Good faith in contracts

Can good faith be implied in contracts?

The starting position is that parties should be as free to make agreements on their own terms without interference, and the agreements ought to be respected, upheld and enforced by the courts. On this basis the parties were free at the outset to decide what was fair or not. The advice to the client is therefore dependent on the actual words used in the agreement and what they mean.

But (to complicate things) when the client assumes that the court will apply fairness it is not completely unjustified. The sanctity and “free will” of the contract is qualified by the doctrines of illegality, frustration, consideration and the Unfair Contract Terms Act. These doctrines police the contract and restrict the autonomy of contracting parties. And recently this has been extended slightly by Bates and others v Post Office Ltd [2019] in which the English courts show a willingness to imply a duty of good faith in certain circumstances.

The difference between European and English courts?

European courts recognise that contracts have an implied duty of good faith. The parties should act honestly and loyally to the parties bargain. The French Civil Code contains a requirement that all agreements must be performed in good faith. Similarly, in Germany, contracts must performed in the manner required by good faith and fair dealing.

However, the traditional approach of English courts has been to avoid implying good faith into a contract, arguing that if commercial parties want to work on a good faith basis they should do so expressly – i.e. it should be written into the contract. Parties are generally free to negotiate terms and pursue their own goals, implying good faith could undermine contractual certainty and their ability to do this. Further to this, even expressly written into contracts good faith has been doubted by the courts, the clause has to be clear and sufficiently certain for it to be enforceable.

Bates and other v Post Office Ltd

Nevertheless the English courts have begun to soften their stance on this, with a recent case in the High Court suggesting that good faith could be written into certain contracts. In the recent group litigation case, Bates and others v Post Office Ltd [2019] the court considered whether certain contracts between the Post Office and sub-postmasters were considered “relational contracts” and therefore subject to an implied obligation on the parties to act in good faith. The court held that a contract could be relational, meaning good faith is implied, depending on the “circumstances of the relationship, defined by the terms of the contract and considered in its commercial context.”

Around 500 sub-postmasters brought a claim against the Post Office, concerning a new computerised accounting software system, called Horizon. A considerable number of discrepancies and shortfalls in the accounting records from Horizon at some branches were uncovered over a period of time, resulting in the Post Office pursuing and demanding payment from the sub-postmasters.

It was alleged however that the accounting software system must have contained bugs which caused the discrepancies and shortfalls and the sub-postmasters were not liable for any such losses. They contended there had been a cover-up over the shortcomings in the Horizon software system. The Post Office disagreed, asserting that the Horizon system was robust and reliable. The sub-postmasters sort to enforce a duty of good faith, they had acted honestly and the breaches had occurred because of things outside of their control – namely the computer system not working correctly.

The court considered that a duty of good faith means that: “the parties must refrain from conduct which in the relevant context would be regarded as commercially unacceptable by reasonable and honest people. Transparency, co-operation, and trust and confidence are…implicit within the implied obligation of good faith”.

It was concluded that there was an implied term of good faith in the contract between the sub-postmasters and the Post Office. The court also considered the test of when there is a relational contract, i.e. a contract with good faith implied, between the parties and identified characteristics that would first need to be considered;

• There must be no specific terms in the contract should prevent a duty of good faith being implied;
• The contract should be long-term, with the mutual intention of the parties that the relationship will be long-term;
• The parties must intend that their roles be performed with integrity and fidelity to their bargain;
• The parties will be committed to collaborating with one another in the performance of the contract;
• The full spirit and objectives of their venture may not be capable of being expressed exhaustively in a written contract;
• There will be trust and confidence in one another, but different to that involved in a fiduciary relationship;
• A requirement for a high degree of communication, co-operation and predictable performance based on mutual trust and confidence and expectations of loyalty;
• A degree of significant financial commitment to the relationship by one or both parties;
• The relationship may be exclusive.

This list was not deemed exhaustive and no single characteristic was considered conclusive except that an express term in the contract that excludes the duty to act in good faith, would override all other findings.

There is still a long way to go before we reach the European standard of good faith, however it seems that the English courts might be moving in that direction. However, it is still advisable to presume no duty of good faith will be presumed unless expressly in the contract – and even then only if clear and sufficiently certain.