The Law Commission

---

You are here: BAILII >> Databases >> The Law Commission >> Privity of Contract: Contracts for the Benefit of Third Parties [1996] EWLC 242(10) (31 July 1996)
URL: http://www.bailii.org/ew/other/EWLC/1996/242(10).html
Cite as: [1996] EWLC 242(10)

---

[New search] [Help]

---

PART X

Defences, Set-offs and Counterclaims

1. Introduction

10.1 In the Consultation Paper, we provisionally recommended that the rights of the third party against the promisor should be subject to the promisor's defences, set-offs and counterclaims which would have been available to the promisor in an action by the promisee. (1) But we invited views on the scope of the defences, set-offs and counterclaims that should be relevant and, in particular, on whether, in the case of a set-off or counterclaim, a promisor may only rely on matters arising from the contract in which the promise is contained or may also set up against the third party set-offs and counterclaims arising out of other relations between the promisor and the promisee. (2)

10.2 There are always problems in the law of obligations in defining what constitutes a defence. For these purposes, however, we use the term to refer essentially to matters which affect the existence, validity and enforceability of the whole contract or of the particular provision benefiting the third party. We therefore include as defences matters which render the contract void (for example, fundamental mistake) or voidable (for example, the promisee's misrepresentation, duress or undue influence) or that have led to the contract being discharged (for example, frustration or serious breach by the promisee). Similarly we treat as a defence the failure of a condition which was the basis for the promise to benefit the third party. (3) In contrast, we do not include as defences matters which bar a particular remedy such as that specific performance is not available of a contract for personal service. The normal rules relating to remedies are applicable to the third party's action in line with recommendation 2 above and we do not think that all restrictions on the promisee's remedies (for example, that the promisee is guilty of laches so as to rule out specific performance or that the promisee has failed in its duty to mitigate its loss) should carry across to bar or restrict automatically the third party's remedy. Nor do we regard as defences, procedural restrictions on the enforcement of the contract such as arbitration clauses (unless of the Scott v Avery (4) type) or jurisdiction clauses. We also exclude from the notion of defences variation or cancellation by the contracting parties: that form of "defence" has been discussed in Part IX above and is subject to a separate regime which seeks to restrict the rights of the original contracting parties to change their minds once the third party has relied on or accepted the promise.

10.3 There is also some difficulty in certain contexts in distinguishing set-offs and counterclaims. Nowadays both constitute cross-claims for monetary remedies, whether the cross-claim is for a debt or liquidated damages or unliquidated damages. However, a set-off may be narrower in that it appears that sometimes the set-off must arise out of the same transaction as the plaintiff's claim, whereas the only limitation on pleading a counterclaim is that trial of both the claim and counterclaim will not "embarrass or delay the trial or [be] otherwise inconvenient." (5) A set-off is also narrower in that it cannot exceed the amount of the plaintiff's claim and, in effect therefore, operates as a defence.

10.4 There can be little doubt that defences going to the existence, validity and enforceability of the whole contract, or of the particular contractual provision being enforced by the third party, should be of equal relevance whether the promisee or the third party is suing. If the promise was induced by the fraud or undue influence of the promisee, or has been discharged by reason of the promisee's repudiatory breach or by reason of the doctrine of frustration, or was given subject to a condition that has not been fulfilled, the third party should have no greater rights to enforce it than would the promisee. The third party would otherwise clearly be getting something that it was never truly intended to have. Not surprisingly, there was little dissent from this on consultation. (6) However, the position in respect of set-offs and counterclaims is less straightforward.

2. Precedents for Reform

(1) Law Revision Committee/Western Australia/Queensland

10.5 The Law Revision Committee's Report accepted the proposition that the third party's right should be subject to all defences which would have been available against the promisee. (7) This consequently formed part of the amendments to the law effected in Western Australia (8) and in Queensland. (9) It is noteworthy that neither the Law Revision Committee, nor the Western Australian nor Queensland draftsmen, specifically mentioned set-offs or counterclaims within their recommendations or provisions. (10) While it may be that the term "defences" was intended to include set- offs, it cannot be taken to include counterclaims.

(2) United States

10.6 The Second Restatement (11) provides that a contract which is voidable or unenforceable at the time of its formation can create no superior right in a third party, and that where a contract "ceases to be binding in whole or in part because of impracticability, public policy, non-occurrence of a condition, or present or prospective failure of performance, the right of any beneficiary is to that extent discharged or modified". Thus, the third party's claim is subject to such factors as lack of formation or of consideration, lack of capacity on the part of the contracting parties, fraud or mistake, as tending to vitiate the contract itself; and to any limitations or conditions imposed on the third party's right by the terms of the contract or by the general law. (12) However, it appears that matters arising from other transactions between the promisor and the promisee are not relevant to the third party's claim unless the contract says so.

(3) New Zealand

10.7 The New Zealand Contracts (Privity) Act 1982, section 9(2), (13) provides that,

[T]he promisor shall have available to him, by way of defence, counterclaim, set-off, or otherwise, any matter which would have been available to him...(b) If (i) The beneficiary were the promisee; and (ii) The promise to which the proceedings relate had been made for the benefit of the promisee; and (iii) The proceedings had been brought by the promisee.

The formulation is, however, limited by section 9(3) of the Act, which permits a set- off or counterclaim only where this "arises out of or in connection with (14) the deed or contract in which the promise is contained".

3. Options for Reform

10.8 Although we did not specifically address the matter in this way in the Consultation Paper, we now believe that it is helpful to recognise that there are three main possible options as to the scope of the relevant defences, set-offs or counterclaims. First, a third party's claim could be subject only to defences affecting the existence or validity of the contract or the particular contractual provision purporting to benefit the third party. Other defences, set-offs and counterclaims available against the promisee would not be available against the third party. Secondly, the third party's claim could be subject to defences, set-offs or counterclaims, which arise from or in connection with the contract and which would have been available in an action brought by the promisee. This is the option that was essentially favoured in New Zealand. (15) Thirdly, the third party's claim could be subject to all defences, set-offs or counterclaims which would have been available in an action brought by the promisee.

10.9 We believe that, of these, the first and third are respectively too narrow and too wide. The third is too wide given that the third party is not simply stepping into the shoes of the promisee. Moreover, it would be extremely difficult for the third party to discover the whole range of counterclaims that the promisor had against the promisee. The first seems too narrow given that the third party's right derives from the contract. It would prevent the promisor raising any set-off or analogous defence. If B sells goods to A and the contract price is to be paid to C, and B in breach of warranty delivers goods that are not of the standard contracted for, it would seem that, just as in an action for the price by B, so in an action by C, A should be entitled to set up the damages for breach of warranty in diminution or extinction of the price. (16) Again if B induces A to make the promise to benefit C by a fraudulent or negligent misrepresentation, and yet A cannot, or does not wish to, rescind the contract, it would seem that A ought to be able to set off damages for the misrepresentation against a claim by C. Admittedly, to ignore set-offs would still enable the promisor to bring a claim against the promisee. But bringing a claim may be less advantageous than being able to rely on a set-off; apart from the costs the promisor would be seriously prejudiced if the promisee became insolvent.

10.10 In substance, we therefore prefer the second of the three options (that is, the New Zealand approach), which was also the option favoured by the majority of consultees. However, we consider it misleading and unnecessarily complex to include a reference to counterclaims as well as to set-offs. In New Zealand, the inclusion of counterclaims was thought to necessitate section 9(4) of the New Zealand Contracts (Privity) Act 1982, which lays down that: "(a) The beneficiary shall not be liable on the counterclaim, unless the beneficiary elects, with full knowledge of the counterclaim, to proceed with his claim against the promisor; and (b) If the beneficiary so elects to proceed, his liability on the counterclaim shall not in any event exceed the value of the benefit conferred on him by the promise". While we would not have thought section 9(4)(a) to be necessary, a clause along the lines of section 9(4)(b) seems essential if counterclaims are included. (17) In other words, if one includes counterclaims, one needs a separate clause clarifying that there is no question of the third party being liable to the extent that the counterclaim exceeds the value of the benefit received by the third party under his claim. There would otherwise be an infringement of the principle that reform of the third party rule is intended to enable the enforcement of benefits by third parties, not to impose burdens. A reference to set-offs only would avoid the need for such an additional clause. Moreover, as one is concerned only with set-offs or counterclaims that arise out of or in connection with the contract, it is difficult to see that the wider scope of counterclaims as opposed to set-offs would be relevant. We are also concerned that the reference to counterclaims - even if of lower value than the third party's claim - implies that the third party can be sued by the promisor for breach of an obligation under the contract. In other words, it is not obvious to us that one can allow the promisor to raise counterclaims while at the same time denying that the promisor can raise the same issues in a separate action against the third party. While it has been suggested to us that to exclude counterclaims might encourage an argument (even though fallacious) by a third party that he or she is not caught by a cross-claim of the promisor's because the cross-claim is a counterclaim and not a set-off, we think that the risks of a misunderstanding of our proposed reform are far greater if one includes counterclaims than if one excludes them.

10.11 We have further departed slightly from the New Zealand approach (18) to the extent that we think it casts the net too wide to include all defences and set-offs "arising out of or in connection with the contract". For where the third party is seeking to enforce a particular contractual provision, rather than the whole contract, it would seem that the defence or set-off should have to be relevant to the particular contractual provision. Otherwise a defence or set-off relating to an entirely separate clause, having no direct relevance to the particular contractual provision being enforced, could be used as a defence or set-off to the third party's claim. For example, if C seeks to enforce a payment obligation to him contained in, say, clause 20 of a construction contract between A and B, C's right should not be limited by a defence or set-off that A has against B in respect of, say, clause 5 which has nothing to do with clause 20.

10.12 We therefore recommend that:

(21)the third party's claim should be subject to all defences and set-offs that would have been available to the promisor in an action by the promisee and which arise out of or in connection with the contract or, insofar as a particular contractual provision is being enforced by the third party, which arise out of or in connection with the contract and are relevant to that contractual provision. (Draft Bill, clause 3(2) and 7(2)(b))

10.13 It was pointed out that allowing the promisor to raise defences (or set-offs or counterclaims) might have serious implications for the third party. For example, one of the advantages of reforming the third party rule is said to be to enable the original parties to a construction contract to grant subsequent owners or occupiers of the building contractual rights to repair of the premises, without the need for collateral warranties to be given to each owner or occupier. But the rights of, say, a subsequent owner, would be diminished if they could be met by a defence that the contractor had against the employer. The defence might be quite unknown to the subsequent owner.

10.14 A similar problem might arise in the context of insurance. A head-contractor might take out a policy to cover itself and all sub-contractors working on a project. If the insurance company could use a defence available against the head-contractor as a defence to an action brought by the sub-contractor, the sub-contractor's claim might be defeated on the ground of, for example, misrepresentation or non-disclosure by the contractor (perhaps even in relation to a quite different aspect of the contract). This would make the insurance cover conferred on the sub-contractor unreliable.

10.15 We accept that the third party's rights may be limited in this way. At root this is the consequence of the third party's rights deriving from the contract between the promisor and the promisee; and, in our view, to require, for example, the promisor to notify the third party of defences and set-offs would place an unfair burden on the promisor. (19) Our preference for the second of the above options reduces the risk for the third party, as against the third option. Moreover, if the contracting parties so wish, they can reduce the potential uncertainty for the third party, by including an express term in the contract to the effect that the promisor may not raise any defence or set-off that would be available against the promisee. (20) Conversely, and following the same logic of affording primacy to the contracting parties' intentions, we would also accept that the parties should be able to limit the value of the benefit to the third party by agreeing expressly that the third party's benefit is to be subject to all defences and set-offs that the promisor would have had against the promisee (that is, not just those that arise out of or in connection with the contract or, where a particular contractual provision is being enforced, that are relevant to that contractual provision). (21) The third party can only be entitled to what the contracting parties have agreed it should be entitled to.

10.16 We therefore recommend that:

(22)the contracting parties may include an express provision to the effect that the promisor may not raise any defence or set-off that would have been available against the promisee; conversely, the parties may include an express provision to the effect that the third party's claim is subject to all defences and set-offs that the promisor would have had against the promisee. (Draft Bill, clause 3(3))

4. Defences, Set-Offs and Counterclaims Available Only Against the Third Party

10.17 In the above discussion, as in the Consultation Paper, it has been assumed that the question at issue is whether a defence, set-off or counterclaim, that was available to the promisor against the promisee, should also be made available in an action by the third party. However, a number of consultees pointed out that a question also arises as to whether the promisor can raise any defences, set-offs or counterclaims that are specific to the third party alone and would not have been available to the promisor in an action by the promisee. For example, a tenant who is entitled to the benefit of a promise by the contractor to repair the premises might already owe the same firm money for alterations previously carried out to the premises. Similarly the contract between the promisor and the promisee may have been induced by a misrepresentation to the promisor, or undue influence exerted against the promisor, by the third party of which the promisee had no notice. (22) Consultees suggested that the promisor should be entitled to rely on such defences, set-offs and counterclaims. We agree and, although we have had some doubts as to whether a specific legislative provision on this is necessary - or whether, on the contrary, the standard rules on defences, set-offs and counterclaims would inevitably be applied to the third party's action in any event - we have ultimately decided that a clarificatory provision would be preferable. (23)

10.18 We should also emphasise that there is no objection here to including counterclaims. To include counterclaims would not infringe the principle that contractual burdens should not be imposed on the third party because what one here has in mind are independent claims that the promisor would, in any event, have had against the third party (for example, tort damages for a fraudulent or negligent misstatement by the third party inducing the contract). However, to avoid any possibility of our reform leading to a contractual burden being imposed on the third party, one must confine the counterclaims to those that do not arise from the contract.

10.19 We therefore recommend that:

(23) it should be made clear that, in addition to the third party's claim being subject to defences and set-offs that the promisor would have had available in an action by the promisee, the third party's claim is also to be subject to the defences, counterclaims (not arising from the contract) and set-offs that would have been available to the promisor had the third party been a party to the contract. (24) (Draft Bill, clause 3(4))

10.20 Similarly to recommendation (22), we consider that recommendation (23) should be subject to an express provision in the contract by which the contracting parties lay down that the third party's claim shall not be subject to defences, counterclaims (not arising from the contract), and set-offs that would otherwise have been available against the third party. (25) But we would not wish to allow the contracting parties to widen the range of counterclaims available against the third party as this might lead to the imposition of burdens. And in this context there can be no question of the contracting parties expanding the range of defences or set-offs because the promisor is already entitled to all the defences or set-offs that would independently have been available against the third party.

10.21 We therefore recommend that:

(24)the contracting parties may include an express provision to the effect that the promisor may not raise any defence, set-off or counterclaim that would have been available to the promisor had the third party been a party to the contract. (Draft Bill, clause 3(5))

5.Thirty Party Enforcing an Exclusion or Limitation Clause

10.22 An analogous approach to that put forward in recommendations 21 and 23 above should apply where the third party seeks to enforce an exclusion or limitation clause in a claim (for example, in tort) that is brought against him by the promisor. That is, the third party should not be able to rely on an exclusion or limitation clause if it was invalid as between the contracting parties (for example, because induced by the promisee's fraud, duress or undue influence or because it falls foul of the Unfair Contract Terms Act 1977); or where the third party's own conduct (for example, fraud by the third party not known about by the promisee) renders the clause unenforceable by the third party. Yet in respect of exclusion and limitation clauses (and conceivably analogous types of clause) it is inappropriate to talk of defences available to the promisor. It seems preferable, therefore, to have a separate provision to the effect that the third party can only rely on the exclusion or limitation clause to the extent that he could have done so had he been a party to the contract (where this phrase means to include matters that affect the validity of the exclusion clause as between the contracting parties as well as matters affecting validity or enforceability that relate only to the third party). (26)

10.23 We therefore recommend that:

(25)where the third party seeks to rely on the test of enforceability to enforce an exclusion or limitation clause (or conceivably an analogous type of clause) he may do so only to the extent that he could have done so had he been a party to the contract (where the phrase ?had he been a party to the contract' means to refer to matters that affect the validity of the clause as between the contracting parties as well as matters affecting validity or enforceability that relate only to the third party). (Draft Bill, clause 3(6))

6. The Line Between Benefits and Burdens

10.24 As was explained in paragraph 2.1 above, our recommended reforms, in line with the provisional view in the Consultation Paper, (27) do not seek to change the present rule, or the exceptions to it, whereby parties cannot impose an obligation upon a third party. However, we went on in the Consultation Paper to explain that it was also our provisional view - and there was no dissent from this by consultees - that the contracting parties may impose conditions upon the enjoyment of any benefit by the third party. (28) If the third party took a benefit that was qualified or conditional but could ignore the qualification or condition, it would be getting something it was never intended to have. Although we wish to confirm our provisional view, this issue of conditional benefits is not entirely straightforward.

10.25 There is a distinction between imposing a burden on the third party and conferring a conditional benefit upon him. The distinction is an easy one to draw where the condition does not require performance by the third party. For example, a benefit which is made conditional on the third party reaching a certain age clearly imposes no burden on the third party. If the third party sued for breach of contract before reaching the specified age, its claim would fail on the basis that there had been no breach because the condition for the promisor's performance had not occurred. Alternatively, one can say that the promisor would have a defence in line with recommendations (21) or (23) above.

10.26 Drawing the distinction is, perhaps, more difficult where the condition requires performance by the third party. (29) Take, for example, a contract between A and B in which A agrees to grant a right of way over its land to C on condition that C keeps it in repair. If C satisfies the test of enforceability, to what extent, if at all, is C bound by the repairing obligation? (30)

10.27 Our view is that C is ?bound' by the condition (the repairing obligation) in the very limited sense that A can use that condition as the basis of a defence or set-off to a claim by C to enforce the contract. In contrast, C would not be bound by the condition (the repairing obligation) in the sense that C can be sued for breach of that repairing obligation: that is, A cannot bring a claim or counterclaim against C for breach of contract. So where C fails to keep the right of way in repair, A would be entitled to withdraw that right (for example, by blocking it off) and would have a defence to any action by C for withdrawal of the right of way. In contrast if A sued C for breach of the repairing obligation that claim would fail because a third party cannot have burdens imposed on it by a contract to which it is not a party.

10.28 We recognise that the approach we are here taking constitutes a narrow view of the extent to which a person who takes a benefit must also take the burden. But our narrow approach is based on avoiding the possibility of the third party being overall worse off (unless bound by, for example, a contract or trust) by being given the right to enforce, and enforcing, a contract to which he was not a party. If conditions attached to the benefit are to be independently enforceable against the third party, rather than merely providing a defence or set-off to an action by him, it would be necessary for the third party to have undertaken to abide by those conditions: that is, it would be necessary for the ?third party' to be in a contractual relationship with the promisor. (31)

10.29 A useful, if not exact, analogy can be drawn between our willingness to permit the conferral of conditional benefits but not the imposition of burdens, and the law of assignment. One contracting party may not assign the burden of a contract to a third party. (32) Where, however, rights are assigned, the extent of the rights assigned are defined by the contract. Thus an exemption clause which is construed as defining the limits of the assignor's rights will be binding on an assignee. (33) Similarly, the assignment of a conditional benefit may require satisfaction of the condition if the remainder of the right assigned is to be enjoyed: the restrictions or qualifications may be an integral part of the right which the assignee must take as it stands. (34) However, it should be noted that a difference between our reform and assignment is that the assignor would normally be liable for breach of the conditions attached to the benefit assigned. In contrast, where a conditional benefit is conferred on a third party it is unlikely that the promisee will have guaranteed or contracted to procure the third party's performance of the condition.

10.30 A very important example of a condition being attached to the benefit enforceable by the third party (C) is where in the contract between A and B benefiting C, there is a clause excluding or limiting A's liability to C. C's right to enforce A's promise under our proposed Act must be subject to the exclusion or limitation clause.

10.31 We also think it important to clarify that the relevant condition may be that the promisee does not choose to exercise a discretion given to him to divert the benefit from the third party. Say, for example, A contracts with B to deliver goods to C or as B shall direct. (35) Assuming that C can satisfy the test of enforceability, it is plain that C's right is conditional on B not choosing to divert the goods to someone else. If B directs A to deliver to D instead of to C, C cannot sue A for non-delivery: that is, A can raise against C the defence that A would have had against an action by B for non- delivery to C.

10.32 Therefore we recommend that:

(26)the present general rule whereby parties to a contract cannot impose burdens upon third parties should be retained, although they may impose conditions upon the enjoyment of any benefits by them. The distinction between imposing burdens and conditional benefits (and hence the line between what falls outside our reform and what falls within it) depends on whether the condition is the basis merely of a defence or set-off to the third party's claim or whether, on the contrary, the condition is the basis of a claim or counterclaim by the promisor against the third party. This recommendation therefore ties in with recommendations (21) and (23) above and no further legislative provision is required.

---

Footnotes to Part X

(1)Consultation Paper No 121 paras 5.24 to 5.25, 6.10. We pointed out in para 5.24 that our provisional recommendation is analogous to the rule that the assignee of a chose in action takes the benefit of it "subject to equities". See Chitty on Contracts (27th ed, 1994) paras 19-039 to 19-040. We also provisionally recommended, at paras 5.16 and 6.5, that rights created against a contracting party should be governed by the contract and be valid only to the extent that it is valid, and may be conditional upon the other contracting party performing its obligations under it.

(2)Ibid.

(3)Alternatively one can say that the promised benefit is a conditional one, and where the condition is not fulfilled, the promise does not apply: see paras 10.24-10.32 below.

(4)(1856) 5 HL Cas 811; 10 ER 1121. See para 14.17, note 23, below.

(5)RSC, O 15, r 5. See also 0 15, rr 2-5 and Commentary; O 18, r 17.

(6)The contrary argument was put by some consultees who argued that the third party's right was a direct, not a derivative, one, so that only defences relevant to the third party's own conduct should be available to the promisor.

(7)7 Law Revision Committee, Sixth Interim Report (1937) para 47: "...the promisor should be entitled to raise against the third party any defence, such as fraud or mistake, that would have been valid against the promisee".

(8)8 Western Australian Property Law Act 1969, s 11(2)(a): "...all defences that would have been available to the defendant in an action or proceeding in a court of competent jurisdiction to enforce the contract had the plaintiff in the action or proceeding been named as a party to the contract shall be so available".

(9)9 Queensland Property Law Act 1974, s 55(4): "...any matter which would in proceedings not brought in reliance on this section render a promise void, voidable or unenforceable, whether wholly or in part, or which in proceedings (not brought in reliance on this section) to enforce a promissory duty arising from a promise is available by way of defence shall, in like manner and to the like extent, render void, voidable or unenforceable or be available by way of defence in proceedings for the enforcement of a duty to which this section gives effect".

(10)10See similarly, H McGregor, Contract Code drawn up on behalf of the English Law Commission, (1993) s 641, pp 286-7.

(11)Restatement (2d) Contracts, § 309.

(12)Corbin on Contracts, (1951 with supplements) vol 4 para 818. Vol 4 pp 266-273 instances lack of consideration, illegality, lack of capacity, fraud, mistake, lack of formality and non compliance with any requisite condition as "facts that affect the contract in its formation, operating to determine the primary legal relations of the parties". A third party's rights would be limited by such facts.

(13)13See New Zealand Contracts and Commercial Law Reform Committee, Privity of Contract (1981) para 8.2.6. and Appendix, p 75.

(14)14We understand that the words "in connection with" were added in order to safeguard the promisor's remedies in respect of misrepresentation inducing the contract.

(15)See also Manitoba Law Reform Commission, Privity of Contract (1993) pp 63-64 and 77. Having stated that "[t]hird party rights are essentially derivative and not independent and direct" the Commission recommended following the approach in the New Zealand Contracts (Privity) Act 1982 (but without the equivalent of s 9(4)(b): see para 10.10 note 17 below).

(16)Strictly speaking, the right to set up damages in diminution or extinction of the price is not a set- off (see Mondel v Steel (1841) 8 M & W 858; 151 ER 1288) although it is a defence.

(17)The draft Bill attached to the Report of the New Zealand Contracts and Commercial Law Reform Committee had no equivalent to s 9(4)(b). In a mirror image to our thinking, the Manitoban Law Reform Commission, Privity of Contract (1993) p 63 recommended the equivalent of s 9(4)(a) without s 9(4)(b).

(18)Note also that s 9(3) of the Contracts (Privity) Act 1982 applies the restriction "arising out of or in connection with the contract" to set-offs and counterclaims but not to defences. While it would seem to be the case that a defence which could be raised by the promisor against the promisee must inevitably ?arise out of or in connection with the contract' we have decided that it is marginally preferable to apply that restriction to both defences and set-offs. In particular, we would not wish to leave any room for an argument that what one may loosely call a ?set-off' is, strictly speaking, a defence not a set-off and therefore falls outside the restriction. For a case in which technical distinctions between defences and set-offs were raised, see Henriksens Rederi A/S v THZ Rolimpex, The Brede [1974] QB 233.

(19)This is supported by the fact that the third party, as a volunteer, cannot be a bona fide purchaser without notice.

(20)A hypothetical illustration may here be useful. Say B agrees with A, who is an art dealer, to purchase a painting as a gift for C, his niece. A and B expressly confer a right of enforceability on C for non-delivery. B owes A considerable sums for other art works purchased. B wishes to ensure that the transaction in C's favour is not affected by this fact. A and B expressly agree that A may only raise against C defences and set-offs that would have been available independently against her. We also here have in mind where A excludes his liability to B but expressly indicates that the exclusion is not to apply to C. Clearly we do not want recommendation 21 to mean that A can ignore the express indication and raise the exclusion against C.

(21)The following hypothetical illustration may be helpful. Say A and B agree that A will pay C if B transfers his car to A. B owes A substantial sums of money from the collapse of B's business. A's claims against B do not arise from or in connection with the contract for the transfer of the car. Nevertheless A procures B's agreement to an express clause which entitles A to raise against a claim by C any matter which would have given him a defence or set-off to a claim by B.

(22)Cf Barclays Bank plc v O'Brien [1994] 1 AC 180 which establishes that a contracting party (A) will only be able to set aside a contract that he has been induced to enter into by the undue influence or misrepresentation of a third party (C) if the other contracting party (B) had actual or constructive notice of the undue influence or misrepresentation or if the third party was acting as agent for B.

(23)Section 9(2)(a) of the New Zealand Contracts (Privity) Act 1982 is directed to this point.

(24)We have had some concern as to whether this recommendation achieves our desired result of preventing the third party enforcing the contract in the situation where the contract between the promisor and the promisee has been induced by a misrepresentation to the promisor, or undue influence exerted against the promisor, by the third party, of which the promisee had no notice. Had the third party been a party to the contract, would the promisor have been able to rescind the contract so as to have had a defence to his claim? We have been unable to find any authority on the question whether in multi-party contracts, the misrepresentation or undue influence of any of the parties to the contract entitles the promisor to rescind the contract so as not to be bound to perform the promise: cf Treitel, The Law of Contract (9th ed, 1995) p 531. But we tend to think that, even if the whole contract cannot be rescinded, (and note that TSB Bank plc v Camfield [1995] 1 WLR 430 rules out rescission on terms) the promisor does have a defence to a claim brought by a misrepresentor or a person who has exerted undue influence: see Treitel, The Law of Contract (9th ed, 1995) pp 342, 344-345.

(25)The following hypothetical illustration may be helpful. A agrees with B to pay £5000 to C if B will transfer a number of cases of vintage wine to A. C is a creditor of B's. C is also the local garage owner and B is aware that A and C have recently had a disagreement about the quality of repairs done to A's car by C. B is concerned that A may seek to withhold part of the benefit destined for C by raising a counterclaim against C for the damage to his car. Consequently A and B include an express provision that A may raise no defences, set-offs or counterclaims of any nature whatever against a claim by C to enforce A's contractual obligation to pay the £5000.

(26)One cannot simply use the formulation that ?the third party may rely on the clause only to the extent that the promisee could have done so' because, for example, this would render unenforceable by the third party an exclusion clause in A's contract with B which excludes C's (but not B's) liability in tort to A.

(27)Consultation Paper No 121, paras 5.36 and 6.17.

(28)28Ibid.

(29)29We are here assuming that there is no contract between the third party and the promisor. The courts may find that terms conferring a conditional benefit on a third party actually give rise to a collateral contract between the third party and the promisor. For this to be the case, the term conferring the benefit would have to be construed as an offer made by the promisor to the third party, and the third party would have to accept this. So, for example, if A promises B to loan C £1000 provided C repays £1000 to A after a year, we would regard C's right of enforceability as normally being subject to C undertaking to repay the £1000 to A: that is, there would normally need to be a contract between A and C before C has rights (and duties). But if there is no contract between A and C, A would, in any event, normally have a restitutionary claim against C to recover the money paid on the basis of failure of consideration: see P Birks, An Introduction to the Law of Restitution (revised ed, 1989) chapter 7, esp pp 222-226; A Burrows, The Law of Restitution (1993) chapter 9, esp pp 251-253, 320-321.

(30)30Another useful example is where a warranty, given by a construction company to a subsequent owner of the building, is subject to conditions as to inspection and maintenance by the occupier or to the payment of an annual fee to the construction company. A further example is a bank's undertaking to pay under a letter of credit against presentation of shipping documents. The beneficiary owes no duty to the bank to present anything but unless he does so he will not get paid.

(31)We are here assuming that none of the standard exceptions to the ?burden' aspect of privity is applicable: see para 2.1, note 5, above.

(32)32Tolhurst v Associated Portland Cement Manufacturers Ltd [1902] 2 KB 660, 668; Pan Ocean Shipping Co Ltd v Creditcorp Ltd [1994] 1 WLR 161. See also Chitty on Contracts (27th ed 1994) paras 19-043ff.

(33)33Britain & Overseas Trading (Bristles) Ltd v Brooks Wharf & Bull Wharf Ltd [1967] 2 Lloyd's Rep 51. See also Chitty on Contracts (27th ed 1994) para 19-044.

(34)34Tito v Waddell (No 2) [1977] Ch 106, 290, 302 per Megarry VC. It should be noted that after Rhone v Stephens [1994] 2 AC 310, the types of conditions which will be enforced will be strictly limited to those which are "relevant to the exercise of the right" (per Lord Templeman at p 322).

(35)For this sort of contract see, eg, Mitchell v Ede (1840) 11 Ad & El 888; 113 ER 651.