Law Society publishes response to European contract law feasibility study

Practical Law UK Legal Update 5-506-8049 (Approx. 6 pages)

Law Society publishes response to European contract law feasibility study

by PLC Commercial

European Commission Green Paper on developing a European contract law

In July 2010, the European Commission published a Green Paper in July 2010 proposing seven options for a European contract law, ranging from publication of the conclusions of the Expert Group through to an EU Regulation to establishing a European civil code. The European Commission argued in the Green Paper that such a law would remove (or reduce) barriers to cross-border trade, which it believes currently exist because of the differences between member states' national contract laws. It believes that these differences create legal uncertainty and additional transaction costs for businesses, especially SMEs, and mean that consumers do not feel confident about engaging in cross-border trade. For more information, see Legal update, European Commission publishes Green Paper on developing a European contract law.

The European Commission's preferred option, which has been endorsed by the European Parliament, is for an optional European contract law instrument (Option 4 from the Green Paper), which it intends to introduce into the legislative process in October 2011.

In May 2011, the European Commission’s Expert Group on European contract law published a feasibility study describing how EU-wide contracts could be created and providing guidance on interpreting common contract terms and their application. The study covers both business-to-business contracts (B2B) and business-to-consumer (B2C) contracts. The study includes a draft instrument, and also describes various scenarios illustrating why a European contract law is needed. For more information, see Legal update, European contract law expert group publishes results of feasibility study.

The Law Society published a response to the Green Paper in February 2011, in which it stated its opposition to the optional instrument. It did however say that it supported the development of a non-binding "toolbox" that could be used to improve the quality and consistency of European legislation (Option 2 from the Green Paper), see Legal update, Law Society response to European Commission's Green Paper on European Contract Law.

Law Society response to feasibility study

The Law Society continues to support the development of a non-binding "toolbox" to assist legislators improve the quality and coherence of European legislation , but it does not believe that there is a need for an optional instrument for either B2B or B2C transactions. The Law Society agrees with the European Commission that increasing cross-border sales would help to integrate the internal market, but it does not agree that the mere diversity of national contract laws of itself impedes that trade. Its view is that many of the barriers to trade are practical and procedural, including, in particular, the difficulty of obtaining cross-border redress when something goes wrong, and the diversity of languages. Instead of devoting time and effort to the optional instrument, the Law Society would favour legislative initiatives to improve the practical means of redress available to businesses and consumers when engaging in cross-border contracts, which it believes would positively improve the functioning of the internal market.

Detailed objections

Impact assessment

The Law Society notes that no impact assessment for the instrument has yet been published. Such an impact assessment should assess whether there is a legal basis in the EU Treaties for the instrument, the possible impact on national legal systems and market participants as well as the potential costs of such an instrument.

Production of a contract law

The Law Society highlights that the current text has been produced by a team of academics over the period of one year. It points out that creating a contract law involves numerous policy decisions which, if they are to be taken on an informed basis, require input from all those who use contract law for their commercial and other purposes, as well as policy makers, legal practitioners, consumer groups and business representatives. Those decisions should only be taken after full debate and before drafting begins, not, as in this case, once the drafting is at an advanced stage. Until now there have been limited opportunities for input and practitioners do not believe that the text is currently fit for use commercially.

Uncertainty

The Law Society considers that the optional instrument would give rise to a disproportionate amount of uncertainty for businesses and consumers.

In particular, the Law Society is concerned that some issues in agreements will fall outside the scope of the optional instrument. Many cross-border transactions also involve additional areas of law besides contract, including the law of property and the law of tort. These are not covered by the optional instrument and would still need to be governed by the laws of a member state. This means that a contract subject to the optional instrument would be subject to two governing laws: European contract law and the applicable national governing law. The national governing law would also presumably have to apply to capacity, representation, assignment, and to pre-contractual disputes (that is, disputes where negotiations were begun but no contract resulted).

The Law Society also considers it unclear how the European Court of Justice would be able to create jurisprudence (both in regard to the limitations of its jurisdiction and in regard to the practical demands of the caseload likely to arise from this instrument).

The Law Society thinks that the result of this is likely to be that the new instrument would not be used much in practice. If it were, then the uncertainty generated for contracting parties on the autonomous meanings and operation of any new instrument would be likely to result in the need for greater recourse to legal practitioners and judicial interpretation.

Scope and structure

The Law Society considers that the terms used in the optional instrument are not currently clear enough. There is no positive definition of the optional instrument's scope, for example, as to whether it would include digital content. This means it is difficult for practitioners to comment on the possible impact of the instrument. Practitioners have also questioned the way the document is structured as a series of general principles and then provisions relating to specific forms of contract. Other terms are used but not explained adequately, including good faith, fair dealing and good business practice.

Cost

The Law Society is concerned that the introduction of the optional instrument would greatly increase costs associated with contracts, and that the European Commission has failed to evaluate this:

The only body that would be able to rule authoritatively on the meaning of an optional instrument would be the European Court of Justice. The cost of expanding the Court's role and workload would be considerable.
Businesses would need to adapt their internal structures and processes if they were to use and comply with the provisions in the optional instrument.
The legal professions and judiciary across the member states would need to be trained how to apply the optional instrument.

Dispute resolution

As noted above, the only body that would be able to rule authoritatively on the meaning of an optional instrument would be the European Court of Justice. It is not a specialised commercial court and parties encounter long delays even with its current workload. The Law Society believes that this would lead to a divergence in the application of a new instrument between member states, as many parties would not elect to appeal to the higher courts in disputes.

Inclusion of both B2B and B2C contract law

The Law Society does not favour the inclusion of B2B and B2C contract law in the same instrument, arguing that the two areas of law have diverged so much that they should be regarded as separate subjects. According to the Law Society, B2B contract law must focus on freedom of contract and certainty and B2C contract law focuses on fairness. Merging the two pushes what is appropriate for consumers in the direction of businesses and vice versa.

How would the instrument be optional?

Although the instrument is described as "optional", neither the introduction to the text nor the substantive provisions explain who the instrument would be optional for or how the optional mechanism would work. It is also unclear how the instrument would work alongside the Rome I Regulation ((EC) 593/2008) (see Practice note, Rome I: an outline of the key provisions). If sellers had the choice whether to offer the optional instrument or their consumer's national law, they might choose whichever was the most advantageous to them, which could be detrimental to the consumer.

It has been suggested that consumers would be able to choose whether the optional instrument applies or their own national law, by a so-called "blue button" mechanism. However, practitioners do not think that consumers would be able to make an informed choice between different governing laws, even if they were provided with information about what protection they would receive under the optional instrument.

It is also unclear how the choice of governing law would work in B2B transactions. If there were a free choice between the parties to the a contract then the party with the greater bargaining power could choose. However, if the stronger party were obliged to offer the optional instrument to the weaker party the optional instrument would arguably not be optional. The Law Society is concerned that freedom of contract is not lost and makes the point that there is no evidence that the parties to a contract are not able to choose a suitable jurisdiction effectively.

Small and medium enterprises

Some of the instrument's provisions provide extra protection for SMEs. However, the Law Society does not agree with the European Commission that "most" SMEs are in a "weaker position". The situation varies according to the circumstances, including who the SME is negotiating with, the experience of the parties concerned, the type of business and the level of need of the buyer. The Law Society highlights certain terms which would cause particular problems for businesses, including Article 87, which provides that a party is not bound by a "surprising" term and Article 48 which protects against unfair exploitation. Article 87 could mean that a party was not bound by a term simply because they have not read it, which would reward not reading contracts properly. Article 48 might penalise good business practice, for example training employees so that they have good bargaining skills.

Comment

The European Commission and the European Parliament support an optional contract law instrument, although some member states and organisations (such as the City of London Law Society, see Legal update, CLLS responds negatively to European contract law feasibility study) are less enthusiastic. It is unclear how the optional instrument would interact with the Consumer Rights Directive, which is nearing final adoption, see the PLC Commercial legislation tracker. The proposal for the optional instrument is advancing quickly and, if, as is likely, it is implemented, it could fundamentally change the way that business is transacted within the EU. If this is the case, it is important that the final version is fit for purpose. At the moment the consensus, in the UK at least, seems to be that it is not and needs fundamental change.

Source

Law Society response, 1 July 2011.

Law Society publishes response to European contract law feasibility study | Practical Law