Unlawful contracts including illegal contracts, void contracts and restraint of trade Law of Contract LW1154 BCL 2005-2006 1.

Unlawful contractsincluding illegal contracts, void contracts

and restraint of trade

Law of Contract

LW1154 BCL 2005-2006

1

Reading

• TextClark chapters 14-15

• ReferenceMcD chapters 15-16

2

Unlawfulness - definition

• If a contract conflicts with the criminal law …

• … or with other important legal principles …

• … then the court may not give full effect to the contract …

• … or may even give it no effect at all3

Who makes the objection?

• If there is a clear illegality, the court itself must raise the point … …even if neither party wants this to

happen • But usually one party is raising the point

tactically … … as an excuse to escape the

contract 4

A matter of balance

• “Unlawfulness” is an objection based on public policy

• But upholding commercial contracts is also a goal of policy

• So the court is often engaged in balancing different policies …

• … especially where the illegality is relatively trivial 5

Effect of illegality?

• “Balancing” can be complex• Possibilities solutions are:

• All remedies denied• Some are denied, eg severance of

the illegal part• Remedies on the contract are

denied, but non-contractual remedies are allowed

6

Which contracts are illegal?

• The list is long and disordered• Different writers organise it all

differently• Not everyone agrees on how to

structure the cases• Basic distinction: illegality by

statute and at common law 7

By statute / At common law

• Statutory illegality is very wide-spread …

• … and I can only deal with general principles

• Common law illegality is more manageable …

• … but also more antiquated 8

“Illegal” or “void” ??

• Some writers distinguish “illegal contracts” from “void contracts”

• But the distinction is not awfully clear …

• … and relates mostly to the finer points of the effects of illegality

• I will refer to it briefly later 9

Scheme of the lectures

• Illegality at common law(with specific examples)

• Illegality by statute(mostly general principles)

• Effect: contractual remedies• Effect: non-contractual remedies 10

Common law

illegality 11

Types of illegality

• Commission of wrongs • Corruption and tax evasion• Trading with the enemy• Interference with the administration of

justice• Encouraging sexual immorality• Restraint of trade

12

Common law illegality

1. Contracts to commit wrongs

13

Commission of wrongs

• Contracts to commit crimes or other wrongs are illegal

• Contractual rights cannot be acquired by unlawful acts eg Arsonists cannot claim on their

insurance (Gray v. Hibernian Insc (HC, 27/5/93) 14

Common law illegality

2. Corruption and tax evasion

15

Corruption and tax evasion

• Contracts involving fraud or corrupt payments are illegal

• eg Procuring election as City Marshall, by promising to hand over some of the fees a Marshall can collect (Mayor of Dublin v. Hayes (1876) 10 IRCL 226)

16

Corruption: tax evasion

• Many taxes are defined so as to catch certain types of contract eg Income tax (employment) eg VAT (sale of goods) eg Stamp duty (sale of land)

• If the parties agree to mislead the tax authorities …

• … then the contract is illegal 17

ExampleLewis v. Squash Ireland [1983] ILRM 363

• Managing director of company• Part of his salary was officially

recorded as “expenses”• He later claimed for unfair

dismissal from the company• But as his employment contract

was illegal, he had no rights 18

Statutory exception

• Lewis was thought too harsh• Statute now provides that the

employment tribunal will itself ignore the illegality …

• … but must inform the tax authorities of the true facts(Unfair Dismissal (Amendment) Act 1993 s 7) 19

Common law illegality

3. Trading with the enemy

20

Trading with the enemy

• Where the country is at war …• … contracts with those voluntarily living

in enemy territory are illegal • eg Ross v. Shaw [1917] 2 IR 367

(contract with nationals of areas overrun by the enemy)

21

Common law illegality

4. Interference with the administration of justice

22

Interference with the administration of justice

Essentially two categories:• Preventing court actions which should

occur eg by corruptly abandoning a

prosecution• Encouraging court actions which

shouldn’t occur eg by paying another’s costs

23

1. Compromising crime• Dropping a prosecution in return for

money is illegal• Ditto hiding evidence, or agreeing not to

disclose it• But the victim of a crime may accept

“reasonable compensation” (Criminal Law Act 1997 s 8(1))

Wrongly preventing actions

24

2. Ousting the courts’ jurisdiction• The contract cannot bar access to the

courts, or establish another tribunal• Provision for arbitration is valid …• … but an appeal will lie from the

arbitrator to the courts (Scott v. Avery (1856) 10 ER 1121)

Wrongly preventing actions

25

3. Unfair advantage in bankruptcy • If a trader is bankrupt, their assets are to

be divided equally between their creditors

• An agreement treating one creditor more favourably than the others is illegal

Wrongly preventing actions

26

ExampleDaly v. Daly (1870) IR 5 CL 197

• The debtor concealed assets, and obtained a discharge from his debts

• One creditor discovered the truth, threatened legal proceedings unless paid in full

• The debtor paid him • This was held to be illegal

27

Wrongly encouraging actionsTraditionally, two overlapping concepts: • Maintenance

= improperly helping another to litigate• Champerty

= improperly making a profit from another’s litigation

28

• However, these objections are today less urgent

• “No foal no fee” is not seen as intrinsically objectionable

• People should be allowed to litigate “reasonably stateable claims” (O’Keefe v. Scales [1998] 1 IRLM 393)

Wrongly encouraging actions

29

The modern law

4 main areas of concern today:

• Contingency fees• Fee sharing agreements• Assignment of rights to litigate • Heir-locator agreements

30

1. Contingency fees

• Legislation prohibits lawyers from acting in return for a percentage of the damages won (Solicitors (Amendment) Act 1994 s 68(2))

• An agreement for payment only if the action is won makes the contract invalid (Attorneys’ and Solicitors’ Act 1870 s 11) 31

• However, an agreement to work “no win no fee” does not have criminal consequences, it simply renders the agreement invalid

• In practice, much legal work (especially for personal injury litigation) is done that way

1. Contingency fees

32

2. Fee sharing agreements

• An agreement by a solicitor to share fees with a non-lawyer is professional misconduct …

• … and the agreement cannot be enforced

• eg Mohamed v. Alaga [1999] EWCA Civ 1716 33

3. Assignment of a right to litigate • At common law, someone with a right to

litigate may not transfer that right to another

• 2 exceptions are now recognised: • If you sell property and include

connected rights to litigate;• If the assignee has a legitimate

commercial interest in the right34

4. Heir-locator agreements

• Where one party offers to help another to make a claim from a deceased person’s estate …

• … and contracts for payment out of the proceeds of the claim …

• … then the contract is unlawful and unenforceable 35

Survival of the doctrine

• The doctrine is an antique one• But the Supreme Court have confirmed

that it still applies today …• … even if the estate claimed is outside

Ireland

(Fraser v. Buckle [1996] 2 IRLM 34, discussed by Capper (1997) 60 MLR 286)

36

ExampleMcElroy v. Flynn [1991] IRLM 294

• Offer to act for particular claimants in return for 25% of the proceeds

• Costello J held this to be caught by the heir-locator doctrine …

• … as the help went beyond mere sale of information relating to the claim

37

Common law illegality

5. Encouraging sexual immorality

38

Encouraging sexual immorality• The case law is antique … • … and some of it is overtaken by

modern developments (eg the 15th amendment to the constitution, 1996)

• How much of it is still good law is very speculative 39

4 basic areas of concern:-• Prostitution• Contracts affecting the

decision to marry• Contracts modifying obligations

deriving from marriage• Cohabitation and sex outside marriage

Encouraging sexual immorality

40

1. Prostitution

• The older cases invalidate any contract concerning or encouraging prostitution

• eg A contract to hire a carriage to a prostitute for use in her trade (Pearce v. Brooks (1866) LR 1 Ex 213)

41

• The Oireachtas has specified in legislation which aspects of prostitution are illegal (Criminal Law (Sexual Offences) Act 1993)

• Arguably, the courts should go no further than the statute

1. Prostitution

42

2. Decisions to marry

• At common law, any contract intended to influence or restrict choice of marriage was invalid eg A contract not to marry anyone

but the other party eg A contract to find the other party a

husband 43

2. Decisions to marry

Exception at common law:• An agreement by two parties to marry

one another was valid … • … provided both were at that point free

to marry• However, this action was abolished by

statute (Family Law Act 1981 s 2) 44

3. Contracts modifying the marriage obligations

• Contracts encouraging separation in the future are invalid

• So a contract by a married couple providing for a possible future separation is invalid …

• … but an agreement reached on an actual separation is valid

45

• It has been held that a contract to secure a (foreign) divorce is unlawful (Dalton v. Dalton [1982] ILRM 418) …

• … but it is an open question what the courts would do today

3. Contracts modifying the marriage obligations

46

4. Cohabitation and sex outside marriage

• Traditionally, a contract was invalid if it encouraged sex outside marriage …

• … though not if it merely followed a period of cohabitation

(eg man making provision for his illegitimate children, Reade v. Adams (1855) 2 Ir Jur NS 197)

47

ExampleEnnis v. Butterly [1997] 1 ILRM 28

• Cohabitation agreement • Kelly J held this unenforceable• He could not square legal enforcement

with the status granted to marriage under the constitution

• For discussion see: Mee (1997) 19 DULJ 149

48

Common law illegality

6. Restraint of trade

49

Restraint of trade

• Again, the common law rules are antique • Nonetheless, the common law rules

remain in full force …• … though there is also statutory

provision against anti-competitive contracts (see Competition Act 1991)

50

What is the doctrine?

• The doctrine invalidates contracts not to engage in trade

• Exceptions are allowed when a particular contract can be shown to be reasonable both from the parties’ point of view …

• … and from the public point of view 51

When does the doctrine apply? • The usual case is of an express contract

not to trade eg A contract by an apprentice not to

compete with his/her master• But some contracts only indirectly

restrict trade• Does the doctrine apply to them?

52

Kerry Co-Op v. An Bord Bainne [1991] IRLM 851

• An Bord Bainne was a trade association for farming co-ops

• There was no effective sanction to force co-ops to remain part of An Bord

• A proposed rule change would penalise any co-ops who left it

• Was this change subject to the doctrine of restraint of trade?

53

The Supreme Court disagreed whether the doctrine applied: -

• McCarthy J said it did, but that the proposed rule change was reasonable

• O’Flaherty J said that the doctrine did not apply

• Finlay CJ expressed no opinion

Kerry Co-Op v. An Bord Bainne [1991] IRLM 851

54

So the law is unclear

But it seems that the doctrine will not be applied to:-

• Minor exclusive dealing arrangements (Murphy v. O’Donovan [1939] IR 455)

• Promises by buyers of land not to trade on that land (Sibra Building v. Ladgrove [1998] 2 IR 589)

55

What does the doctrine require? All restraints within the doctrine are invalid

unless it can be shown that:-• The restraint is reasonable as between

the parties, and• The restraint was reasonable from the

point of view of the public

56

ExampleMacken v. O’Reilly [1979] IRLM 79

• The Equestrian Federation of Ireland changed its rules …

• … so that all their Irish members who competed abroad had to do so on Irish-bred horses

• The plaintiff, a show-jumper, complained that this was an unreasonable restriction

• But was there restraint of trade?57

The Supreme Court thought this was reasonable:-

• As to the public interest, the Federation were legitimately seeking to protect the position of Irish horse breeders

• As to the position between the parties, the plaintiff's sacrifice was considered relatively minor

ExampleMacken v. O’Reilly [1979] IRLM 79

58

Burden of proof

• Reasonableness as between the parties must be affirmatively proved(John Orr Ltd v. Orr [1987] IRLM 702)

• But (probably) the burden is reversed as to the public’s interest

59

Restraint of trade - examples

3 major examples of the doctrine at work:

• Employment• Sale of business • Exclusive dealing contracts

60

1. Employment

• Any substantial interference with freedom to work or freedom to trade may be within the doctrine

• In these cases, most of the attention is on reasonableness as between the parties themselves

• Appeals to the public interest are rarely successful 61

ExampleJohnston v. Cliftonville FC [1984] NI 9

• A part-time professional footballer sought higher pay than was permitted under Irish League rules

• Murray J held that restrictions on pay were an interference with a basic liberty …

• … without any plausible justification being advanced

62

Music cases

• A string of cases on pop stars illustrate the concentration on reasonableness as between the parties

• The public interest is largely irrelevant … • … and the emphasis is on the legitimate

interests of both parties

63

Example 1Silverstone Records v. Mountfield [1993] EMLR 152

• Contract which absolutely restrained the group from performing for any other employer for 7 years

• Various other clauses were unusually harsh • Neither the group nor their manager had

much experience with contracts• Restraint of trade found

64

Example 2Panayiotou v. Sony [1994] EMLR 229

• The singer was obliged to produce 8 albums over a 15-year period

• But the court emphasised that the length of the contract was a function of success

• The singer was well advised throughout, and had negotiated actively

• No restraint found 65

Music cases

• All the cases emphasise that inexperienced performers are entitled to protection of their interests …

• … but also that, from the record company's point of view, the rare success has to pay for the many failures

66

Ordinary employment cases

• Again, in more ordinary cases, the court tries to identity the legitimate interests of employer and employee …

• … in order to balance the parties’ interests against each other

67

Knowledge gained from employment• So a contract clause cannot forbid ex-

employees from using knowledge gained during employment ...

• ... unless the clause protects legitimate employer interests eg trade secrets eg customer lists 68

2. Sale of a business

• Again, the court must balance the interests of the parties against each another

• Some restrictions on the seller’s business activities will be necessary (eg prohibitions on approaching former

customers) • … but the issue will often be how broad such

clauses can be69

ExampleJohn Orr Ltd v. Orr [1987] IRLM 702

• Sale of a fabrics business• Clause forbidding the seller from competing

anywhere in the world• This was held by Costello J to be

unjustifiably broad … • … but he restrained the seller from dealing

with anyone who was already a customer of the buyer 70

3. Exclusive dealing contracts

• Under these contracts, one party agrees to buy all their requirements for certain types of products from the other party (or to sell only to them)

• The courts have never been very ready to strike such agreements down …

• … and today tend to defer to competition law in the matter

71

Length of the tie

• The main consideration today is the length of the tie

• So an obligation on a petrol station to buy petrol only from one firm is valid if for 5 years (Continental Oil v. Moyhihan (1977) 111 ILTR 5) …

• … but not if for 21 years (Esso v. Harpers Garage [1968] AC 269) 72

Foreign illegality

What if there is illegality under foreign law but not Irish law?

• Much depends on whether the contract was to be performed here or abroad

• Another question is whether the foreign law can be seen as analogous to Irish laws

73

Example 1Lemenda Trading v. African Petroleum [1988] QB 448• Contract to pay commissions to certain

intermediaries involved in an oil supply contract

• The commissions were not illegal by English law …

• … but were forbidden by Qatar in an attempt to curb corruption

• The right to the commissions was not enforceable in England

74

Example 2Stanhope v. Hospitals Trust (1936) Ir Jur Rep 25

• Sale of lottery tickets • Tickets were sold in Natal and sent on to

Dublin • However, when the organisers were told that

lotteries were illegal in Natal, they refused to include the Natal tickets in the draw

• A ticket-seller from Durban sued75

Example 2Stanhope v. Hospitals Trust (1936) Ir Jur Rep 25

Fitzgibbon J held that:-• The non-inclusion was wrong, as the lottery

was to be held in Dublin, and was legal by Irish law

• However, the damages could not include damages for injury to the ticket-seller’s business, as that business was illegal

76

Illegality by statute

77

Express prohibition

• Some types of transaction are specifically stated by statute to be illegal eg legislation on shop hours

• Contracts in contravention of such laws are always illegal …

• … unless the legislation states that they should not be so treated

78

Implied prohibition

• Where a contract necessarily involves an act which statute has declared illegal …

• … then the contract is itself illegal

• However, the courts are reluctant to apply this where no illegal intent is proved

79

Example 1Namlooze Venootschap v. Dorset Manufacturing [1949] IR 203

• Action for the price of goods sold and delivered

• The price was payable in guilders … • … but no official permission from the

Minister for Finance had been sought, as statute then required

• The contract was held illegal and unenforceable 80

Example 2Gavin Low Ltd v. Field [1942] IR 86

• Contract for sale of a cow carcass• After delivery, the seller claimed the price• But the carcass had already been condemned

as unfit for human consumption• It is illegal to offer such goods for sale• But the contract was still enforceable

81

Examples of statutory illegality

• Wagering, gaming and lotteries (see especially Gaming and Lotteries Acts 1956-1986)

• Unfair Competition(see especially Treaty of Rome article 81)

82

The effect of illegality on contracts

83

Effect of illegality - general

• A contract illegal on its face is completely unenforceable

• If one party has an illegal intent, they may be refused remedies

• An illegal provision may be cut out of an otherwise lawful contract

• We also need to ask whether other heads of the law (eg property, tort) can be relevant

84

Illegality on the face of the contract • A contract which is expressly for a

purpose which is illegal cannot be enforced by either party

• Knowledge of the relevant law is not required (‘ignorance of the law is no excuse’)

85

ExampleGray v. Cathcart (1899) 33 ILTR 35

• A landlord leased a house in poor condition• When the rent was not paid, the landlord

sued• But letting unsanitary premises was contrary

to statute ... • … so the contract was illegal on its face, and

the rent not recoverable86

Illegal intent or performance

• If a contract is legal on its face, but one or both sides intends to perform in

an illegal way, or does in fact perform in an illegal way

• then any party who acted or intended illegally is barred from remedies

87

Example 1Ashmore v. Dawson [1973] 1 WLR 828

• An engineering firm contracts with hauliers to move some heavy equipment

• As the hauliers know, the law requires the use of a more powerful lorry than they have available

• The hauliers cannot enforce • Whether the engineers can enforce depends

on their knowledge88

Example 2Kavanagh v. Caulfield [2002] IEHC 67

• P agreed to buy premises from D• As part of the price, P was to pay £7,500 to

“The Marion Work of Atonement”, said to be a charity

• In fact, this additional payment was a tax dodge

• But it could not be shown that P knew of any illegality

• Therefore P could enforce against D 89

Example 3Whitecross Potatoes v. Coyle [1978] IRLM 31

• A farmer in Meath contracts to sell potatoes to an English firm

• They suspect that the UK government may soon introduce import restrictions

• They agree that if this happens, a higher price will be payable

• The new restrictions are indeed introduced 90

Example 3Whitecross Potatoes v. Coyle [1978] IRLM 31• What was intended by the parties?

The buyer intended that the seller would supply from NI (lawful)

The seller intended to smuggle his own potatoes into NI and supply them (unlawful)

• Therefore the buyer could enforce but the seller could not 91

Separation of legal from illegal parts of the agreement

• A possible response to illegality is not to declare the entire arrangement illegal …

• … but simply to strike out the part which is illegal and leave the rest

• The law is confused and controversial

92

Separation – two distinct ideas

• Two distinct notions seem to be involved:

• If an agreement naturally falls into two or more parts, only one of which is illegal, there is no reason why the rest should not be enforceable

93

Separation – two distinct ideas

• Some types of illegality are inherently trivial, and so should not result in the illegality of the entire contract …

• … so the contract is valid, but the objectionable term is “void” eg terms ousting the courts’

jurisdiction eg terms in restraint of trade

94

Example 1Murphy v. Crean [1915] 1 IR 111

• Lease of pub premises• Illegal term (that the tenant would transfer the

licence as directed by the landlord)• The landlord tried to enforce other clauses of

the lease• But the entire contract was held

unenforceable 95

Example 2McIlvenna v. Ferris [1955] IR 318

• Contract for building work• Under Emergency Powers legislation, such

work could not be done without a licence• The contract was accordingly held illegal …• … except for part of the work done after the

legislation was revoked

96

The effect of illegality on contracts – other heads of

the law97

Other principles of law

• Where a claim on an illegal contract is not permitted …

• … the plaintiff may consider invoking some other head of the law

• But the court will need to ask whether the illegality equally bars action under that other head of the law

98

Other principles: 1. Property

• Plaintiff are entitled to claim property belonging to them, even if there is evidence of illegality connected with it

• Perhaps surprisingly, an illegal contract may still pass ownership just as if it were valid

99

ExampleBowmakers v. Barnet Instruments [1945] KB 65

• Sale of machine tools on H-P terms• The contracts infringed anti-inflation

legislation, and so could not be enforced • When buyers defaulted, sellers claimed the

tools back• Ownership was determined by reference to

the illegal contracts100

An exception?

• Bowmakers involved a rather technical type of illegality

• Perhaps a different attitude will be taken to more flagrant illegality eg ownership of goods it is illegal for

anyone to own eg ownership of bribe money (Brady v.

Flood (1841) 6 Ct Rep Ir 309) 101

Other principles: 2. Fraud

• Where one party to the contract has committed fraud on the other, an action may lie in deceit …

• … even if the contract is illegal• This approach will only succeed if the

illegality seems relatively trivial (eg Saunders v. Edwards [1987] 2 AER 651)

102

Other principles: 3. Restitution

• Suppose one side transfers money or other property to the other under the contract …

• … but later seeks to recover it • This would involve the court helping a party

to an illegal contract … • … but helping them to unravel the contract,

not to perform it103

Other principles: 3. Restitution

The basic principle is:- • “In pari delicto, potior est conditio

defendentis” • =“When both sides are equally guilty, the

defendant’s case is the stronger of the two” But when are both parties “equally guilty”?

104

The guiltless plaintiff

• A plaintiff is not caught by this rule if s/he is entirely innocent of any illegality …

• … or has repented of any illegality … • … or was the victim of fraud or oppression

by the other party …• … or was one of a class that the legislation

was meant to protect 105

The innocent plaintiff

• A plaintiff who does not know the facts rendering the transaction illegal may be able to recover money paid

• eg Insuring an enemy cargo in ignorance of the declaration of war (Oom v. Bruce (1810) 12 East 225)

• The other party’s guilt or innocence appears to be irrelevant 106

The repentant plaintiff

• Where the plaintiff transfers money or property with unlawful intent …

• … but the plaintiff thinks better of the scheme before anything illegal is done …

• … then the plaintiff may recover back the money or property

107

The repentant plaintiff

• At one time, the courts required genuine penitence …

• … and would refuse a remedy if no remorse was shown

• Today, the approach is more pragmatic• Recovery is permitted so that there is an

incentive to withdraw before any crime is actually committed

108

ExampleTribe v. Tribe [1995] 4 AER 236

• A father transferred shares to his son, apparently on sale

• In fact, the purpose was to prevent the shares falling into the hands of the father’s creditors

• The father made a satisfactory arrangement with his creditors …

• … and successfully claimed the shares back 109

Fraud or oppression

• Where money or property was obtained by fraud …

• … the defrauded party may recover it back despite any illegality

• eg where P is tricked into entering an illegal insurance contract (Hughes v. Liverpool Victoria [1916] 2 KB 482) 110

Protected class

• Where the object of legislation is to protect people in P’s position …

• … then the courts will be slow to say that breach of the legislation bars P from a remedy

• The statute is to be read in the light of its objects 111

ExampleKiriri Cotton v. Dewani [1960] AC 192

• Legislation made it illegal for a landlord to demand “key money” from tenants

• A tenant nonetheless paid this money on taking a lease

• Because the object of the legislation was to protect tenants …

• … the tenant was able to claim the money back from the landlord

112

That’s all on

illegality113