The doctrine of utmost good faith in commercial agreements

In an ordinary commercial contract, the general law allows parties to the contract to make the best bargain possible. The law of contract pervades virtually all spheres of human activity. The commercial and economic life of modern society consists very largely of agreements. Economic activity could be chaotic if not well taken care of.

A contract is an agreement between two or more parties which create reciprocal legal obligation to do and not to do particular things. For a contract to be valid there must be mutuality of purpose and intention. The law presumes the presence of a contractual intention in commercial agreements. Most cases of commercial agreements are hardly being challenged for the absence of a contractual intention; this is because parties to a contract either orally or in written form subconsciously accept it as a matter of fact.

However, contracts uberrimae fidei are those in which parties possess full knowledge of the material facts and must deal in good faith. The law, therefore, requires such persons to show uberrimae fide, so that the other party is not put in a disadvantaged position. Class of contracts which the law recognizes as contracts uberrimae fidei include insurance contracts, family arrangement, sale of land, partnership contracts, the sale of a company’s shares, employment contracts and fiduciary relationship contracts.

In contracts within these categories, parties are legally required and bound to each other. Before the contract is concluded every bit of information which is material to the facts of the proposed or intended contract. These type of contracts places emphasis on the doctrine of utmost good faith as it relates to the duty of disclosure in commercial agreements. Therefore full disclosure of material facts is pivotal to contracts uberrimae fidei. However, failure to disclose makes the contract voidable for misrepresentation at the instance of the other party.

PRINCIPLE

In general terms, the principle of utmost good faith is a common law principle but in time it has been elevated to a statutory principle with the specific provisions for duty of disclosure in virtually all contract agreements. Although, some people have agreed that this principle does not exist in the real sense, as it might be seen as a norm whose content cannot be established in an abstract way but which depends on the facts of each case. The principle of utmost good faith is derived from the express provision of the duty of disclosure; both could be described as a co-terminus, which can be used interchangeably.

Generally, the nature of the subject matter of contract uberrimae fidei is a key principle in contract law, wherein the party with the knowledge of the subject matter must disclose everything pertaining to all the facts and circumstances of the subject matter. Usually, the rule of “CAVEAT EMPTOR” applies in commercial contract which means “let buyer beware”; this rule states that there is no need for the promisor to draw the attention of the other party to anything which might influence his judgment one way or the other.

Since contract law is that which the law enforces or recognises as affecting the legal rights and duties of the parties by placing a party (promisor) under obligation to enforce the promise or to obtain a remedy for breach of agreement between parties, to make the situation more equitable, the law therefore imposes a duty of “Uberrimae Fidei” or “utmost good faith” on the parties in these classes of contracts. The contract is deemed to be one of faith or trust.

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CLASSES OF UBERRIMAE FIDEI CONTRACT

Insurance contract

Insurance contracts are the most common type of uberrimae fidei contracts. Since the insurance company agrees to share the risk of loss with the insured or policyholder, it is therefore necessary that the insured person acts in good faith by fully disclosing all information that affects the insurance company’s level of risk. He is under a fundamental duty to d isclose all material facts and surrounding circumstances that could influence the decision of the other party. These are facts that would influence the judgment of a prudent underwriter in fixing the premium or determining whether they will take the risk or not.

The insurance company is not usually and generally aware of these facts unless the proposer tells the truth of all circumstances surrounding the subject matter. The insurer is at a disadvantage as he is not aware of all relevant and material facts of the subject matter. Although, the insurer may have ensured a due diligence or investigation is carried out on such subject matter, he must still rely on information given by the proposer in order to be aware of relevant information which are not apparent at the time of the investigation.

Full disclosure of facts allows the insurer to protect itself by charging the policyholder a premium that accurately reflects the level of risk it is undertaking or even refuse to issue a policy if the risk is too high, while non-disclosure or partial disclosure makes such agreement voidable. The test to be applied to ascertain whether a fact is material and should be disclosed does not depend on the ordinary opinion of the insured or that of the insurer but it depends on that of a prudent and reasonable insurer. However, such opinion is not binding on the court as it’s an issue to be determined on question of fact.

Companies

While companies invite the public to buy their shares, this is usually accompanied by a statement of the company’s financial position, value of assets, state of the company’s business, profits and dividends declared, etc. Therefore, it could be said that all material facts which could help the public decide whether to buy a share or not are particularly within the knowledge of the company comprising of the Board of Directors and officials. It is therefore necessary, that the company disclose all relevant facts.

To invite the public for sales of shares, a prospectus is the appropriate document to use. It is a formal written document to sell companies securities, giving details about the company and its activities .This is SSusually issued by a person authorised to do so, on behalf of the company who intends to sell its shares. The prospectus is a disclosure document containing the financial information and a description of the company’s business history, officers, operations, pending litigation (if any) and plans (including the use of the proceeds from the issue). Thus, the prospectus must disclose the minimum subscription, names and address of directors, the preliminary expenses payable by the company, the working capital etc.

All matters should be disclosed in every prospectus issued by or on behalf of a company inviting the public to subscribe to the shares of the company and any person who authorises the issuance of a prospectus which represents any untrue statement or fact is guilty of a criminal offence. Any contract to waive these requirements will therefore be void.

Partnership

Partnership is a relationship of uberrima fides – utmost good faith. The law on partnership makes the partners severally and jointly liable for all the debts and obligations of the partnership. It is therefore fundamental for all partners to show the utmost good faith in their dealings with each other. As was held in the case of Blisset v. Daniel (1853) 10 Hare 493, 522 where per Sir W. Page Wood V.C held “….the court presupposes in every contract and there can be a different, more especially in every contract of partnership, a basis of good faith upon which all the stipulation contained in the deed must rest”.

Where a partner in a partnership agreement breaches the principle resulting in loss of mutual confidence between partners, thereby rendering the continuation of the business impossible, it might be in the opinion of the court to render it just and equitable to dissolve the partnership.

Sale of land

Contracts for the sale of land do not strictly require uberrimae fidei. In a contract of sale of land the vendor does not have to disclose all material facts surrounding the subject matter. The vendor might chose to disclose material facts in certain circumstance if he chooses. Failure to disclose will give the purchaser the power to rescind the contract.

CONCLUSION

The principle of good faith is universally important, being set forth in the law of many jurisdictions, as well as international treaties and conventions. Each country with its own legal system has this principle embedded in a particular arrangement of doctrine, where it plays its own distinctive role by governing legal relationship and with other rules which are able to maintain equal, justice and fairness between the parties, thereby avoiding bad faith acts.

However, parties to commercial agreements therefore must observe the duty of disclosure as required under law embedded with doctrine of utmost good faith to govern the legal relationship and to ensure a higher level of legal certainty.

Tokunbo Orimobi, LP