07 March 2012 Written by  Balew Mersha and Kahsay Debesu

Termination of contract

 

In addition to invalidation and cancellation, termination is also one way by which obligation is extinguished. Termination of contract is making the contract ineffective starting from the time of termination of the contract. This title discusses termination as one way of extinction of obligation. The overall meaning of termination, the difference between terminations on the one hand and invalidation and cancellation on the other hand will be discussed. Effect of termination in extinction along with its peculiar nature will also be discussed.

 

 

Types of terminations

 

Termination refers to the stoppage of obligations created by the contract. It ceases the existence of the obligations as of the time the contract is terminated. Termination of contract can be either, bilateral (by the agreement of both the contracting parties), unilateral by one party, or judicial ( by court order)

 

 

A) Bilateral termination

 

 

Bilateral termination refers to putting an end to a contractual obligation by the agreement of both parties. Article 1819 indicates the possibility of termination where the parties so agree. The connotation of this provision is that the parties may agree to terminate the contract mutually.

 

Agreement to terminate is, actually, a contract as a contract can be to extinguish obligation of proprietary nature. Termination of contract by agreement is in light with the definitional provision of Article 1675, which shows that agreement to extinguish obligation of proprietary nature is a contract.

 

Termination of contract by agreement can be made in two ways. The parties may effect termination pursuant to their contract provided that they have inserted such termination clause in their contract or agreed later. The termination clause may also entitle one of the parties the power of termination unilaterally. It may also put a condition upon the fulfillment of which the contract is terminated. Eventhough the parties might not agree in the contract about termination and its condition, they can also agree later to terminate the contract. Termination of contract by consent of the parties provided under Article 1919(1) includes all that are discussed above.

 

B) Unilateral termination

 

Unilateral termination is made either by the effect of agreement when such unilateral termination clause is provided in their contract and when a condition which entitles unilateral termination is fulfilled. Unilateral termination can also be made by giving notice in advance. The time of notice might be either fixed by law, by custom, or reasonably by the contractants

 

C) Judicial Termination

 

In addition to unilateral and bilateral cancellation, cancellation can also be made when one of the parties requires to that effect. Court termination is the principle and termination by the parties is an exception as parties shall not be judges on their own case.

 

Although termination extinguishes obligation, the way it extinguishes such obligation is different from the manner of extinction of obligation by invalidation and cancellation. Termination does not have retrospective effect; rather it has prospective effect. This means, extinction of contractual obligation by termination of contract works only in the forwarding direction from the time the contract is terminated regardless of its type.

 

We have seen termination which can be made by agreement either together in the contractual agreement in the contract or independently after the contract and without agreement unilaterally by either parties as well. Moreover, a contract can be terminated by the court, as it can be inferred from Article 1823 and 1824.

 

Article 1823_  Special relation between the parties

A party may apply to the court to order the termination for a contract, which requires a special confidence, cooperation, or community of views between the parties and where such requirements are no longer present.

 

If the previous confidence, cooperation or community of view that helps the continuity of the contract ceases, the contractual relationship might not be worthy upholding. In this connotation an application may be made to the court to that effect. The court has actually the discretion to the extent of identifying whether the requirement of special confidence, cooperation or community of view ceased or not.

 

In addition to the cessation of special relation between the parties, gratuitous contracts also entitle the party who has made such grant the power of having the contract terminated by requesting court order. Article 1824 has provided the above connotation as:

 

Art. 1824__ Gratuitous contracts.

The court may order the termination of a contract made for the exclusive advantage of one party where the other party for good causes so requires.

 

The provision has provided certain requirements so that the contract is terminated. Primarily. The contract shall be for gratuitous in that the contract is made for the exclusive advantage of one party; it shall not be for consideration. There shall be good because that makes the party require termination. The requirement of good cause is not alterative requirement rather it is cumulatively required so that such contract can be terminated.

 

Whether the party has good cause to terminate the contract or not is to be decided by the court and thereby needs interpretation. Good cause shall be interpreted to mean a cause for the existence of the contract such special relationship that fosters such contract and other causes which are relevant to the case.

 

Let us illustrate this by taking a hypothetical case. Ato Abebe gratuitously assumed the obligation of giving 300 Ethiopian Birr for his unemployed brother. Ato Abebe can have the contract terminated starting from the time his brother got a job elsewhere. In this hypothetical case the employment of his brother can be a good reason if Ato Abebe entered into that contract for the exclusive advantage of his unemployed brother thinking of his unemployment.

 

 

Similarities and differences between invalidation and cancellation on the one hand and termination on the other

 

The basic difference between termination on the one hand and invalidation and cancellation on the other is their effect. The ground of termination is not again attributable to defect in the formation of a contract or non-performance on one of the parties. Termination can be made by agreement, unilaterally by one party or by court order. However, the grounds of invalidation and cancellation are defect in consent and non-performance in accordance to the terms of the contract respectively. In relation to the effect of the two categories as stated above, invalidation and cancellation have retrospective effect while the effect of termination is prospective. Article 1819 Sub (2) and (3) are obvious in indicating the prospective nature of termination. Quite the reverse, Article 1815 is testament for retrospective effect of invalidation and cancellation.

 

Let us take an example of this and assume that Ato Ahmed agreed with a coffee trader in which he agreed to pay the trader 300 birr per quintal in consideration to get 100 kgs of coffee every month. If the contract is terminated the parties are not required to give back what they have given to each other. And they are no more required to carry out their obligation as of the time of termination.

 

If the contract is invalidated or cancelled, however, Ato Ahmed shall give back 100 kgs of coffee of every month and get back his money. If the coffee is consumed the restitution effect of invalidation or cancellation can be difficult. However, the restitution effect is still effect of invalidation and cancellation unlike termination. Invalidation, cancellation and termination are the same in that they extinguish contractual obligations.

 

Remission of debt

 

Along with termination, remission of debt is also one way of extinction of obligation. Remission of debt is voluntary release of debtor of his obligation by the creditor. Article 1825 is testament for the extinction of obligation by remission of debt under the Civil Code.

 

1825__ Remission of debt.

Where the creditor informs the debtor that he regards him as released, the obligation shall be extinguished unless the debtor forthwithinforms the creditor that he refused his debt to be remitted.

 

According to Article 1825 of the C.C the mere willingness of the creditor to release the debtor by remission is not enough to make the remission effective and result in extinguishing of obligation. The willingness of the debtor to that effect is also required.

 

However, the provision does not put express acceptance of the remission as a mandatory requirement. The debtor shall object when he is informed of the remission if he wants the remission not to be made. Unless such protest is made the law seems to presume silence as acceptance in the case of an offer to effect remission of debt to the debtor.

 

Novation

 

Previously we have seen that remission of debt and termination of contracts are among the ways by which a contract is extinguished. Novation is also one way by which a contract is extinguished. This title is allotted to cover the extinction effect of novation. Heres the meaning of novation, the effect of novation on principal and collateral obligation will be discussed.

 

Before discussing the effect of novation, it is worth knowing what novation is.  When we look at the civil code,  there is no direct definition of novation. A thorough reading of Article 1826, however, sheds  light on what novation is.

 

Article 1826__ principle.

An obligation shall be extinguished where the parties agree to substitute therefore a new obligation which differs from the original one on account of its object or nature.

 

Consistent with this provision, novation is substitution of an existing obligation by new obligation in its nature or object. The new obligation shall be different from the substituted obligation either by its object or nature.  Mere difference without substantial change either in the object or in the nature does not amount to novation; rather it is variation in fact.

 

Assume for example that Mr. Kemal entered into a contract with Lelisa to deliver 100 kilos of sugar in Addis Ababa. Later they agree to change the place of delivery to be Mekelle. After sometime again both parties agree delivery of 100 kilos of sugar to be replaced by 50 kilos of coffee.

 

Do you think that one or all of them are novation or not?  The change of place is not novation. Neither the nature nor object of the original obligation is different. Change of sugar by coffee is, however, novation as the object of the contract has been substituted.

 

When original obligation is different from the substituted obligation in its cause it is also considered to be novation. Illustrative example has been provided by Rene David:

 

“Suppose, for example, that B owes A $10,000 for some goods he purchased from him; it is agreed later in the new contract that B will keep the $10,000 as a loan from A. This is novation by change in the cause: B’s debt has the same object, but henceforth,  it has a different cause. B owes $10,000 because A lent it to him, not because he purchased the goods from him.

 

Novation is required to be intentional so that it can have the desired consequence in accordance with Article 1828.

 

Article 1828__ intention to extinguish the original obligation.

Novation shall not occur unless the parties show the unequivocal intention to extinguish the original obligation.

 

Replacement of certain obligation with other obligation in the absence of intention to make novation does not have the effect of novation. Actually knowing intention can be of certain impenetrability, the apparent activities of the parties can be inference for the presence of intention, though. The apparent acts of the contracting parties can be used as an inference to reach conclusion regarding the presence of intention.

 

The negative meaning of novation in Article 1829 helps to explain it by providing cases ; novation may not occur as stated below.

 

Article 1829 __Absence of novation.

Unless otherwise agreed, novation shall not occur where;

a) a new document is prepared to support an existing debt; or

b) the debtor signs a promissory note or bill of exchange in respect of an existing debtor

c) new securities are provided to ensure payment of an existing debt.

 

All the acts provided in Article 1829 do not show substitution of an existing obligation with a different obligation in its nature or object. Preparing of a new document to support an existing debt, signing of a promissory note or bill of exchange in respect of an existing debt does not show novation and nor does providing securities to ensure a debt show ovation.

 

There might be ambiguity as to whether the lists of 1829 are exhaustive or not. In relation to this, whether signing a promissory note or bill of exchange excludes signing other negotiable instruments might create perplexity. Albeit the presence of such ambiguity, Article 1829 is on illustrative list by which other acts, which are not novation, are included.

 

Its illustrative nature is also strengthened by the definitional provision of Article 1826 and the additional illustration of absence of novation in Article 1830. Had Article 1829 been exhaustive the definition would not have been necessary as the definition is wider in scope than the negative meaning of novation in Article 1829. Moreover, positive meaning of novation in Article 1830 would have been again unnecessary had it been exhaustive. Because if it is exhaustive the contraries reading of 1829 would tell us that acts other than the lists of Article 1829 are novation.

 

When we see Article 1830, it incorporates negative and positive meaning of novation in case of entry of credit and debit in current account.

 

1830- Current account.

(1) Novation shall not result from entry of credit and debit items in a current account.

(2) Novation shall occur where the balance of an account is finalized and admitted.

(3) Unless otherwise agreed, the creditor shall retain such securities as may attach to one of the items entered in a current account not withstanding that the balance of the account has been finalized and admitted.

 

Sub Article (1) of Article 1830 shows that mere entry of credit and debit items in a current account does not show novation. Parties who have contractual relationship of current account are usually expected to make their balance debt and credit that will later be finalized and admitted. Entry of debit and credit in a current account before finalization and admittance does not show novation although it might resemble it.

 

In sub Article 2 of 1830 however, the presence of novation has been denoted when the balance is finalized and admitted. After the debits and credits are calculated and put in a final result, the contract would be clear with their position either as a debtor or creditor. The contractants would either admit the final result or oppose.

 

If they or one of them protest, further analysis would be made by the contractant and other relevant professional. Once the final result is admitted, novation is presumed to have been made. The obligations in respect of specific items have been, after admittance, substituted by the analyzed upshot of debit and credit in the current account. The connotation behind such novation is that a debt in respect of certain item in a contract of current account is replaced by the final result of finalization and admittance. The nature of the obligation is changed.

 

Novation in current account does not, however, result in all the effects of novation according to Article 1830.  Securities attached to one of the items entered in a current account do not extinguish even after novation unless there is contrary agreement. Had it been novation other than in current account, however, securities would have not been transferred to the new obligation because of novation. Extinction of collateral obligation as one effect of novation has been provided under Article 1827.

 

1827- Effect of novation

(1) Unless otherwise expressly provided, securities or privileges attaching to the original obligation shall not be transferred to the new obligation.

(2) Unless otherwise expressly provided interest due prior to novation may not be recovered there after.

 

Novation in its effect does not extinguish only the principal obligating but also the accessory ones. Accessory obligations in pledge, mortgage and personal guaranty are extinguished as the principal obligation extinguishes by novation in accordance with the aforementioned provision.

 

Let us illustrate this by taking on example. Assume that Ato Lelisa bought a track from Mesfin industrial engineering on loan. He has assured payment of his debt (price of the track) by providing a guarantor. If later novation is made whereby the price of the track is to be substituted by one-year service, obligation to pay the price of the car is extinguished. The guarantor’s obligation of paying the price when the principal debtor fails also extinguishes, as it shall not transfer to the new obligation. It must be born in mind that if the guarantor agrees to that effect, his accessory obligation is upheld.

 

However, if the contract of sale of track is made in the course of contract of current account, the price of the track is entered in debit or credit item in the current account. At this time its entry in debit or credit item does not amount to novation. Once the price of the track is calculated, finalized and put in sum, the parties are expected either to admit or protest. Still there is no novation till the parties admit.

 

After admittance novation takes place. The debt in the form of price of a track has been replaced by the sum, which is said to be novation in its nature. Be that as it may, the obligation of the guarantor to pay the price of the track, if Ato Lelisa fails to pay, does not extinguish. It is rather transferred to the new obligation, which comes about as a result of finalization and admittance.

 

In addition to that as novation creates new obligation, the effect of period of limitation is different as to the new obligation from the previous obligation. There might be even difference in the duration of the period of limitation. Assume Lemlem cheru had the obligation to pay 50,000 Birr for Dashen Bank before 8 years. After the lapse of 8 years if the parties agree to replace the obligation to pay 50,000 birr by 10 months consultancy service, a new period of limitation starts to run and the defense on the lapse of period of limitation based on the original contract does not work.

Last modified on Tuesday, 12 June 2012 23:44