Unconscionable exclusion clause in the Contract Act

Introduction

A contract is formed when one party makes an offer and the other party accepts the same, it completes when the party gives free consent that is also communicated to the offeror. There must be some external manifestation of that intent by speech, writing or other act. Such manifestation may be in the form of express words, written or spoken or may be signified through conduct.

The evolution of intervention of Courts to the validity of exclusion clauses were introduced in 1977 by the Unfair Contract Terms Act. The Act introduced the concept of reasonableness under the ‘exclusion clause’ that should be struck down.

Important clauses of contract [1]

In the article titled ‘What is a clause in a contract?’ the author has discussed about the significance of the clauses in a contract. A contract is a detailed document that contains several clauses and has binding effect in the eyes of law. Clauses are the terms and conditions in a contract that are written in a formal manner.

There are several clauses in a contract i.e. enforceability clause, limitation clause, indemnity clause, unconscionable contract etc. We may define clause as a specific provision that address a specific issue in a contract. It contains the rights, duties, limitations and privileges of parties.

Unconscionable clause

These are contracts that contain terms and conditions where one party to contract is favoured and harsh, unjust conditions are imposed on another party. According to the ‘doctrine of unconsionability’ parties entering to contract allows the invention of the Court in determining their contractual relations and to modify the agreement if necessary. This contract is used as a defense in situations where there is an arrangement between unreasonable terms of the contract and deficient bargaining.

Research questions

What is the test of unconscionable contract?

The first test of unconscionable contract is that one party to contract gains profit and the other is at lower footing. The second test is that one party is at poor bargaining power. The third test is that the contract seems to be unjust and unreasonable for one party to contract at the face of it. We may conclude that the best test to determine the unconscionability of a contract is find out that the clauses that are drafted in a contract are so one-sided in nature that shall oppress or unfairly dominate the other party.

Can a contract that is absolutely biased towards one party and is also morally wrong be legally enforced?

Before the existence of UCC[2], the Courts of equity and the common law Courts used to rely upon contractual content, intention of the parties, procedural details of making the contract to justify the implementation of the terms of contract. After UCC came into existence, the powers of Court enlarged and the intent behind existence of UCC is to allow the Courts of Law to avoid the enforceability of contracts that construe ostensibly unconscionable contracts or clauses that would result in unconscionable result.

According to the provisions[3] of UCC, the Court of Law has the power to refuse the enforcement of a contract or it may also declare some of the clauses or terms of the contract to be void that are unconscionable in nature. The intent behind the provision is to prevent the oppression and unfair surprise of one party by another. A contract should be unconscionable from the very beginning, the terms of the contract should be considered in the light of the purpose and effect of the contract.

According to a Scholar named Wertheimer the aim of UCC is to explicitly develop contemporary Doctrine of Unconscionability. If the Court of Law used to found that the contract contained ‘unconscionable clause’ then it used to declare the contract as invalid or used to declare rest of the clauses as valid except the unconscionable clause. If the parties wanted the enforceability of the contract then they had to convince the Court by providing evidence, commercial setting etc. that the said contract is not unconscionable in nature.

According to another Scholar, Austin Corbin who worked on analyzing various clauses of contract published his works in 1950. He presented a realistic approach to consider a contract as unconscionable. He stated that are certain criteria to decide whether or not a contract is unconscionable or not i.e. if the terms of the contract appears to be unfair according to business practices and if the contract is absolutely one-sided based in the light of commercial background.[4]

Another author named Arthur Leff, ‘substantive unconscionablity’ refers to one thing that is also recognized by Court of equity, that is the wronged party was at a lower or at no bargaining power at all and the terms of the contract are absolutely unreasonable.

Define ‘unconscionable contract’ with the help of some examples.

  1. We may cite an example here of unfair practices in an unconscionable contract that is extremely low rates of currency exchange.
  2. Another example we may take is of very high rate of loan interest that other party is bound to pay while entering into a contract.
  3. There may be an instance where there is a grossly inadequate clause in the contract in terms of consideration on one hand and performance of party on the other hand.

‘X’ the defendant dealer and ‘Y’ the defendant manufacturer denied their liability for an injury caused to ‘Z’ the plaintiff due to a defective automobile. The reason of denial of liability was that the contract contained a disclaimer in a very small print that defendants would have no implied warranty, including of merchantability. Whether the contract is valid in the eyes of law?[5]

The instant problem is similar to the facts of the Henningsen’s Case Law, it is the duty of the judiciary is to administer the spirit and letters of the law. The intent of declaring a contract as unconscionable is to prevent a party from gross loss and to protect his rights. The status of automobile companies is always unique and manufacturers are few in numbers, who always have a very strong bargaining position.

While discussing the issue of warranty on the sale of products the automobile manufacturers have an upper foot and the purchaser is not in a position to bargain or negotiate on the subject. As the capacity of purchaser to bargain is grossly unequal, the inexorable conclusion of the contract follows the pattern that he has no capacity to negotiate at all. Furthermore, the purchaser is not bound to enter into the contract and has the liberty to take it or leave it.

The purpose of law is to protect the ability of purchasers and manufacturers to agree to qualified warranties and the law does not intent at all to permit the manufacturers/ sellers that also includes the automobile manufacturers to shy away from their liabilities and to impose on the purchaser by exploitation of their power to bargain.

While concluding on the instant matter, it can be said that the terms of the contract related to disclaimer of implied warranty must be invalidated as a matter of law and the same must be given the status of unfair procurement of the disclaimer. Hence, in the given situation the disclaimer may be avoided where by the other clauses of the contract must be held to be in existence. It shall also make the defendants liable to compensate the plaintiff.  

What are the duties of counter-party while entering into an unconscionable contract?

Parties should be careful while reviewing counterparty’s document that is incorporated by reference into a contract. The terms and conditions of an unconscionable contract may be modified to extend the scope of the agreement. The modification may contain the ambit of party’s rights/ obligations under the main contract, it may also contain an exclusion clause that shall either exclude or limit the liability.

Can Courts intervene in implementation of unconscionable contract?

Yes, Court has the powers to enforce terms in an unconscionable contract expressly incorporated by reference, irrespective of the facts whether or not the counterparty has read the terms of the conditions or not.

Courts may avoid the restoration of clauses of the contract on the grounds of being against public policy and against the standards of legislative intent. The Courts may declare a contract void on the ground of its’ being contrary to public policy. Principle behind declaring the contract void is that a person cannot be allowed to do anything that injures society as a whole.[6]

In Röhlig Ltd. Case[7]– A new direction to analyze the unconscionable clause is taken into consideration, no set-off or time bar clause should be there in a commercial contract.

Contract Unconscionability in India

Indian Law does not define the expression ‘unconscionability contract’ and there have been many debates regarding the same. According to 103rd and 199th report of the Law Commission of India, there should be changes in the present legal system that should ensure to protect the citizens of India against unconscionable contracts. To understand the Doctrine of Unconscionability we must take a look at the legal provisions of Indian Contract Act.

As per the provisions of the Contract Act[8], a contract that is based on undue influence whereby one party to contract has the dominating power over another party. Such contract is voidable in nature at the option of the party that is being dominated.[9] Further, the agreement is considered to be void if its’ object is immoral, fraudulent and against public policy.[10]

In Central Inland Water Transport Case, it was observed that a clause that provides termination of service of a permanent employee by serving a notice of 3 months on him is unreasonable and against public policy in nature and hence it is unconscionable.

Concluding remarks

In India, the position is that as far as the parties know about the terms of the contract containing an exclusion or limited liability clause it shall be enforced if the parties give consent to the same. The parties having equal bargaining and participation power in drafting of a contract cannot be considered as an unconscionable contract. Tests that are discussed above must be fulfilled to declare a contract as unconscionable.


[1] Justin Mc Cullough, What is a clause in a contract? https://www.jotform.com/blog/what-is-a-clause-in-a-contract, 3rd July, 2020

[2] Uniform Commercial Code

[3] Uniform Commercial Code, Sec. 2 to 302

[4] Volume No. One, Arthur Linton Corbin, Corbin on Contracts, 128 (1952)

[5] Henningsen v. Bloomfield Motors, (1960) 161 A.2d 69

[6] Murphy v. McNamara, (1979) 416 A.2d 170, 176-77

[7] Rohling (UK) Ltd. v. Rock Unique Ltd.  (2011) EWCA Civ. 18

[8] Indian Contract Act, Sec. 16

[9] Indian Contract Act, Sec. 19

[10] Indian Contract Act, Sec. 23

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