The Concept of Collateral Contract and Its Use in Australian Courts - Essay Example

The Concept of Collateral Contract and its use in Australian Courts Introduction In this essay, the concept of collateral contract, its application in Australian cases and limitations of the success of arguments based on the concept are discussed. In the first section, the concept of collateral contract is examined in depth. The basic definition of the concept, its characteristics and essence in the practice of contract law are presented. In the second section, circumstances under which the concept is applied in common law practice are examined. This information is based in the provisions of the parol evidence rule and the exceptions to the rule in interpreting written and oral statements in contracts. Finally, two limitations to the success of the concept of collateral contract are examined: consistency between the terms and the relationship between the main contract and the collateral one. The concept of collateral contract The concept of collateral contract can be defined as a contract in which the consideration for its making is based on another contract. In other words, a collateral contract is said to exist when a party’s entry into another main contract is based on consideration of the collateral contract (Gillies 2004, p. 214). This means that the doctrine of collateral contract is usually used to locate terms which are outside the main contract. This is so since, unlike the main contract which has to be made in the form of writing, a collateral contract only has to be in oral form for it to be considered in a court of law. It is important to note that since the collateral contract does not have to be made in writing, the contract is not affected by the formal restrictions that are applied on the main contract. Also, the concept of collateral contract operates in such a manner that the parol evidence rule is avoided. This is so because for the existence of the contract to be proven, the decision does not entirely depend on the written word. According to Stone (2013, p. 195), the essence of the concept of collateral contract arises from the observation that courts have been limited in their application for remedies for mere representation in the practice of common law. This has been the case because under common law, if a statement contained in a contract is proven to be misrepresentation, the only remedy that the court can award is to relieve the party of the contract of the obligation to continue with the terms of the contract. On the other hand, if it is established in a court of law that the statement in question is actually part of a collateral contract, then the court may award damages for breach of contract (Gillies 2004, p. 215). This contract is not available if the statement in question is regarded merely as being peripheral to the contract and not as part of a collateral contract. In De Lassale v Guildford,1 the plaintiff, who was the lessee, refused to hand over a written lease for a house that had been prepared and signed on condition that the defendant, who was the leasor, assured him that the drains were in good condition. The defendant made a statement to the effect that the drains in the house are in good order and that the plaintiff could take that statement as a guarantee. Upon this statement, the plaintiff agreed to hand over the copy of the signed lease which did not contain the oral statement about assurance of the condition of the drains. When the plaintiff later found that the drains were not in order, a case was filed in court. The court found that the defendant could be held liable for the breach of a collateral contract. In this case, it was held that the lease contract formed the main contract while the oral warranty by the defendant regarding the state of the drains together with the act of the plaintiff entering into the main contract by exchanging signed documents of the lease, amounted to a collateral contract. Three important aspects regarding the concept of collateral contracts arise from this case. The first one is that since the court considered that the oral assurance by the defendant on the state of the drains as the consideration for the plaintiff entering into the main contract represented by the lease, the court played the role of distinguishing cases involving mere representations on a subject on which a buyer in a contract is expected to have as much knowledge as the seller or the person offering the contract. The second one is that in practice, courts of law decide on the existence a collateral contract in the event of one party failing to enter the main contract unless particular promises are given or in the case that there is an oral promise that one of the terms contained in the written document of the contract will not be enforced (Stone 2013, p. 198). The third one is that a collateral contract is a completely separate contract that exists in addition to the main contract between the parties. In general, if the contract is made in writing, then the written terms of the contract are used as the basis for the contract. On the other hand, if additional statements are made in the formation of a contract and the statements are not only promissory but are also intended to induce the formation of the main contract, a collateral contract is then formed in addition to the principal one. When collateral contract is likely to be argued In practice, the argument based on the concept of collateral contract is used in circumstances when there is a verbal promise made by a party to the contract to the other party and that this promise has not been included in the written contract. Since the usage of the collateral contract argument is common in issues that arise from interpretation of both oral and written terms of a contract, the use of the parol evidence rule and its exceptions is an important aspect of the whole process. According to Blum (2007, p. 261), the parol evidence rule is based on the principle that when parties to a contract reduce their agreement to writing, the intention is that the written record is used entirely as the final version of the agreement made. This implies that the written record of the contract is interpreted to override any other agreements reached by the parties to the contract but not recorded. In practice, if a court of law finds that the final agreement of the parties to a contract is contained in a written record, none of the parties to the contract will be allowed to present testimonies or any other evidence of agreements reached upon by the parties that are not contained in the contract document. Although the parol evidence rule states that parties to a contract cannot introduce parol evidence that contradicts the written contract, there are several exceptions to this rule2. These are outlined as follows. The first scenario is if there is evidence for subsequent modification of a contract that may be admissible in a court of law. Although this is an exception to the rule, evidence of oral modification to the contract is not enforceable if the terms of the written contract state that any subsequent modifications must be done in writing (Emanuel 2006, p. 178). The second exception to the parol evidence rule is when a contract is void or voidable. In such circumstances, oral evidence may be admissible in a court of law if the evidence shows the existence of a fraud, mistake or misrepresentation in the making of the contract between the parties. In such circumstances, oral evidence to show that the contract is void or voidable is not excluded. Also, the parol rule is excepted in cases where a contract contains ambiguous terms or is incomplete (Blum 2007, p. 264). For contracts where the terms used are ambiguous, oral evidence may be accepted to give meaning to the ambiguous words. On the other hand, oral evidence may be admissible in a court of law to fill in incomplete terms of the contract. Lastly, the parol evidence rule may not be used in cases where the contract is subject to a condition that is orally agreed upon by the parties to the contract. The condition must be that the parties have agreed that its fulfilment is necessary for the enforcement of the entire contract. In essence, this is the situation that allows arguments based on the concept of collateral contract to be presented in a court of law. If the parties to a contract have exchanged an oral agreement on a promise that is a condition to the contract and the promised condition does not contradict the terms of the main or written contract, the court may allow oral evidence to prove the existence of the condition. In such a circumstance, the collateral contract argument is presented since there is proof that an oral condition made between the parties forms the basis for the main contract between the parties. Although the oral conditions do not modify the written terms of the contract, they determine the enforceability of the written terms of the contract, which form the main contract between the parties. Limitations upon its likelihood of success in Australian courts Generally, there are two major factors that limit the likelihood of arguments based on the concept of collateral contract to be successfully used in Australian courts. The first factor that may limit the success of this argument is the possibility of lack of consistency between the main contract and the collateral contract. According to Collins (2003, p. 313), there must be clear consistency between the collateral promise and the terms of the main contract. This factor was clearly established in Hoyt’s Pty Ltd v Spencer3. In this case, Spencer granted a sublease to Hoyt for a four-year term with a provision that stated that in the event of Hoyt wishing to terminate the contract before the expiry of the four-year period, he would be required to submit a written notice four weeks prior to the date. When Spencer gave such notice, Hoyt sued for breach of collateral contract. It was alleged that Hoyt entered into the sublease contract with Spencer on consideration of an oral promise by Spencer that that he would not give notice of terminating the contract before the expiry of the four-year period unless the need for termination was a result of the decision of the owner and was under the terms of the head lease of Spencer. In this case, it is important to note that Spencer had not given the notice for early termination of the contract based on the reason as stipulated in the alleged collateral contract. It was held that since this was the case, the action of the alleged breach of collateral contract was not granted by the court. This was so because there was inconsistency between the oral promise that was alleged by Hoyt that Spencer would give notice of the intention to terminate the contract on the condition that he was required to do so by the owner and the unqualified right of determination that was contained in the sublease agreement itself. From the decision of the court made in this case, it can be seen that there is need for collateral contracts to be consistent with the terms of main contract. Since the courts are hesitant about applying the concept of collateral contract, it is the duty of the party that is contending its existence to prove to the court that the alleged collateral contract does not only exist but also, is consistent with the terms of the main contract (Latimer 2012, p. 423). In the event that the court finds inconsistency between the collateral contract and the principal agreement, the action for breach of a collateral contract before the court fails. The second factor is whether the making of the collateral contract between the parties was the main reason as to why the person that the promise was made to entered into a contract with the other party that made the promise. The factor of the relationship between the two contracts is demonstrated in the form of the need for the court to establish that the main contract was made in consideration of the terms and promises that formed the collateral contract (Latimer 2012, p. 426). This means that for courts to accept arguments based on the concept of collateral contract, the plaintiff is required to establish two important things as follows. The first one is that the main or principal contract would not have been entered into if the statement that is alleged to have formed the collateral contract was not made. The second issue that needs to be established by the plaintiff is that the main contract was made in consideration of the promises that were made under the collateral contract. In JJ Savage & Sons Pty Ltd v Blakney,4 the two parties in the suit had entered into a contract that involved the sale and purchase of a cruiser. During negotiations for the sale and purchase of the cruiser, the vendor had indicated that the estimated speed of the cruiser that was the subject of the contract was 15 miles per hour. Although stated, this statement by the vendor was contained in the official documentation that formed the sale and purchase agreement. The buyer sued for breach of contract, arguing that the main contract, the sale of the cruiser, was based on the promise of the speed of the cruiser, thus forming a collateral agreement. The matter before the court was to establish whether a collateral contract had been formed between the two parties. It was held that there was not collateral contract between the two parties with regard to the promise about the speed of the cruiser. In determining this, the court stated that the use of the word, ‘estimate’ by the vendor was merely representational and could not be interpreted to have been used to create a promissory effect. Therefore, the statement by the vendor about the speed of the cruiser was intended to become a term in a collateral contract or in the main contract about the sale and purchase of a cruiser. Conclusion In conclusion, the concept of collateral contract finds application in the courts of law from the exception to the parole evidence rule. This exception allows courts to accept oral evidence in support of the existence of an oral promise between the parties upon which the terms of the main contract are based. Bibliography Blum, B A 2007, Contracts: Examples and Explanations, Aspen Publishers, New York. Collins, H 2003, The Law of Contract, Cambridge University Press, London. De Lassale v Guildford, [1901] 2 KB. 215 Emanuel, S I 2006, Contracts, Aspen Publishers, New York. Gillies, P 2004, Business Law, The Federation Press, Sydney. Hoyt’s Pty Ltd v Spencer, [1919] HCA 64 JJ Savage & Sons Pty Ltd v Blakney,[1970] 119 CLR 435 Latimer, P 2012, Australian Business Law, CCH, Sydney. Stone, R 2013, The Modern Law of Contract, Routledge, New York. Read More