Rectification of contracts: how to assess parties’ intention (Court of Appeal)
What is the correct test to be applied in deciding whether the written terms of a contract may be rectified because of a common mistake?
The key takeaway
For a written contract to be rectified on the basis of a common mistake, a party must show either:
- that the document fails to give effect to a prior concluded contract; or
- the parties had a common intention in respect of a particular matter which, by mistake, the document did not accurately record. It is necessary to show not only that each party to the contract had the same actual intention with regard to the relevant matter, but also that there was an “outward expression of accord”.
FSHC Holdings Limited (FSHC) was the holding company of a large corporate group. In 2012, FSHC had agreed to provide security in connection with a transaction for a corporate acquisition in which Glas Trust Corporation Limited (Glas) was the security agent.
Such security was intended to be by way of assignment of the benefit of a shareholder loan. It transpired in 2016, however, that by an oversight, FSHC had not actually executed the relevant assignment. Instead of producing new documentation, FSHC suggested that two deeds (Intercompany Receivables Security Assignments (IRSAs)) were created and these IRSAs were executed on 18 November 2016, with the intention that they would provide the missing security.
By acceding to the IRSAs, FSHC assumed additional obligations which were not required under the original 2012 transaction.
The decision
At first instance, the judge granted rectification of the IRSAs. This was granted on the basis that the actual common intention of the parties had been to execute a document that had the sole purpose of providing the missing security.
On appeal, Glas argued that the existence and nature of a common intention for the purposes of rectifying a common mistake had to be determined by reference to what an objective observer would have thought the common intention of the parties would have been. The parties’ communications did not provide any information from which an objective observer would conclude that there was a common intention.
FSHC argued that, even if an objective test were applied, the first instance judgment was correct, arguing that it only needed to be shown that the document failed to give effect to what the parties had subjectively intended (following the Court of Appeal’s binding decision in Britoil Plc v Hunt Overseas Oil Inc [1994]).
The Court of Appeal considered it was a “classic case for rectification” and dismissed the appeal. The Court held that whether the parties had a common intention in respect of a particular matter should depend on their subjective intentions, which is shown by an “outward expression of accord”.
The Court of Appeal therefore upheld the decision granting rectification of the IRSAs on the basis that they did not reflect the parties’ subjective common intention.
Why is this important?
The Court of Appeal’s decision is a useful clarification of the test for rectification and the basis on which the Court will assess the common intention of the parties, ie on a subjective basis together with an indication of the parties’ agreement on the issue in question.
Any practical tips?
Ensure that the written documents reflect the agreement that was reached!
Retain records of the transaction, in particular correspondence and notes of discussions between the parties in relation to key commercial issues.