How to terminate a contract

Terminating a contract brings it to an end and releases the parties from their contractual obligations.

There may be reasonable commercial reasons why one party wants to terminate a contract, including dissatisfaction with the other party’s performance or non-payment for goods or services in line with the agreed terms.

How to legally terminate a contract

Even where there’s a commercially sound reason for wanting to end a contract that no longer serves its original purpose, it must be validly terminated. This must be done in accordance with any contractual termination rights or the common law right to terminate.

The first step is to determine whether there has been wrongdoing by the other party that legally qualifies as a sufficiently serious breach of their contractual obligations to justify termination.

If there has been such a breach, the next step is to identify whether the innocent party can rely on a contractual or common law right to terminate.

Contractual rights are express rights set out in the contract. These provisions usually specify trigger events or specific circumstances that allow the parties to terminate the contract. Their advantage is that they provide some certainty about how and when termination may take place. These terms can also be tailored to the parties’ specific commercial needs at the negotiation stage.

The common law right to terminate is implied into a contract by law, unless expressly excluded. This right arises where one party breaches the contract so seriously that the other party can no longer substantially enjoy the whole benefit of the contract. Whether this ground can be relied upon is often ambiguous and has been considered many times by the courts.

Where there are legal grounds to terminate the contract, notice must be given in accordance with the contract’s notice provisions. These usually deal with the form of the notice, timing and method of delivery. All provisions must be followed to validly notify the other party of termination.

Can damages be claimed on termination of a contract?

If the court agrees that the offending party was in sufficient breach of their obligations and the contract has been legally terminated, the innocent party will be entitled to damages.

The starting point for calculating damages is to put the innocent party in the position it would have been in had the contract been properly performed.

An advantage of relying on the common law right to terminate, if possible, is that damages can take account of future performance of the contract. As a result, damages awarded under common law are typically higher than those available where contractual termination rights are relied upon to terminate.

Risks and consequences of wrongfully terminating a contract

There are risks associated with terminating a contract and doing so can give rise to a dispute.

Whether a party’s conduct amounts to a sufficiently serious breach to justify termination can be arguable, especially where there’s ambiguity in the contractual termination provisions.

When relying on the common law ground to terminate, if it’s unclear whether the alleged breach of contract is serious enough, there’s a risk that the court will decide the breach doesn’t justify termination and that the termination is invalid.

If a contract is not validly terminated, the termination itself may amount to a serious breach of contract. This could give rise to a claim against the terminating party, for which damages could be sought.

Given the complexities and risks involved, it’s important to seek legal advice before taking any steps to terminate a contract.