Unfair contract terms: prepare now for new legislation

MASTER BUILDER, July-August 2016:

Unfair contract terms provisions will apply to standard form “small business contracts” entered into, on, or after 12 November this year and contracts that are renewed, or varied after that date.

A small business contract is a contract where: 1. At least one party is a business employing fewer than 20 people; and 2. The upfront price payable under the contract does not exceed either $300,000 or Sl million if the contract is for more than 12 months.

Businesses will need to review and possibly amend their standard form contracts to ensure they remain fully enforceable.

What do you need to know?

  • Do you have fewer than 20 full time employees?
  • Do you enter into contracts where there is little or no room to negotiate?
  • Do you require your small business subcontractors to enter into contracts with little, if any, scope for negotiation?

If you answered yes to any of the above, then you should consider: If you, or the parties you enter into contracts with, might fall within the scope of unfair contract terms protections for small businesses;

Whether terms in your subcontracts may be considered to be “unfair”, in which case they could be declared void and of no effect.

New law has the potential to impact on construction industry contracts, such as those for the supply of goods and/or services, consultancy agreements, hire agreements and other procurement contracts.

What is the new law?

The Treasury Legislation Amendment (Small Business and Unfair Contract Terms) Bill 2015 extends the consumer “unfair contract terms” protections to small businesses and takes effect on 12 November.

Since 2010, a term of a “standard form contract” with a “consumer” (a consumer contract) could be declared void if it was found to be “unfair” – this includes (potentially) residential standard form construction contracts issued by industry or any other bodies.

The new law amends the Australian Securities and Investments Act 2001 and the Australian Consumer Law so that these protections also apply to “small business” and “small business contracts” (not just to consumer contracts). Under the new law, a Court will be able to declare that an “unfair” term in a standard form “small business contract” is void. As with the existing consumer protections, the contract will continue to bind the parties, if it can continue to operate without the unfair term. If the contract cannot operate without the term, then it may be void entirely.

Does this apply to your contracts?

It could – a “small business contract” is a standard form contract where, at the time it is entered into:

  • At least one party is a “business” that employs fewer than 20 persons (a “small business”); and
  • The “upfront price” payable under the contract does not exceed either $300,000 or $1 million if the contract is for more than 12 months.

When calculating the number of employees of a business, each full-time and part-time employee should be counted as one person. Casual employees are to be counted only if they are employed on a regular and systematic basis.

If you are a builder or contractor that enters into standard form contracts with small business subcontractors or suppliers (such as bricklayers, plumbers, carpenters, plasterers, etc) then the new Law will likely apply to those contracts (subject to the threshold limits).

In determining whether a contract is a “standard form contract” a court may consider any matter, but will take into account the following:

  • Whether one of the parties has all or most of the bargaining power relating to the transaction.
  • Whether the contract was prepared by one party before any discussion relating to the transaction occurred.
  • Whether one party was required, in effect, to either accept or reject the terms of the contract (excluding the upfront price payable); and
  • Whether the terms of the contract take into account the specific characteristics of another party or particular transaction.

Does the new law impact your existing contracts?

The new law applies to contracts entered into on or after 12 November and contracts that are renewed or varied after that date

What terms might be “unfair”?

The concept of “unfair” contract terms is not new. At common law, it always has been open to an aggrieved party to argue that a term of a contract is unconscionable and therefore void. Under the legislation a term is “unfair” if it:

  • Would cause a significant imbalance in the parties’ rights and obligations arising under the contract; and
  • Is not reasonably necessary to protect the legitimate interests of the party who would be advantaged by the term; and
  • Would cause detriment to a party if it were to be applied or relied on.

In considering whether a term in a contract is unfair, a court will look at how transparent the term is (whether it is expressed in plain language, legible, presented clearly and readily available) and the overall rights and obligations of each party to the contract.

It is not clear what terms in standard form construction contracts might be considered to be “unfair”. Depending upon the circumstances, they could include:

  • Short time bars (e.g. 24 or 48 hours) on claims for variations, extensions of time or other claims.
  • Termination for convenience clauses (particularly where the subcontractor is left “out of pocket”).
  • Terms entitling a superintendent or principal to make unilateral assessments or determinations as to a subcontractor’s entitlement.
  • Excessive or punitive consequences for default (e.g. default interest rates, penalty fees).
  • One party being entitled to unilaterally vary essential terms (e.g. price, payment terms) without giving the other party a termination right.
  • The exclusion of certain remedies for default.
  • A party being liable for things that are outside its control or which do not arise from its breach of contract or duty of care (e.g. under an indemnity).

If a term in a standard form small business contract is found to be “unfair”, the term will be void; in other words, not binding on the parties. If the balance of a contract can continue to operate without the unfair term, then the contract will otherwise remain binding on the parties. If a party attempts to enforce a term that is declared to be “unfair” then consequences can apply, including court awarded compensation to the affected party

So what should you do?

Builders and contractors entering into contracts with small businesses should:

  • Identify when they are dealing with a small business and a small business contract (in which case, the new law will apply); and
  • Review standard form contracts to identify and consider revising terms which are at risk of being “unfair” and void under the new law.

The new law could impact contractors seeking to “back to back” obligations down the contracting chain. While the head contractor/head contract might not fall within the scope of the legislation, contracts with subcontractors might be covered by the law. As a result, it is possible that a term validly imposed at the head contract;evel might be considered to be “unfair” if appl~ed down the chain at the small business subcontractor level (although it might be argued that such term is necessary in the subcontract to protect a legitimate commercial interest). This risk will need to be considered and managed or priced accordingly by contractors.

If your business satisfies the test for a small business and you enter into standard form contracts on what is substantially a take it or leave it basis, and the contracts also satisfy the threshold requirements (i.e. under $300,000 or under $1 million with a duration of more than 12 months), then you should consider whether the contracts you enter into, renew or amend after 12 November might contain terms that could be said to be “unfair” and whether such terms can be challenged.

It might be that the new law will encourage a party relying on an “unfair” term in a standard form contract to negotiate an outcome with a small business, in circumstances where it might otherwise have no interest, or incentive, to do so.

Similarly, a small business might be able to argue in the context of an adjudication application under the Construction Contracts Act that a particular term is “unfair” and should be treated as being void by an adjudicator.

This article was prepared by Jackson McDonald partners Basil Georgiou and Isla McRobbie and special counsel Matthew Lang for the Master Builders Association WA