Contracting parties will often want to reserve their right to terminate the contract and recover their reasonable losses if the other party (the defaulting party) breaches its obligations.
Termination rights at law are limited, so parties commonly agree to include specific rights in their contracts in addition to (or instead of) their common law termination rights. Typically, they allow a party to terminate where the counterparty has committed a “material breach” of the contract.
Although such provisions are intended to permit termination in the case of serious breaches, the term “material breach” is generally not defined and it does not necessarily have a clear meaning at law. In practice, parties may have different views as to which breaches are material and disputes can arise – particularly, where one person considers there has been a material breach and seeks to terminate and the other disagrees. This is an area which requires care and legal input because purporting to terminate for a material breach which is not, in fact, a material breach can itself be a breach and expose the terminating party to a claim from the counterparty for damages (for wrongful termination).
The courts, where asked to intervene and determine whether a particular breach is material, may consider a range of factors, including the terms and duration of the contract in question, the nature of the breach and its consequences on the parties.
However, parties can minimise uncertainty and the risk of disputes by agreeing that certain breaches should trigger a termination right and clearly stating them in the contract (along with any remedies) before it is signed. For example, a seller may wish to reserve the right to terminate, if the customer fails to pay for its goods within a certain period.
Parties may narrow or widen the scope of their termination rights and remedies by written contract as appropriate, subject to certain limits (for example, rules in relation to consumer contracts and on penalties).
In the absence of provisions written in the contract:
- A breach will not ordinarily enable the innocent party to terminate unless it is sufficiently serious that it goes to the root of the contract,
- the innocent party will be entitled to claim damages from the defaulting party for losses arising as a result of the breach.