This article has been written by Sanjana Ahuja pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.

This article has been edited and published by Shashwat Kaushik.

Introduction

As per Section 2(h) of the Indian Contract Act of 1872, the term “contract” is defined as an agreement that is enforceable by law. Such an agreement must be made between two or more parties forming consideration for each other and only based on its enforceability would it earn the status of being called a contract.

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One of the primary ingredients of a contract stems from the promise made by the parties to a contract to each other, leading to the formation of a contractual relationship between them for the enforcement of their rights and obligations.

Meaning and scope of privity of contract

Privity of contract is a common law doctrine that states that only the parties to a contract can either enforce the benefit or be held liable for any obligation under the contract. No rights can be conferred or obligations can be imposed by a contract on anyone who is not a party to it. Hence, any third party or a stranger who is not a party to a contract cannot enforce the contract on itself, unless it is expressly provided for in the contract or purports to confer such benefit.

This doctrine is based on the underlying principle of the “interest theory,”  which states that only those persons who have an interest in the contract have the recognition in law to protect them. In other words, only parties to a contract can sue or be sued.

Privity of contract has 3 broad effects:

  1. A third party cannot receive a benefit if he is not a party to that contract
  2. A third party cannot be held liable under a contract if he is not a party to that contract
  3. A third party cannot enforce a contract if he is not a party to that contract

Illustration:

Arjun (seller) enters into a contract with Vishal to sell goods, specifying the price, quantity and delivery date of the said goods. Now, if Arjun defaults on delivery of the goods on the agreed date, Vishal can sue Arjun for breach of contract. However, if Kiran, who is not a party to a contract, suffers loss from such a breach, cannot sue Arjun for breach of contract.

Essentials of privity of contract

  • Valid contract: The basic requirement for privity of contract to come into play is that it should be a valid contract. The parties entering into a contract must be competent; there should have been free consent and some consideration must be exchanged among them to satisfy the conditions under the provisions of the Indian Contract Act, 1872.
  • Breach of contract: The second essential requirement is that one party must be liable for breach of contract to allow the other party to be able to enforce his rights.
  • Only parties can sue each other: As a final requirement, only the parties to a contract can sue each other in case of non-performance, unless the third party falls under the exceptions. 

Privity of contract in English vs Indian law

As a general rule under common law, a person who has not provided consideration for an agreement cannot sue under contract law to enforce it. There must be a movement of consideration from the person who is seeking to enforce the contract.

In the landmark case of Tweddle vs. Atkinson, the plaintiff’s claim for breach of contract was dismissed by the court. The central issue revolved around the enforceability of a contract between two fathers, where the son of one father was promised a sum of money upon his marriage to the daughter of the other father.

The court held that the plaintiff, the son, lacked the legal standing to enforce the contract. The rationale behind this decision was that he was not a party to the contract. The agreement was entered into solely between the two fathers, and the son was not privy to the discussions or negotiations. Therefore, he could not claim the rights and benefits arising from the contract.

Furthermore, the court ruled that the plaintiff had not provided any consideration in exchange for the promise made by the bride’s father. Consideration is an essential element of a legally binding contract. It refers to the value or benefit exchanged between the parties in return for the promises made. In this case, the son had not offered anything of value or performed any act in exchange for the promise of money.

The court also highlighted the legal principle of privity of contract. This principle establishes that only the parties to a contract can enforce or be bound by its terms. Since the plaintiff was not a party to the contract, he could not enforce it against the bride’s father.

The Tweddle vs. Atkinson case serves as a precedent in contract law, emphasising the importance of contractual privity and consideration. It clarifies that a third party cannot enforce a contract to which they are not a party, even if they were beneficiaries of the promises made.

In Dunlop Pneumatic Tyre Co. Ltd. v. Selfridge Ltd. (1915), the Court’s decision hinged on the principles of contract law and the concept of privity of contract. The Court held that Dunlop, despite being the manufacturer of the tyres supplied to Dew, could not claim damages from Selfridge because Dunlop was not a party to the contract between Dew and Selfridge.

The Court reasoned that a contract is a legally binding agreement between two or more parties, and Dunlop was not privy to the contract between Dew and Selfridge. As such, Dunlop had no legal standing to enforce the terms of the contract or seek compensation for any alleged breach.

Additionally, the Court considered the issue of consideration, which is an essential element of a legally binding contract. Consideration refers to the exchange of something of value between the parties to a contract. In this case, Dunlop had not provided any consideration directly to Selfridge. While Dunlop had supplied the tires to Dew, this transaction was separate and distinct from the contract between Dew and Selfridge.

Furthermore, the Court noted that Dunlop had not communicated any terms or conditions to Selfridge regarding the sale of the tyres to Dew. Therefore, Selfridge could not have reasonably known that Dunlop intended to impose any obligations on them.

The Court’s decision in Dunlop v. Selfridge established the precedent that a third party, such as Dunlop, cannot enforce a contract to which they are not a party and have not provided consideration. This principle helps to maintain the integrity of contractual relationships and ensures that only those parties who have agreed to the terms of a contract are bound by its provisions.

The position of this doctrine is the same as in the Indian Contract Act, 1872, with the only difference being that under Indian law, a stranger or third party can sue if there is involvement of consideration, as opposed to such a position in England.

In the case of Jamna Das vs. Ram Autar (1911), the Privy Council held that there was no contract between the plaintiff and the other party. The plaintiff, hence, cannot sue for damages since he is a stranger to the contract. However, in Donoghue vs. Stevenson (1932), the same principle wasn’t followed. Ms. Donoghue’s friend bought a faulty ginger beer that contained a partly decomposed snail, leading Ms. Donoghue to file a suit claiming damages. Even though the contract here was between her friend and the shop owner, it was observed that the manufacturer had some duty to care for and commit to his customers. Hence, she was awarded damages for the same.

Consideration in the privity rule of contract law

As stated before, the main and only point of difference between English law and Indian law is that a person can sue even if he is a stranger to the consideration. The scope of Privity is much wider under Indian law, as the definition of consideration and its importance also have a wider scope than that in English law. Hence, it is critical to understand the meaning and implications of the definition of consideration under Indian contract law.

Section 2(d) of the Indian Contract Act, 1872, explains the meaning of consideration as an act that can be established at the desire of the promisor, promise or any other person. Admittedly, it must benefit all the parties to a contract, so it may be described as any exchange of value among the parties. 

Illustration:

Anita promises Ruhi that she will give her a pair of jeans in exchange of Rs. 500. But the money is given by Sita to Anita. Hence, it is evident that even if consideration is given by a third party to a contract, its existence is still significant.

In the landmark case of Venkata Chinnaya Rau vs. Venkataramaya Garu and Ors. (1882), the Hon’ble Madras High Court delved into the intricate legal concept of consideration in Indian contract law. The court’s decision clarified that, contrary to popular belief, consideration in a valid contract does not necessarily have to flow solely from the promise made by the promisor.

The crux of the matter revolved around the interpretation of Section 2(d) of the Indian Contract Act, 1872, which defines consideration as “anything of value promised to or received by the promisor from the promisee in exchange for the promise.” Traditionally, it was assumed that consideration must originate exclusively from the promisee. However, the Madras High Court’s ruling challenged this notion.

The court meticulously examined the language of Section 2(d) and concluded that the term “from the promisee” should not be interpreted restrictively. By doing so, the court opened up the possibility of consideration flowing from a third party or even from the promisor themself. This interpretation aligns with the broader principles of contractual fairness and ensures that both parties to a contract are adequately compensated for their respective obligations.

The court’s decision in Venkata Chinnaya Rau vs. Venkataramaya Garu and Ors. has had a profound impact on Indian contract law. It has broadened the scope of consideration and recognised that the exchange of value in a contract can take various forms. This interpretation has facilitated the creation of more nuanced and flexible contractual arrangements, allowing parties to structure their agreements in ways that accurately reflect their intentions and expectations.

Overall, the Madras High Court’s ruling in this case serves as a testament to the dynamic and evolving nature of Indian contract law. By recognising that consideration can flow from multiple sources, the court has ensured that the law remains adaptable to the ever-changing needs of businesses and individuals alike, fostering a more just and equitable contractual landscape in India.

Exceptions to the rule of privity to the contract law

There are certain exceptions to the rule of Privity under the Indian contract law put in place by several judges through judgements to adapt to the ever changing conditions of the market:

Beneficiary trust

When two people enter into a contract for the benefit of a third party, then the said third party (beneficiary) has the right to sue and enforce his right in case of non-performance.

In the case of Muhammad Rustam Ali Khan vs. Husaini Begum, the father and father-in-law of Husaini Begum, the plaintiff, got into an agreement that, as a consideration for getting into marriage with his son, the plaintiff would be paid Rs. 500/- per month as her Betel-leaf expenses and some immovable property was also charged for payment of these expenses. So when the plaintiff filed a suit for recovery, it was held that even though she was not a party to the contract, she was entitled to enforce her claim as a beneficiary of the same. 

Provision for maintenance or marriage under family settlement

This exception was brought into force so as to protect the rights of those family members who are most likely to not get any specific share of the property, while also stressing more on the will of the testator. 

For instance, if Raj has stated in his will that, after his death, his 3 sons will only receive their share of the property after each one of them pays Ruchi (his daughter) 1 lakh rupees, then such a condition has to be fulfilled. Otherwise, Ruchi, even though she is not a party to the contract, would be in a legal position to sue any of her brothers if they failed to comply with this condition. Additionally, his 3 sons would also not receive their respective shares of the property. 

Agency

The base point here is, that if one of the parties to a contract enters through an agent, then on the breach, either the agent or the principal, but not both, can sue for such a breach. In these situations, it is absolutely irrelevant whether the one party had knowledge of the other party entering through or as an agent.

Conduct, acknowledgement or admission

In a situation where privity of contract may not exist between the parties to a contract, if one of the parties acknowledges the contract by his conduct or in any way that leads him to recognise the rights of the other parties, then he may be liable on the basis of the estoppels.

It was held in the case of Narayani Devi vs. Tagore Commercial Corporation Ltd. that even though there is no contract between the plaintiff and the defendant, the defendants had created such a privity by their conduct, acknowledgement and admission that the plaintiff was entitled to her action.

Conclusion

From the above discussion, it is evident that for a breach, only parties to the contract can sue and a stranger to the contract is not entitled to the same right. However, the developing circumstances have led to the formation of certain exceptional cases wherein even a stranger to the contract has been given a right to file a suit against the parties to the contract.

Under Indian law, a “stranger to consideration” can sue but a “stranger to a contract” has absolutely no right to enforce the contract, as opposed to its position under English law. 

References

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