COVID-19 and the Frustrated Contract Act

Article by Alexandra Luchenko, Keith Marlowe, Andrew Kavanagh and Sean Gallagher - Blake, Cassels & Graydon LLP

As of June 1, 2020, the Supreme Court of British Columbia has resumed some operations, and therefore businesses with operations in British Columbia should be aware of the Frustrated Contract Act (British Columbia) (Act). The Act is likely to become more significant because of the COVID-19 pandemic. Businesses with operations in Alberta and Ontario should also be aware that those provinces have virtually identical statues that share many similarities with the Act.

In this bulletin, we discuss the manner in which provincial legislation allocates losses arising from frustrated contracts in British Columbia, Alberta and Ontario.

FRUSTRATION

In the absence of a force majeure clause in a contract, a party may seek relief from its contractual obligations by claiming that performance of the contract has been frustrated. The common law doctrine of frustration may apply if, through no fault of the parties, an unforeseen event renders performance of the contract radically different from that which the parties had bargained. A party claiming frustration faces a high bar to prove that the contract has been frustrated. However, the unique circumstances presented by the COVID-19 pandemic may meet that bar in certain cases. Ultimately, the question of whether a contract has been frustrated will depend upon the nature of parties’ contractual obligations and the surrounding factual circumstances.

THE LEGISLATION

As a starting point, the Act applies to every contract made in British Columbia from which the parties to it are discharged by reason of the application of the doctrine of frustration. However, the Act does not apply to a very limited subset of contracts, including, for example, contracts of insurance. Further, the Act only applies if the contract in question contains no provision for the consequences of frustration.

Pursuant to the Act, a frustrated contract is severed into two parts: i) the part that has been frustrated and ii) the part that was wholly performed before performance of the contract was frustrated. If the portion of the contract that was wholly performed may be severed from the remainder of the contract, the wholly performed portion is treated as a separate, enforceable contract that is excluded from the applicability of the Act. The Act then applies only to the portions of the contract that were not wholly performed before the contract was frustrated.

Assuming that the Act applies to a given contract, the Act operates to relieve parties from their contractual obligations, except when non-performance of an obligation has given rise to a claim in damages for consequential loss. In those circumstances, the Act will not relieve that party from its contractual obligations, and a claim for damages can be pursued.

The Act then operates to allocate losses caused by the frustrating event as between the parties. To do this, the Act effectively creates two remedies. First, the party who has performed some of its contractual obligations can claim restitution against the other contracting party for expenses that the performing party has incurred in reliance upon the frustrated contract. Second, the party required to make restitution may equally allocate any loss of the value of benefits that it received pursuant to the frustrated contract as between the parties. In comparison, at common law, damages would generally be awarded to place the aggrieved party in the same position that it would have been in had the contract been performed.

The first remedy represents the foundation of the Act, which is that every party who has done something in the fulfillment of its contractual obligations is entitled to restitution from the other contracting party for the benefits created by its performance or partial performance of the contract. Importantly, that party is entitled to restitution, regardless of whether the other contracting party actually received the benefit of the performance or partial performance. As a simple example, in a contract for the sale of goods, if a seller has spent money to produce certain goods pursuant to the contract, the seller is entitled to restitution for the expenses it incurred to produce those goods, even if the buyer is unable to receive the goods because of the frustrating event.

However, the second remedy exists to avoid allocating losses too heavily in favour of one party where it would be inequitable to do so. If the frustrating event has caused a total or partial loss in value of the benefit, the Act equally apportions that loss as between the party required to make restitution and the one to whom restitution was to be made. To continue the former example, if the buyer has incurred its own costs in anticipation of receiving the goods, the buyer is entitled to set off 50 per cent of those costs against the amount payable to the seller.

The key difference between the Act and the legislative equivalents in Alberta—the Frustrated Contracts Act (Alberta)—and Ontario—the Frustrated Contracts Act (Ontario)—is that the Act permits recovery of expenses incurred in reliance on the frustrated contract, whereas the statutes in Alberta and Ontario do not. Similar to the Act, the statutes in Alberta and Ontario allocate the losses caused by the frustrating event as between the parties through the same two remedies outlined above. However, in Alberta and Ontario, each party’s recovery is limited to the value of the benefit that was actually provided to the other party, pursuant to the frustrated contract. As an additional continuation to the former example, in Alberta and Ontario, the seller would only be entitled to restitution for the expenses it incurred to produce the goods that the buyer actually received. Additionally, in Alberta and Ontario, the buyer would only be entitled to set off the costs associated with providing a benefit that was actually received by the seller.

In certain circumstances, the Act overrides the restitutionary scheme outlined above, and disentitles the performing party to the remedy of restitution. The Act does so if equity demands that the performing party itself should bear the risk of the loss, including, for example, when there is an implied term of the contract indicating such. Although a similar restitutionary scheme is provided in the Alberta and Ontario legislation, the statutes in those provinces do not disentitle the performing party from claiming restitution.

CONCLUSION

As businesses realize how the COVID-19 pandemic has affected performance of contractual obligations, regard should be given to the potential impact of the Act on the availability of contractual remedies. This legislation uniquely allocates losses caused by a contractually frustrating event between the parties in a manner that damages generally would not, and should be considered before pursuing pandemic-related litigation. This is especially the case for businesses with contracts with banks or other financial institutions, as those contracts are less likely to contain force majeure clauses, leaving relief from contractual performance to the doctrine of frustration. Although Courts in British Columbia, Alberta and Ontario have had very few opportunities to interpret the province’s legislation to date, that is likely to change as businesses may seek to rely on the pandemic as a frustrating event to relieve contractual performance.