The Doctrine of Privity of Contract

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Understanding the Privity of Contract

The relationship or connection shared by two or more contracting parties has been defined as the Privity of Contract. When a contract is drawn, it imposes specific responsibilities and obligations to individuals who are parties to this agreement. Accordingly, the premise of the Doctrine of Privity of Contract is that only contracting parties can be sued or have the right to sue any of the other participants for any agreement related to the conflict. 

The Doctrine further goes on to give a reason for this right. It states that contracting parties have this right as they share a pre-existing relationship and not with any third party as mentioned in the Privity of contract.

Privity of Contract Cases

The main points in this Doctrine of Privity of Contract emerged after the case of Tweddle vs Atkinson case. Here, John Tweddle and William Guy agreed that they would both pay a sum of money to Tweddle’s son who was engaged to be married to William’s daughter. However, William passed away before making any payment. Tweddle’s son then sued Mr Guy’s estate executor for the promised sum. But a court ruled that a third-party beneficiary cannot impose the promise or agreement that one contracting party had made to another. 

This Privity of Contract definition was firmly established after the case of Dunlop Pneumatic tyre Co. Ltd vs Selfridge & Co. Ltd. Dunlop manufactured tyres and wanted to maintain a standard market price. Accordingly, it entered a contract with its dealers Dew & Co. to not sell any product below the fixed retail price. 

This contract also stated that Dew & Co. should obtain an agreement from its retailers that if the latter sold below the agreed retail price, they would have to pay a certain amount per tyre to Dunlop. Consequently, when Selfridge & Co. sold below retail price, Dunlop sued them and claimed damage. 

The court ruled that since Dunlop was a third party to this contract between Dew & Co. and Selfridge & co., it cannot claim damage from the latter under the rule of Privity. It also established the Doctrine of consideration which states that for a promise or agreement to be applicable, the promisee must provide something to the promisor in return for successful completion of the contract.

Indian Contract Act

The Indian contract act of 1872 was established based on these principles of Doctrine of Privity of Contract. However, the definition of Privity of Contract and Privity of Consideration is different under Indian law. It states that consideration can shift to a third party also, which means that both a promisee and a third party can also provide consideration. Consequently, according to Indian Contract law, a person stranger to consideration can sue one of the parties.

Two Types of Privity of Contract

Apart from understanding Privity of Contract meaning, one should have a thorough grasp of the two types of Privity of Contracts – Horizontal and Vertical Privity of Contract. 

In horizontal Privity of Contract, the beneficiary is a third party and not one of the individuals who is a participant in said contract. On the other hand, in a vertical contract, all signatories to an agreement stand to benefit directly from the same.

Exceptions

However, there are some exceptions to the Privity of Contract. Given below are some circumstances when a third party can sue one of the contracting parties – 

  • Trust - 

When an agreement between several parties results in the creation of a trust in favour of a third party or a beneficiary; the latter can take legal action against the contracting parties under an exception to this principle of Privity of Contract. For instance, an individual has created a trust with his younger brother in favour of his infant daughter. 

The terms of this trust are that, in the event of his death, his younger brother will oversee his property. When the daughter comes of age, this trust will hand over the property to her. If the brother refuses to do so, then the daughter, who is a beneficiary, can sue the brother under the exception to the principle of Privity of Contract.

  • Contract through an Agent – 

If an agent enters a contract with a third party on behalf of the principal, then the latter is obligated to fulfil the contractual agreement to the third party. The Indian Contract Act on Privity of Contract defines an agent as a person who has been formally employed to perform acts and represents another in dealings with strangers. The person who engages an agent or anyone who is represented by one is called the principal.

  • Family Settlement – 

If the contract is a family arrangement such as a marriage settlement a third party or beneficiary can sue the signatories to the contract to impose the agreement under exceptions to the Doctrine of Privity of Contract. 

FAQ (Frequently Asked Questions)

Q1. What is a Contract of Insurance?

Ans: Generally, life insurance policy is a doctrine of Privity of Contract as it is an agreement between only the policyholder and insurance company. However, beneficiaries of an insurance policy can sue the company to claim the sum assured. At this stage, one should note that beneficiaries are both strangers to policy agreement as well as to the consideration. 

Q2. What is meant by Privity of Contract?

Ans: Thus, Privity of Contract states that only the two parties who have an existing relationship hold rights to sue each other and claim damage or impose terms of an agreement to the other party. However, certain exceptions and provisions such as Privity of Contract and Consideration have been introduced to benefit the third party.

Q3. Can a Stranger Sue Parties Involved with Consideration under the Indian Contract Act?

Ans: An individual, who is a stranger to consideration, can legally sue one of the parties involved with the Privity of Contract under the Indian Contract Act. This is one of how Privity of Contract differs in India when compared to the rest of the world.