been frustrated as a result of COVID-19 and whether you can claim relief under the Frustrated Contracts Act, or for more information on the South Australia and Victoria legislative regimes (outlined in the table below), please do not hesitate to get in contact with us.

 Jurisdiction  Legislation Key provisions Excluded contracts
South Australia Frustrated Contracts Act 1988 (SA) 
  • Where a contract is frustrated, an adjustment will be made between the parties so that no party is unfairly advantaged or disadvantaged in consequence of the frustration. This will be done by working out: a) the difference between the benefits received and the value of the contractual performance up to the date of frustration; b) the balance will be divided between the parties to achieve equalisation of contractual return.
  • The court has discretion to apply a more equitable basis for making an adjustment than that set out above.
  • Adjustments may take into account any:
    • payment of money;
    • value of property;
    • creation of a charge on property;
    • appointment and powers of a receiver; or
    • any incidental or ancillary matters. 
  • Contracts made before the commencement of the Act
  • A charter-party
  • Contracts for the carriage of goods by sea
  • Insurance contracts
  • Contracts that constitute or regulate the administration of, or rights of membership in, an association
  • Partnership agreements
 Victoria Part 3.2 – Australian Consumer Law and Fair Trading Act 2012 (Vic) 
  • Part 3.2 applies to ‘discharged contracts’, i.e. contracts where performance becomes impossible or are otherwise frustrated.
  • Under a discharged contract: a) all amounts paid to any party before the time of discharge are recoverable; and b) all amounts payable to any party before the time of discharge cease to be payable.
  • Despite the above, the court has discretion to allow for a party owed amounts under the contract, that has incurred expenses before the time of discharge, to retain or recover an amount not more than the expenses incurred.
  • A party that ‘benefits’ as a result of anything done by the other party before the time of discharge is liable to pay that other party any amount the court determines, but not more than the value of the benefit obtained.
  • A charter-party
  • Contracts for the carriage of goods by sea
  • Insurance contracts, except as provided for in section 40 of the Act