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Illigality and public policy details by oxford

  1. 1. Web 2Illegality and public policy‘The law does not allow us to contract about this’The illegality doctrine relates to contracts which are illegal or contrary to public policy(hereafter ‘illegal contracts’). Contracts may be tainted by illegality because makingsuch contracts is itself prohibited or, more usually, because its means (the method ofperformance) or ends (purpose) are illegal. Contracts which become illegal by changes inthe law subsequent to formation are dealt with by the doctrine of frustration (see ch 7).On one view, the illegality doctrine represents the most open and direct interferencewith contract parties’ freedom to determine the substance of their contracts. An alter-native view is that it designates the class of ‘unworthy’ contracts to which the law willnot lend its support or force (see 12.9). As Lord Mansfield explains in Holman v Johnson(1775), courts will not assist one whose cause of action is founded upon an immoral oran illegal act (‘ex dolo malo non oritur actio’). Thus, courts will generally refuse to enforcean illegal contract even though the contract meets all the requirements of formation(Part I) and is otherwise untainted by any vitiating factor (Part II). Furthermore, withexceptions, courts will generally refuse to award restitution of any money or propertytransferred under it. For example, no remedy was given in: • Parkinson v College of Ambulance Ltd (1925) where P ‘donated’ £3,000 to C on the promise of C’s secretary to procure a knighthood for P which failed to eventuate, and • Pearce v Brooks (1866) where P hired out an ornamental carriage to B, a prostitute, for use in her trade but which B returned in a damaged condition and refused to pay for.The questions to be considered are: (1) What are illegal contracts? (2) When are contracts exceptionally enforceable despite their illegality? (3) When will restitution exceptionally be allowed of the benefits transferred under an illegal contract?The case law is vast and the answers to these questions are far from simple. The distinc-tion is sometimes made between ‘illegal’ and ‘void’ contracts.1 However, the distinctionis apt to confuse, since their consequences are not clearly distinguishable and courts 1 Eg M Furmston, Cheshire, Fifoot and Furmston’s Law of Contract (14th edn, Butterworths, 2001) 449. © Mindy Chen-Wishart 2008
  2. 2. W14 ILLEGALITY AND PUBLIC POLICYsometimes use the terms interchangeably. Thus, ‘illegality’ is used to refer to the wholerange of cases where contract law denies a contract its ordinary legal consequencesbecause of some prohibition, breach of duty, or contravention of public policy. We willsee that the consequences of illegality vary according to factors such as: • the nature and seriousness of the illegality, • how far the contract was carried through, • the parties’ states of mind, and • the intricacies of certain property and trust law rules.W2.1 What are illegal contracts?Diagram W2A gives an overview of the types of illegality.W2.1.1 Statutory illegalityA contract may be illegal because its formation, purpose, or performance contravenessome statute or the common law. It is difficult to generalise about the wide range ofstatutory prohibitions although they are often designed to secure fair trading condi-tions, safeguard property and personal safety, and prevent competitive markets frombeing undermined.2 Some examples are the prohibition on the marketing or sale of cer-tain knives (Restriction of Offensive Weapons Act 1959; Offensive Weapons Act 1996;Knives Act 1997) and the sale of body parts (Human Organ Transplants Act 1989). Manycommon law illegalities (see W2.1.2) have become the subject of statutory control orprohibitions. The relevant statute may stipulate different consequences. For example: • expressly prohibit the making of the contract (courts are reluctant to imply a prohibition) barring enforcement by or restitution to either party (Re Mahmoud and Ispahani (1921)); • only bar enforcement by one of the parties (eg s 40 Consumer Credit Act 1974; s 77 Sex Discrimination Act 1975; s 72 Race Relations Act 1976; ss 26, 27 Financial Services and Markets Act 2000); • permit enforcement by either party because the statutory intent is only to impose a penalty and not to deny contractual enforcement (St John Shipping Corporation v Joseph Rank Ltd (1957)); or • render the contract void and unenforceable but not bar restitution (eg s 10 Bill of Sales Act 1878; s 395 Companies Act 1985).Where statutes are silent (as they often are) on the effect of the illegality on the contractwhile setting out the administrative and penal sanctions, courts must decide the con-sequences on the same general principles as are applicable to common law illegality (seeW2.2). Mohamed v Alaga & Co (2000) involved an oral contract by M to introduce 2 Collins, 51. © Mindy Chen-Wishart 2008
  3. 3. ILLEGALITY AND PUBLIC POLICY W15refugees to A (and act as translator) in exchange for half the legal aid fees A could claimfor work in respect of the refugee’s immigration and asylum applications. The contractwas unenforceable by reference to legislation3 preventing solicitors from sharing theirfees. However, the Court of Appeal allowed M’s claim for quantum meruit (the value ofservices) because the parties would not equally to blame. A had knowingly disregardedthe professional conduct rules, while M had been unaware of any impropriety in thearrangement. Section 335(1) Gambling Act 2005 states that ‘the fact that a contract relates to gam-bling shall not prevent its enforcement’ provided that it is not otherwise unlawfulDiagram W2A Overview: Categories of illegal contracts 3 Rule 7 of the Solicitors Practice Rules 1990, made pursuant to section 31 of the Solicitors Act 1974. © Mindy Chen-Wishart 2008
  4. 4. W16 ILLEGALITY AND PUBLIC POLICY(s 335(2)). This reverses the previous bar on enforcement and restitution in respect ofgaming and wagering contracts.W2.1.2 Common law illegalityWith statutory illegality, courts discern and apply the conception of public policy con-tained therein. However, where courts refuse to recognise a contract as contraveningpublic policy at common law, they are vulnerable to the usual charges of: • usurping the function of Parliament; • giving effect to their subjective opinions on matters of morality and the public good; and • undermining the freedom, sanctity, and stability of contracts.Burroughs J saw public policy as ‘a very unruly horse, and when once you get astride ityou never know where it will carry you’ (Richardson v Mellish (1824) at 252). LordDenning’s predictable response is that ‘with a good man in the saddle, the unruly horsecan be kept in control. It can jump over obstacles. It can leap the fences put up byfictions and come down on the side of justice’ (Enderby Town Football Club Ltd v TheFootball Association Ltd (1970) at 1026). The categories of public policy are often said to be closed. Characteristically, the pic-ture painted is of general respect for the sanctity of contract, subject to a series ofexceptions established by precedents. While it is still not open to courts to reject a con-tract unless it falls within one of the well-established ‘heads’ of illegality, courts havebeen willing to extend existing categories to reflect changing social and moral values.As Dankwerts LJ said in Nagle v Feilden (1966 at 650): ‘[T]he law relating to public pol-icy cannot remain immutable. It must change with the passage of time. The wind ofchange blows upon it.’ Chitty concludes (at [16–004]) that ‘the difference betweenextending an existing principle as opposed to creating a new one will often be wafer-thin’. In a system of law which evolves (albeit gradually), like the common law, thecontent of the public policy (which reinforces the law) cannot remain static, but mustchange with the evolution of public opinion, morality, and legislative policies. Pause for reflection The law fails if it does not reflect a society’s changing values over time. For example, the older cases reflect a preoccupation with gambling, marriage brokerage, and unmarried cohabitation. Today we may be more concerned with the commercialisation of babies, child labour, body parts, reproductive services, sex, weapons, and addictive drugs. Other contemporary examples of objectionable or ‘unworthy’ contracts are mentioned above (see 12.9). We will see that in Tinsley v Milligan (1993) the objection was not the lesbian co-habitation but the social security fraud (see W2.2.2.3)), and that the scope of impermissible restraint of trade has been modified in response to changing economic conditions (see W2.1.2.9).Writers disagree on how to categorise the ‘heads’ of public policy, but the differences arelargely of exposition rather than of substance. A detailed account of each category is not © Mindy Chen-Wishart 2008
  5. 5. ILLEGALITY AND PUBLIC POLICY W17proposed here (see further Treitel, 430–80; Beatson, 348–95); the law of restraint oftrade, for example, fills whole books. What follows is a brief overview of the kinds ofcontracts held at common law to contravene public policy.W2.1.2.1 Contracts to commit a crimeThis is the most obvious category of illegal contracts. Examples include contracts which: • breach building licence regulations (Bostel Bros Ltd v Hurlock (1949)); • breach exchange controls (Bigos v Bousted (1951)); • defraud the revenue (Miller v Karlinski (1945)); • defraud the rating authority (Alexander v Rayson (1936)).This public policy also taints any contract which: • enriches someone for acting unlawfully (in Beresford v Royal Insurance Co Ltd (1938), a person insured his own life for £50,000 and then committed suicide (then a crim- inal offence); his estate could not claim although the policy expressly covered suicide); • although lawful in itself, is made to further a criminal or civil wrong (in Langton v Hughes (1813), juices and spices were sold to be used illegally for flavouring beer).An offence committed in the course of an otherwise legal contract will not necessarilytaint the contract (see further W2.2).W2.1.2.2 Contracts made for the deliberate commission of a civil wrongExamples include contracts to: • beat up another person (Allen v Rescous (1676)); • publish a libel (Clay v Yates (1856)); • perpetrate a fraud (Willis v Baldwin (1780)); • indemnify a person against loss resulting from his own deliberate criminal or tortious act (Brown Jenkinson & Co Ltd v Percy Dalton (London) Ltd (1957)).W2.1.2.3 Contracts interfering with the administration of justiceContracts which amount to a conspiracy to pervert the course of justice include agree-ments: • to stifle a prosecution (R v Andreas Panayiotou (1973), for rape); • to refrain from disclosing misconduct which ought to be disclosed to those with a proper interest to receive it (Initial Services Ltd v Putterill (1968), unregistered price- fixing agreement, and see A-G v Guardian Newspapers Ltd (No 2) (1990); • to give false evidence in criminal proceedings (R v Andrews (1973)); • to obstruct bankruptcy proceedings (Elliott v Richardson (1870)); • to ‘maintain’ or support litigation in which he has no legitimate concern without just cause or excuse (Hill v Archbold (1968)); although ‘just cause and excuse’ is now © Mindy Chen-Wishart 2008
  6. 6. W18 ILLEGALITY AND PUBLIC POLICY widely interpreted (Giles v Thompson (1993) at 328–33) to permit litigation sup- ported by unions or insurance companies; • of ‘champerty’ (ie financing another’s litigation with a view to taking a share in its proceeds) which amounts to an aggravated form of maintenance (Giles v Thompson); but section 58 of the Courts and Legal Services Act 1990 and section 27 of the Access to Justice Act 1999 permit certain ‘no win, no fees’ and other condi- tional fee agreements between lawyers and their clients in the interest of increasing access to justice.W2.1.2.4 Contracts to oust the jurisdiction of the courtsIt is contrary to public policy to deny the important constitutional principle of accessto the courts for redress against legal injuries. However, the law must balance this withthe competing interest of facilitating speedy, convenient, and affordable dispute reso-lution. Thus, parties can agree not to resort to the courts until they have gone to arbi-tration (Scott v Avery (1855)). Under the Arbitration Act 1996 (s 45, 87), although partiescan still appeal to the courts on questions of law, the scope of judicial control is muchreduced. For example, an appeal requires both parties’ agreement or leave of the court,and parties can exclude the court’s jurisdiction in ‘non-domestic arbitration agree-ments’ and in ‘domestic arbitration agreements’ if entered into during the arbitrationproceedings. Separation agreements in which a wife agrees not to apply for maintenance in returnfor the husband’s payments are unenforceable. The court’s power to award mainte-nance cannot be ousted (Hyman v Hyman (1929), although wives can enforce the prom-ised payments if the agreement is in writing (Matrimonial Causes Act 1973, s 34).Contract clauses which make claims more difficult to prove are controlled by the UnfairContract Terms Act 1977 (s 13(1)). Standard terms in consumer contracts which ‘hindera consumer’s right to take legal action’ are presumptively unfair and unenforceableunder the Unfair Terms in Consumer Contracts Regulations 1999 (Sch 2 [1(q)]).W2.1.2.5 Contracts prejudicial to the stateA wide range of cases are included. Examples are: • contracts to commit illegal acts in friendly foreign countries (eg to facilitate the forceful overthrow of the government of a friendly country: De Wutz v Hendricks (1824)); • trading with the enemy in wartime, thus aiding the enemy’s economy (Potts v Bell (1800), now Trading with the Enemy Act 1939); • contracts which corrupt public life (eg buying public offices or honours, Parkinson v College of Ambulance Ltd (1925), now prohibited by the Honours (Prevention of Abuses) Act 1925); • contracts whereby a public official is paid a commission to use his position to procure benefits for another (Montefiore v Menday Motor Components Co (1918); Lemenda Trading Co Ltd v African Middle East Petroleum Co Ltd (1988)) or to vote in a certain way (Osborne v ASRS (1910)). © Mindy Chen-Wishart 2008
  7. 7. ILLEGALITY AND PUBLIC POLICY W19W2.1.2.6 Contracts which further sexually immoral purposesAlthough it is sometimes said that contracts against good morals are void, traditionallythis means contracts perceived to promote extra-marital sexual intercourse. In the past,courts have refused to enforce: • a promise to pay a woman to be a mistress (Franco v Bolton (1797)); • a promise to pay rent on premises known to accommodate the promisor’s mistress (Upfill v Wright (1911)); and • contracts between unmarried cohabiting couples.The same results are unlikely to be reached today. Parliament and courts have conferredsome rights on unmarried cohabitees analogous to that of married couples, and judicialattitude reflects the growing incidence of extra-marital relationships and changingsocial mores.4 In Tinsley v Milligan (1994), illegality was not advanced on the basis thatthe parties to the agreement were lesbian lovers. And, in Armhouse Lee Ltd v Chappell(1996) the Court of Appeal denied that an agreement to advertise telephone sex lineswas unenforceable for immorality; indeed, the court criticised C’s ‘brazen cynicism’ inattempting to avoid payment for A’s work which generated enormous profits for C bypleading his own immorality. However, agreements involving prostitution are likely to remain unenforceable (egrent for premises knowingly let for prostitution in Girardy v Richardson (1793) or hire ofan ornamental carriage knowingly let to further a prostitute’s trade in Pearce v Brooks(1866)). Where a contract of employment requires an employee to procure prostitutesfor the employer’s customers, this would be unenforceable for illegality (Coral LeisureGroup Ltd v Barnett (1981)).W2.1.2.7 Contracts prejudicial to family lifeThis covers two types of cases. First, it invalidates contracts prejudicial to the institutionof marriage, for example: • contracts not to marry (Lowe v Peers (1768)), or to pay a sum on marriage (Baker v White (1690)); • paying someone to procure marriage (Hermann v Charlesworth (1905)), although the need to condemn such contracts in modern times is questionable when dating agencies are commonplace; • separation agreements entered while spouses are living together, since they may induce parties not to perform their matrimonial duties (Cartwright v Cartwright (1863)), but such agreements are valid if made in anticipation of immediate separation.Secondly, it invalidates attempts by parents to contract away their parental rights andduties in relation to their child (section 2 Children Act 1989), subject to the AdoptionAct 1976. A surrogacy agreement, by which a woman agrees to carry and bear a child foranother who will assume the parental role, is unenforceable (section 1A SurrogacyArrangements Act 1985, as amended by section 36 of the Human Fertilisation and 4 See Eves v Eves (1975) and Part IV of the Family Law Act 1996. © Mindy Chen-Wishart 2008
  8. 8. W20 ILLEGALITY AND PUBLIC POLICYEmbryology Act 1990, Re P (Minors) (Wardship: Surrogacy) (1987)). Parents cannot byagreement oust the court’s inherent jurisdiction to make orders regarding the upbring-ing and maintenance of children. Pause for reflection Rapid medical advances now raise very difficult and controversial questions about the desirabil- ity of supporting other contracts in this category, such as contracts to select the gender or other attribute of one’s baby and to clone human beings.W2.1.2.8 Contracts unduly restrictive of personal libertyThe most obvious example is the prohibition against self-enslavement, but evenemployment contracts must not contain ‘servile elements’. A loan agreement inHorwood v Millar’s Timber & Trading Co Ltd (1917) stipulated that the debtor, a clerk, was‘not allowed to move to another district and become a clerk elsewhere, not allowed toleave his house, however unhealthy it may be, and not allowed to deal with any part ofhis unincumbered [sic] furniture or other property without the leave of the money-lender.’ Lord Cozens-Hardy MR observed that the agreement could prevent the debtorfrom raising money for the maintenance, education or medical treatment of his family.He commented (at 312) that ‘Possibly slavery is too strong a word, but it certainlyseems . . . to savour of serfdom’. Warrington LJ added (at 314) that: ‘The man has puthimself . . . almost body and soul in the power of this money-lender. Even in the mosttrivial incidents of life he cannot do as he pleases.’W2.1.2.9 Contracts in restraint of tradeIn practice, this is the most important head of illegality in modern time. A contract orcovenant in restraint of trade is an undertaking whereby one party agrees: • to restrict his freedom to trade or conduct his profession or business (what) • in a particular locality (where) • for a specified period of time (when).Such restraints are only valid if they are reasonable. The common law is inclined againstagreements that prohibit or restrain a person from earning a living. Here, the lawappears to impose a substantive limit on contractual freedom in order to preserve it. InNordenfelt v Maxim Nordenfelt (1894) it was said (at 565): The public have an interest in every person’s carrying on his trade freely: so has the indi- vidual. All interference with individual liberty of action in trading, and all restraints of trade of themselves, if there is nothing more, are contrary to public policy, and therefore void. That is the general rule. But there are exceptions: . . . [it] may be justified . . . if the restriction is reasonable . . . in reference to the interests of the parties concerned and rea- sonable in reference to the interests of the public, so framed and so guarded as to afford adequate protection to the party in whose favour it is imposed, while at the same time it is in no way injurious to the public. © Mindy Chen-Wishart 2008
  9. 9. ILLEGALITY AND PUBLIC POLICY W21The doctrine applies to three principal types of contracts: (i) employment: where an employee covenants not to compete with his employer during or after his employment; (ii) sales of businesses: where the seller of a business and its goodwill covenants not to carry on competing businesses; and (iii) exclusive dealing agreements: as where a garage agrees to buy all its petrol from one supplier for a lengthy period (Esso Petroleum Co Ltd v Harper’s Garage (Stourport) Ltd (1967) hereafter ‘Esso v. Harper’).In a sense, all contracts involve some restrictions on future freedom of action and it maybe a moot point in any particular case whether a contract does involves a restraint oftrade. Atiyah observes (326) that: it would certainly be wrong to conclude that all contracts containing restrictions are now open to challenge as contracts in restraint of trade, and must be shown to be ‘rea- sonable’ if they are to be valid. Many customary and accepted forms of business agree- ment are probably still unchallengeable (at any rate under the common law rules), even though they may strictly involve some degree of business restraint. In particular, it has been held that a person who buys land (or a building) may validly enter into some restrictions on how the land is to be used without falling foul of the restraint of trade doctrine.The general test of enforceability is whether the restrictions on the relevant activity (interms of scope, time and locality), are no more than what is reasonably necessary to pro-tect the legitimate interests of the party imposing the restraint (Esso v Harper). The onusof proving reasonableness is on the party imposing the restraint. This test must balance: • the pro-enforcement factors, such as the legitimate interests of purchasers of businesses to prevent competition by vendors, or of an employer by a former employee, • against the anti-enforcement factors, such as the public interest in free competition, an employee’s interest in retaining reasonable freedom to pursue a vocation and the concern to protect employees from unfairness resulting from their weaker bar- gaining power vis-à-vis their employers.(i) Employment contractsEmployers are generally permitted more protection against the subsequent activities ofsenior employees (Nordenfelt Ltd v Maxim Nordenfelt Guns and Ammunition Co Ltd (1894))than of junior or temporary employees (M&S Drapers Ltd v Reynolds (1957)). Theemployer must satisfy two aspects of reasonableness. First, the employer must establishhis legitimate interest in imposing the restraint; that is, that he has ‘some proprietaryright, whether in the nature of trade connection or in the nature of trade secrets, for theprotection of which such a restraint is . . . reasonably necessary’ (Herbert Morris Ltd vSaxelby (1916) at 710). Thus, it was held to be reasonable to restrain employees: • who have acquired influence over the employers’ customers and may entice them away (eg Fitch v Dewes (1921), a solicitor’s managing clerk; Marion White v Francis (1972), a hairdresser); or © Mindy Chen-Wishart 2008
  10. 10. W22 ILLEGALITY AND PUBLIC POLICY • who have acquired ‘trade secrets’ (which are protected even without an express restraint) or confidential information belonging to the employers (Forster and Sons Ltd v Suggett (1918), involving glass-making techniques).But employers cannot protect themselves against their former employees’ personal skilland knowledge even if acquired in the course of the employers’ business. This belongsto the employees who are free to exploit them in the market place (Faccenda Chicken Ltdv Fowler (1986)). Second, the employer must show that the scope of the restraint is reasonable in: • the scope of the activity banned: it must be confined to the business of the employment; thus, a covenant not to carry on ‘any business whatsoever’ is void (Baker v Hedgecock (1888)); • the extent of the locality: the restraint should cover no wider an area than is necessary to protect the employer’s particular interest (this may not justify a restraint covering a 25-mile radius of London (Mason v Provident Clothing and Supply Co Ltd (1913), involving a canvasser for a clothing company), but may, in other circumstances justify one covering the whole of the United Kingdom (Forster & Sons Ltd v Suggett, taking into account the secrecy of the glass production methods and the area in which the employer traded)); and • the duration: even restraints of unlimited duration may be reasonable if they do not exceed what is reasonably required for the protection of the convenantee and is not against the public interest (Fitch v Dewes (1921)).In addition to reasonableness between the parties, an enforceable restraint must notcontravene the public interest, particularly that of depriving the community of theemployee’s skills and services (Wyatt v Kreglinger and Fernau (1933), Bull v Pitney-BowesLtd (1967)). In practice, reasonableness between the parties and compliance with thepublic interest tend to go hand in hand.(ii) Sales of businessesThe same tests of reasonableness and consistency with the public interest are applied torestraints in contracts for the sale of businesses, although greater latitude is permittedhere since inequality of bargaining positions is less obvious. A purchaser of a business andits goodwill are entitled to protect the value of the purchase by an appropriate restraintclause; sellers would command lower prices if such restraints were unenforceable. Thewider the restraint, the larger the legitimate interest required to justify it. In one extremecase, a buyer of an armament business for a vast sum was permitted to restrain the sellerfrom competing with this business anywhere in the world for 25 years, in view of the world-wide operation of the business sold and the fact that its main customers were govern-ments (Nordenfelt Ltd v Maxim Nordenfelt Guns and Ammunition Co Ltd (1894)).(iii) Exclusive dealing agreementsThese may be prohibited under Article 81 of the European Community Treaty as anti-competitive and may attract the application of domestic law or European legislation.5In Esso v Harper the owner of two garages entered into a ‘solus’ agreements to buy all its 5 See R Whish, Competition Law (5th edn, LexisNexis, 2003). © Mindy Chen-Wishart 2008
  11. 11. ILLEGALITY AND PUBLIC POLICY W23petrol from Esso, to keep the garages open at all reasonable hours, and not to sell thegarages without securing the purchaser’s agreement to enter similar arrangements withEsso. In exchange, Esso gave a discount on the petrol supplied and provided a loan. TheHouse of Lords took a wide view of the legitimate interests which is so were entitled toprotect. Bell comments:6 In considering this question, they had regard to the money spent on building refineries and providing other outlets, the need for overall planning to justify such expenditure and to provide a stable system of outlets, what was reasonable in return for the advan- tages conferred by the agreement, what was necessary to secure the loan, and the gen- eral state of the industry.Their Lordships relied on information provided in the report of the MonopoliesCommission on petrol and took the view that the contract of lasting 41 years was oner- – 2ous but reasonably necessary to protect Esso’s interests. However, the contract lasting21 years: could have effect in quite different conditions, so that the public interest in preserving Harper’s liberty of action applied more strongly here. Although the arguments had cen- tred on what I could be recently imposed by [Esso] in support of their interests, the basis of the decision of the house was the injury, or potential injury, to the public of the lim- itations on Harper’s freedom of action. If competition is to be generally accepted way of running the economy, then restraints have to be justified in terms of the benefits to the community as well as to individuals, and for this reason the public interest figures so importantly in the considerations of the judges.However, the Court of Appeal upheld a 21-year ‘solus’ agreement in Alec Lobb Garages vTotal Oil (GB) Ltd (1985) where the restrained party had received a substantial sum fromthe restraining party. The court applied the dicta in Nordenfelt that ‘the quantum of con-sideration may enter into the question of the reasonableness of the contract’. Schroeder Music Publishing Co Ltd v Macaulay (1974) shows how substantive unfairnessin the contract can invalidate a restraint of trade clause. There a young unknown song-writer entered an ‘exclusive services’ agreement by which he agreed to assign the fullcopyright to all his present and future works to the publisher for five years, renewableat the latter’s option for another five years, in return for royalties. The publisher had noobligation to publish the works, could terminate the contract on a month’s notice, andwas free to assign its rights. The song-writer was a great success and obtained a declara-tion that the agreement was void as an unreasonable restraint of trade. As Trebilcockobserves, the contract was produced within a competitive market so there could be nomarket failure justification for upsetting the terms of the contract, nor any alternativeset of terms to be discovered by the technique of market transference.7 Nevertheless, theHouse of Lords was clearly influenced by the one-sidedness of the agreement (the pub-lisher giving minimal commitment in exchange for the song-writer’s total commit-ment) in setting aside the restraint on the writer.8 As Lord Reid said (at 1314): ‘Normally 6 Policy Arguments in Judicial Decisions (OUP, 1983) 170. 7 ‘An Economic Approach to the Doctrine of Unconscionability’, in B Reiter and J Swan (eds), Studies inContract Law (Butterworths, 1980) 381. 8 See also Silvertone Records v Mountfield (1993) and Zang Tumb Tuum Records v Johnson (1993). © Mindy Chen-Wishart 2008
  12. 12. W24 ILLEGALITY AND PUBLIC POLICYthe doctrine of restraint of trade has no application to such restrictions. . . . But if con-tractual restrictions appear to be unnecessary or to be reasonably capable of enforce-ment in an oppressive manner, then they must be justified before they can be enforced.’W2.1.2.10 Restrictive trading and analogous agreementsCartels are agreements to regulate the production, marketing, sale price, and standardsof commodities produced. The concern with cartels is not so much unreasonablenessbetween the parties as their anti-competitive effect in reducing overall competition in aparticular commodity. The common law’s role in controlling such agreements has beeninhibited for a number of reasons. Courts are less adept at considering the broad publicinterest and economic issues raised by these anti-competitive arrangements than injudging reasonableness between particular specific parties. The latter, after all, are rep-resented in court while the public interest is assumed to be within the knowledge ofjudges and not specifically represented. Moreover, courts can only adjudicate on suchagreements in the unlikely event that an affected party challenges its validity before thecourts (Courage Ltd v Crehan (2001)). Consequently, the policing of anti-competitiveagreements is largely left to detailed legislative regulation. This is usually studied as adistinct subject under the heading of ‘competition law’. Legislation subjects such agree-ments to a public interest test applied by specialist administrative bodies.9W2.1.3 Illegality and unfairnessThe illegality doctrine invalidates contracts which are undesirable in the public interestor otherwise unworthy of the courts’ assistance because they do not help individuals toachieve well-being and so realise fulfilling lives.10 While this does not directly addressthe question of contractual imbalance, it is consistent with the idea that contractswhich are grossly unbalanced or which seriously harm the interests of one party may beundesirable in the public interest or unworthy of the court’s assistance. Although thecourts present an all but static picture of the scope of ‘public policy’, we have seen thatthe existing categories of illegality can be extended and the doctrine applied instru-mentally to deny the enforcement of substantively unfair terms. In Schroeder v Macaulay(1974), Lord Diplock said candidly (at 1315) that: [W]hat your Lordships have in fact been doing has been to assess the relative bargaining power of [the parties] . . . to decide whether the publisher had used his superior bargain- ing power to extract from the song writer promises that were unfairly onerous to him. . . . Under the influence of Bentham and of laissez-faire the courts in the 19th century abandoned the practice of applying the public policy against unconscionable bargains to contracts generally, as they had formerly done . . . but the policy survived in its applica- tion to penalty clauses and to relief against forfeiture and also to . . . restraint[s] of trade. If one looks at the reasoning of 19th century judges in cases about contracts in restraint of trade one finds lip service paid to the current economic theories, but if one looks at what they said in the light of what they did, one finds that they struck down a bargain 9 Eg the Enterprise Act 2002, the Restrictive Trade Practices Act 1977, the Competition Act 1998, the ResalePrices Act 1976, and Articles 81 and 82 of the European Community Treaty. 10 J Raz, The Morality of Freedom (OUP, 1986), ch 14. © Mindy Chen-Wishart 2008
  13. 13. ILLEGALITY AND PUBLIC POLICY W25 if they thought it was unconscionable as between the parties to it and upheld it if they thought that it was not. So I would hold that the question to be answered . . . is: was the bargain fair?We have seen that substantively unfair contracts can also be invalidated by other doc-trines such as undue influence (see 9.2); incapacity (see Web ch 1); unconscionable bar-gains (see 9.4); and the special rules applicable to exemption (chs 10–12), penalty, andforfeiture clauses (see 15.3). As Treitel (480) observes, these and others can be seen as‘disguised extensions or applications of the doctrine of public policy’. In this contextthe doctrine on non-commercial guarantees (see 9.3) can be understood as a recentlycreated head of public policy. Our discussions of these doctrines and rules reveal theextent of their concern with procedural and substantive unfairness. Collins (28–9)locates the real objection to the contract in Schroeder v Macaulay in terms of ‘power,fairness, and co-operation’. He explains: Because the composer’s career was completely dependent upon the publisher’s discre- tion for a period up to ten years, his degree of subordination to another represented an unjustifiable form of domination. The absence of an undertaking on the part of the pub- lisher to publish any of his songs rendered the exchange too one-side to be fair. In addi- tion, because the composer could not terminate the agreement during its fixed period, he had no effective sanctions against the publisher to ensure that at least it made rea- sonable efforts to bring the venture to fruition by publishing and promoting his work. . . . [T]he concern about unjustifiable domination, the equivalence of the exchange, and the need to ensure cooperation . . . motivate the decision in Schroeder Music Publishing Co Ltd v Macaulay.W2.2 The effects of illegalityThe general rule and starting point is that courts will not help parties enforce illegalcontracts or obtain restitution of benefits conferred under them. However, this is sub-ject to complex and uncertain exceptions which, to some extent, reflect the conflictingpolicies in this area. The policies against assisting parties to illegal contracts are that: (i) courts should not help parties who knowingly enter illegal contracts; (ii) justice would be tainted and the dignity of the court offended; and (iii) people should be deterred from entering illegal contracts.On the other hand, these policies are not offended and some judicial assistance isjustifiable, whether by way of enforcement or restitution, where: (i) parties are ignorant of the illegality involved or were wrongly induced to contract; (ii) the relevant illegality does not involve gross moral turpitude, such as robbery or terrorism, but merely the infringement of technical regulations; (iii) a party has withdrawn from the illegality; or (iv) a party would be unjustly enriched at the expense of the other. © Mindy Chen-Wishart 2008
  14. 14. W26 ILLEGALITY AND PUBLIC POLICYThese policies are reflected in the law, albeit imperfectly. The ‘public conscience’ testused in evaluating the impact of illegality in tort claims11 permits an open balancing ofthese policies. Such a test has been rejected in the contractual context by the Houseof Lords in Tinsley v Milligan. However, its substance is preserved in the LawCommission’s12 proposal based on a structured discretion (see W2.2.3). As Chittyobserves (at [16–001]): Much difficulty would be avoided, if whenever a plea of illegality or public policy were raised as a defence to a contractual claim, the test were applied: does public policy require that this claimant, in the circumstances which have occurred, should be refused relief to which he would otherwise have been entitled with respect to all or part of his claim? In addition, once the court finds that the contract is illegal and unenforceable, a second question should be posed which would also lead to greater clarity: do the facts justify the granting of some consequential relief . . . to either of the parties to the contract.W2.2.1 The enforceability of the contractThe law’s approach to the enforceability of illegal contracts can be divided into threeprincipal categories: (i) contracts which are illegal per se (at formation); (ii) contracts which are not illegal per se, but further an illegal purpose; and (iii) contracts which are not illegal per se, but involve some illegality in their performance.Diagram W2B gives an overview of the effect of illegality on the enforceability of acontract.W2.2.1.1 Illegality per seThe law adopts the strictest attitude to contracts which are illegal per se. Contractwhich are expressly or impliedly forbidden by statute or by public policy are void andunenforceable even if both parties are ignorant of the facts constituting the illegalityand had no intention of breaking the law. Re Mahmoud and Ispahani (1921) provides anexample of statutory prohibition. When the parties bought and sold linseed oil withoutthe required licences the seller could not recover damages for the buyer’s non-accept-ance although the buyer had misrepresented that he had a licence. Scrutton LJ (at 730)left open the question of whether the seller would have a remedy for deceit. In Quereshiv Circle Properties and others (2004), Q was denied an order to freeze C’s assets to enforcea commission agreement because, at the time the agreement was made, Q was an undis-charged bankrupt and could not engage in estate agency work. Section 23 of the EstateAgents Act 1979 rendered any commission agreement with the claimant invalid orunenforceable. An example of common law prohibition is a contract which involvestrading with alien enemies in wartime. 11 Eg Pitts v Hunt (1991). 12 Illegal Transactions: The Effect of Illegality on Contracts and Trusts, Consultation Paper No 154, 1999. © Mindy Chen-Wishart 2008
  15. 15. ILLEGALITY AND PUBLIC POLICY W27Diagram W2B The enforceability illegal of contracts © Mindy Chen-Wishart 2008
  16. 16. W28 ILLEGALITY AND PUBLIC POLICY It may be very difficult to decide whether a statute or head of public policy rendersthe contract unlawful per se and bars enforcement by either party, or merely barsenforcement by a guilty party (ie one who knows of the illegality). The question iswhether, having regard to the mischief against which the illegality is directed and thecircumstances in which the contract was made and is to be performed, it would be con-trary to public policy to enforce it (Shaw v Groom (1970)). In view of the potentialharshness of unenforceability, the modern tendency is to prefer the latter unless the for-mer is very clearly demanded by the statute or public policy. The harshness is clearenough where both parties are ignorant of the illegality for it may afford one party withan unmeritorious and technical defence to an action for breach. The potential unfair-ness is all the more glaring where the contract breaker either knows of the illegality orwrongly induces an innocent party into the illegal contract. In such cases, a court mayassist the innocent party by: (i) Finding and enforcing a collateral contract not tainted by illegality: In Strongman(1945) Ltd v Sincock (1955), the defendant promised to but did not obtain the necessarylicences to enable the claimant builders to lawfully modernise his house. The defendantthen refused to pay for some of the claimant’s work relying on the illegality of the con-tract. The Court of Appeal held that while the contract is absolutely prohibited bystatute and unenforceable, the claimant could enforce a collateral warranty that thedefendant would obtain the necessary licences. (ii) Awarding damages for fraudulent misrepresentation: In Shelley v Paddock (1980), Pfraudulently induced S to buy land in Spain that P did not own in a contract whichbreached the Exchange Control regulation. P sought to retain S’s purchase money byrelying on the illegality. The Court of Appeal held that the illegality did not bar anaction in the tort of deceit; this allowed S to recover her money and an additional sumfor distress. P could not retain the profits of its own fraud.W2.2.1.2 Intention to achieve illegal purpose or perform illegallyA contract which is not illegal per se, but which is intended to further an improperpurpose or to be performed in an illegal way is generally unenforceable by the partycontracting with such an intention, or knowing of the other party’s intention to thiseffect.13 In Laong Wheeler v Quality Deep Ltd (T/A Thai Royal Restaurant) (In Liquidation)(2004), W successfully appealed against a decision dismissing her claims for unfair dis-missal and for failure to give itemised pay slips contrary to section 8 of the EmploymentRights Act 1996. Although W had received wages without deductions for tax andnational insurance, there was no evidence that W was aware of any illegality; she had alimited knowledge of English and of the tax and national insurance provisions of theUK. In contrast, in Taylor v Bhail (1996), T had agreed to provide an estimate inflated by£1,000 so that B could defraud an insurance company. The Court of Appeal held thecontract to be a single indivisible contract which T could not enforce for illegality.Moreover, T could not circumvent the illegality by claiming a quantum meruit for thework done. 13 Cowan v Milbourn (1867), Alexander v Rayson (1936) at 182. © Mindy Chen-Wishart 2008
  17. 17. ILLEGALITY AND PUBLIC POLICY W29 On the other hand, an innocent party will be allowed to: (i) Recover what is due under the contract, or obtain expectation damages14: InBloxsome v Williams (1824), W warranted that the horse sold to B was no more thanseven years old and sound, when it was 17 years old and unsound. In defence to B’saction for breach, W unsuccessfully pleaded his own illegality in trading horses as ahorse-dealer on a Sunday in contravention of the Sunday Observance Act 1677; B wasignorant of W’s status. (ii) Recover reasonable remuneration for work done prior to discovery of theillegality: In Clay v Yates (1856) a printer recovered the value of work done to publish atreatise up to the point that its defamatory content was discovered. (iii) Refuse to perform the contract on discovering the illegality: In Cowan vMilbourn (1867), M agreed to let rooms to C for certain days but was allowed to refuse toproceed when he found out that they were to be used for lectures which were blasphe-mous and so unlawful.However, a contract entered into with the intention of committing an illegal act is notillegal and unenforceable in two situations: (a) The illegality is too remote from the contract. In 21st Century Logistic Solutions Ltd (In Liquidation) v Madysen Ltd (2004), C brought an action for the price of goods sold and delivered to M who denied liability on the ground of the illegality of contract. C’s operations sought to defraud Customs of Value Added Tax by buying goods VAT-free in the EU and selling them on plus VAT in the UK. Field J held that the contract was lawful in itself and that C’s fraudulent intention was too remote from the contract to make it unenforceable for illegality. C only commits a fraud when he fails to account to Customs at the end of the relevant accounting period. (b) The claimant is seeking to enforce a statutory entitlement attaching to the con- tract without relying directly on or effectively enforcing the illegal contract. In Hall v Woolston Hall Leisure Ltd (2001), H successfully brought a complaint of unfair dismissal on the ground that she had been sexually discriminated against when she was dismissed from her job as a chef when she became pregnant. The Court of Appeal held that she was entitled to compensation although she had acquiesced in receiving wages for three years without deductions for tax and national insurance. There was no causal link between H’s acquiescence in how her wages were paid and her complaint of sex discrimination. There were no public policy reasons for not awarding H compensation. In contrast, in Vakante v Addey and Stanhope School (2004) the Court of Appeal barred V from claiming race dis- crimination and victimisation when he was dismissed from his job. V had falsely indicated in his application form that he did not need a work permit, when he knew that he was not permitted to work in the UK as an asylum seeker. The test is whether the applicant’s claim arose out of or was so clearly connected or inextri- cably bound up or linked with the illegal conduct of the applicant that the court could not permit the applicant to recover compensation without appearing to 14 Mason v Clarke (1955) at 793, 805; Fielding & Platt Ltd v Najjar (1969), Newland v Simons and Willer(Hairdressers) Ltd (1981). © Mindy Chen-Wishart 2008
  18. 18. W30 ILLEGALITY AND PUBLIC POLICY condone that conduct. The test was not simply a question of causation; the cir- cumstances surrounding the applicant’s claim and the illegal conduct, the nature and seriousness of the illegal conduct, the extent of the applicant’s involvement in it, and the character of the applicant’s claim were all relevant. On the facts, V’s complaints were so inextricably bound with the illegality of his conduct in obtaining and continuing the employment that, if it he were permitted to recover compensation for discrimination, the court would appear to condone his illegal conduct.W2.2.1.3 Subsequent illegality of meansWhere the contract is not illegal per se (see W2.2.1.1), is not entered for an illegal pur-pose or with an intention to perform it in an illegal way (W2.2.1.2.), but is subsequentlyperformed in an illegal manner, the enforceability of the contract depends on whether‘the way in which the contract was performed turned it into the sort of contract thatwas prohibited’ (St John Shipping Corporation v Joseph Rank Ltd (1957) at 284). For exam-ple, in Anderson Ltd v Daniel (1924) the seller of agricultural fertiliser could not recoverthe price because he failed to give the purchaser the required invoice showing the com-position of the fertiliser; the seller failed to perform the contract in the only way thatthe statute allowed the contract to be performed. Again, if legislation prohibits certainactivity unless licensed (eg Re Mahmoud and Ispahani), a contract to carry out unlicensedactivity will generally be unenforceable (Bostel Bros Ltd v Hurlock (1949)). However, where the illegality is purely technical and at the low end of blameworthi-ness (eg if the speed limit or permitted driving hours in performing a contract for trans-portation of goods are exceeded), a strict bar on enforcement could inflict on thewrongdoer a loss far greater than the statutory penalty. Thus, it has been held that: ‘Thefact that a party has in the course of performing a contract committed an unlawful orimmoral act will not by itself prevent him from further enforcing that contract unlessthe contract was entered into with the purpose of doing that unlawful or immoral actor the contract itself (as opposed to the mode of . . . performance) is prohibited by law’(Coral Leisure Group Ltd v Barnett (1981) at 509)). The question is whether the statutorypurpose is to make the contract unenforceable by the parties or merely to impose apenalty on the offender. In St John Shipping Corporation v Joseph Rank Ltd (1957), S, theship owner, was prosecuted and fined for committing the statutory offence of over-loading its ship in performance of certain contracts for the carriage of goods. The courtallowed S to sue J for unpaid freight, despite this illegality. The purpose behind thestatute was to penalise the conduct which contravened the statute and not to prohibitthe contract itself. Similarly, in Shaw v Groom (1970), a landlord committed an offenceby failing to give his tenant a rent book but could nevertheless sue for rent because thepurpose behind the legislation was to punish the conduct and not to invalidate thetenancy agreement. The other party (not guilty of the illegal performance) can generally enforce thecontract if he did not know of or consent to the illegality. In Archbolds (Freightage) Ltd vS Spanglett Ltd (1961), S agreed to transport A’s whisky but did so in an improperlylicensed van. When S’s negligence resulted in the loss of A’s whisky, S pleaded itsown illegality in defence to A’s claim. The Court of Appeal (at 390) rejected A’s defencesince the statutory purpose was sufficiently met by the penalties prescribed, and ‘the © Mindy Chen-Wishart 2008
  19. 19. ILLEGALITY AND PUBLIC POLICY W31avoidance of the contract would cause grave inconvenience and injury to innocentmembers of the public without furthering the object of the statute.’ A party is not ‘inno-cent’ if he is aware of the illegality. In Ashmore, Benson, Pease & Co Ltd v A V Dawson Ltd(1973), D used lorries that were unlawful for transporting A’s load. When the load wasdamaged in transit, A’s claim for damages failed because A’s manager knew of the ille-gality and so was regarded as having participated in it. This applies even if a party onlyknows the facts constituting the illegality but not the law making the performance ille-gal. In J M Allan (Merchandising) Ltd v Cloke (1963), a contract to hire a roulette table toplay a game which was statutorily unlawful was unenforceable although neither partyknew that the game was illegal.W2.2.1.4 SeveranceIt may be possible to sever the illegal part of the contract and enforce the remainder.The most obvious examples are restraint of trade clauses and clauses which oust thecourts’ jurisdiction. However, severance will only be permitted if enforcement of therest of the contract would not subvert the policies underlying the illegality. If an agreementis very objectionable (‘smelly’), the courts will be reluctant to allow partial enforcementby cutting out the ‘bad bits’; the whole contract is infected (as in Napier v NationalBusiness Agency Ltd (1951) where fraud on the revenue was involved). However, wherethe illegality is based on legislation or public policy protecting a certain class of persons,there is no objection to severing the illegal provision and enforcing the contract infavour of a member of the protected class even if he participated in the illegality. InAilion v Spiekermann (1976) a lease was not illegal although the landlord received anillegal premium. The tenant could enforce the lease without paying the premium. Even if severance would not subvert the policy undermining the illegality, courts arereluctant to re-write the contracts and will only allow severance if: • the illegal part can be cut out without distorting the meaning of the remaining contract (the ‘blue pencil’ rule, Goldsoll v Goldman (1915)); • the illegality does not form one party’s whole or main consideration for the contract (otherwise the other party would be compelled to perform for no or virtually no consideration, Bennett v Bennett (1952)); and • severance would not leave a substantially different contract from that which the parties agreed (Attwood v Lamont (1920)).W2.2.2 The availability of restitutionCourts may not only refuse to assist ‘guilty’ parties in enforcing illegal contracts, theymay also refuse to help parties recover money or property transferred under an illegalcontract. The law of unjust enrichment governs the circumstances when a party canrecover benefits conferred, whether or not pursuant to a contract. Here, illegality is nota ground for restitution; rather, it operates predominantly as a defence to an action forrestitution on other established grounds (eg mistake or failure of consideration). Thejustification for barring restitution for illegality is based on deterrence. But deterrencemust be weighed against the policy of preventing unjust enrichment. The upshot is to © Mindy Chen-Wishart 2008
  20. 20. W32 ILLEGALITY AND PUBLIC POLICYDiagram W2C Restitution of benefits transferred under on illegal contractadmit three exceptions when a party to the illegal contract may claim restitution;namely, where the claimant: (i) is less blameworthy than the defendant; (ii) has withdrawn from the transaction before it is substantially performed; or (iii) can establish a legal or equitable proprietary right to the property independent of the illegal contract.Diagram W2C gives an overview of the availability of restitution of benefits transferredunder an illegal contract. © Mindy Chen-Wishart 2008
  21. 21. ILLEGALITY AND PUBLIC POLICY W33 The general rule against restitution was challenged in Shanshal v Al-Kishtaini (2001)as contravening the Human Rights Act 1998 (specifically, Article 1 of the First Protocolto the European Convention on Human Rights which provides that ‘no one shall bedeprived of his possessions except in the public interest’). Shanshal involved contractsmade in breach of UN sanctions on trade with Iraqi citizens. The Court of Appealdenied the claim for restitution of money paid on the basis that this (i) did not amountto a deprivation of possessions’, and (ii) anyway, would fall within the ‘public interest’exception permitted by Article 1.W2.2.2.1 Unequal blameA claimant who is relatively less blameworthy may claim restitution if: (i) The contract is rendered illegal by a statute enacted to protect a class of personsto which he belongs. In Kiriri Cotton Co Ltd v Dewani (1960) the illegality involved leg-islation prohibiting landlords from demanding premiums from tenants; since the leg-islative purpose is to protect tenants, they can recover such payments even if they werewilling parties to the illegality (see now section 125 of the Rent Act 1977). (ii) He can establish some ground of restitution showing that he was ignorant or inno-cent of the illegality. Thus, for example, restitution has been allowed where the claimantwas induced into the illegal contract by the defendant’s fraud (Shelley v. Paddock (1980))or pressure amounting to duress (Smith v Cuff (1817)). Restitution is also allowed where aclaimant’s ignorance of some fact making the contract illegal amounts to a mistake of fact(Oom v Bruce (1810)) or of law (Kleinwort Benson Ltd v Lincoln City Council (1999)). Thelatter is highly significant given the prevalence of contracts rendered illegal by legislationof which the contract parties are ignorant. Restitution is now permitted unless to do sowould undermine the purposes and policies underlying the legislation.W2.2.2.2 Timely withdrawalThe law provides some incentive for, or encouragement to, parties to repent and discon-tinue with an illegal contract. Where a party withdraws in time, he can recover thebenefits he has conferred on the other party. It has been held that there is no genuinewithdrawal if the claimant discontinues the illegality only because: • it is discovered (Alexander v Rayson (1936)); • the defendant refuses to proceed (Bigos v Boustead (1951)); or • some other event beyond his control frustrates the illegality.However, the Court of Appeal has diluted the requirements of timely withdrawal inTribe v Tribe (1995). It held (at 135) that ‘genuine repentance is not required . . . volun-tary withdrawal from an illegal transaction when it has ceased to be needed issufficient’. Thus, recovery was allowed where a father transferred shares to his son forthe illegal purpose of defrauding his creditors but the fraud was not perpetrated becausethe claims were settled. © Mindy Chen-Wishart 2008
  22. 22. W34 ILLEGALITY AND PUBLIC POLICY Counterpoint 1. The decision in Tribe is questionable since there is no need to provide any incentive for with- drawing when the need for the illegality had passed. Quite the reverse, this approach leaves the transferor with nothing to lose and everything to gain from entering the illegal transac- tion. Note that the father’s withdrawal was only signalled when he claimed the return of the shares. 2. Tribe is also questionable on the issue of when the opportunity to withdraw is extinguished. There has been long-standing uncertainty over whether partial performance extinguishes the opportunity to withdraw. Taylor v Bowers (1876) says ‘no, only completed performance will extinguish’, while Kearley v Thomson (1890)) says ‘yes, substantial performance will extin- guish’.15 Tribe apparently resolves this uncertainty by holding that a party cannot withdraw if any part of the illegal purpose had been carried into effect (at 121, 135). However, this was then applied to the facts in a rather surprising way. The court concluded that the father had effectively withdrawn because, despite full performance (transferring the shares), no part of this purpose was achieved as no creditors were deceived. It will be a moot point in any case whether the partial or even full performance of the illegal transaction has achieved a significant enough part of its purpose to extinguish the opportunity to withdraw. The degree of moral blameworthiness may be relevant to this question, so that recovery is unlikely if money is paid to commit kidnap or murder.16W2.2.2.3 Independent property rightsA party can recover property transferred under an illegal contract if his claim rests, noton the illegal contract but, on the claimant’s ‘independent’ legal or equitable proprietaryright in that property. The permissible plea is: ‘give it back, it’s mine’; the impermissibleplea is: ‘give it back, you only have it because of our illegal contract’. This exception isdifficult partly because it rests on technical rules of property law. One rule is that whenparties to an illegal contract intend to transfer a proprietary interest (whether of owner-ship or a lesser interest such as bailment or lease), the invalidity of their contract does notprevent property from passing (Singh v Ali (1960)). Where ownership has passed, the trans-feror cannot reassert ownership without pleading the illegality of the contract; this isimpermissible and no recovery lies. However, where a more limited proprietary interest istransferred under the illegal contract, only that portion is tainted by the illegality. Thereasoning is that on the termination of that interest (eg expiry of a lease or breach ofsome condition), the transferor can assert his anterior legal proprietary interest unaf-fected by the tainted (but now extinguished) temporary interest. This principle has been accepted (Belvoir Finance Co Ltd v Stapleton (1971)) althoughits application is a matter of some controversy. In Bowmakers Ltd v Barnet Instruments Ltd(1945)17 the claimant sold the defendant machine tools on three hire-purchases in 15 See J Beatson, ‘Repudiation of Illegal Purpose as a Ground for Restitution’ (1975) 91 LQR 313. 16 Kearley v Thomson (1890) at 747. 17 CJ Hamson, ‘Illegal Contracts and Limited Interests’ (1949) 10 CLJ 249. © Mindy Chen-Wishart 2008
  23. 23. ILLEGALITY AND PUBLIC POLICY W35contravention of the Defence Regulations. The defendant, in breach of the agreements,sold some of the tools and refused to return the remainder. The Court of Appeal allowedthe claimant’s claim for damages in the tort of conversion because the defendant’s rightto possess the goods terminated on its breach of the hire-purchase agreements, and sothe claimant could establish its title to the machine tools without relying on the illegaltransactions. Counterpoint Three criticisms can be made of the Bowmakers decision: 1. The claimant was relying on the illegal contracts to say when the defendant’s more limited interests expired, resurrecting his own proprietary right. 2. Although the defendant’s possessory right in the goods which it sold was terminated, its possessory right in the goods it retained was not; yet all possessory rights were regarded as terminated. 3. By assessing damages for conversion by reference to the value of the machine tools, the court in effect allowed the enforcement of the illegal hire purchase contracts. On the other hand, to deny the claimant a remedy would confer a windfall on an unmeritorious defen- dant. Thus, the proprietary approach may lack remedial flexibility; Coote observes that ‘the real difficulty lies in the arbitrary, all-or-nothing character of the common law governing illegal contracts’.18The principle of protecting a claimant’s anterior legal proprietary interest has beenextended to the situation where the claimant’s proprietary interest in the goods is equi-table and so was non-existent prior to the illegal transfer. In Tinsley v Milligan (1993) theparties jointly purchased a house to live in. They registered it in T’s name only so thatM could make fraudulent claims from the Department of Social Security. M laterrepented and informed the DSS. The parties quarrelled and T asserted her sole legalownership. M counterclaimed for a declaration that, in equity, T held a half share in thehouse on trust for her because of her contribution to its purchase price. T countered thatM could not invoke the assistance of equity since she did not come with ‘clean hands’,having participated in the fraud. The minority of the House of Lords (Lords Goff andKeith) agreed, but Lord Browne-Wilkinson in the majority held (at 371) that ‘[i]f thelaw is that a party is entitled to enforce a property right acquired under an illegaltransaction, in my judgment the same rule ought to apply to any property right soacquired, whether such right is legal or equitable’. M could succeed because she did nothave to rely on the illegality to establish her equitable interest. Rather, she could onlyrely on ordinary principles of English trusts law which presumes that where two peoplecontribute to the purchase of property which is put into the name of only one of them, 18 ‘Another look at Bowmakers v Barnet Instruments’ (1972) 35 MLR 38, 51. © Mindy Chen-Wishart 2008
  24. 24. W36 ILLEGALITY AND PUBLIC POLICYthe latter holds the property on a resulting trust for both parties in shares proportionateto their contribution. To rebut this presumption and retain the whole property, it was Twho would have to rely on the illegality, and she was barred from doing so. Counterpoint The decision in Tinsley can be criticised on two grounds: 1. T’s equitable proprietary interest is not ‘independent’ of the illegal transaction; it was non- existent prior to the illegal transaction, but was born of it. 2. The rules determining the existence of such equitable proprietary interests are outdated and may operate arbitrarily. The resulting trust raised is based on a presumption that the con- tributing party whose name is left off the title does not intend to gift his contribution to the party who holds sole legal title to the property. However, there is a ‘presumption of advance- ment’ (ie a presumed intention to gift) where: • a husband confers a benefit on his wife, or • parents confer benefits on their children. Thus, in Tinsley, if M had been T’s husband or parent, M’s claim would have failed since M would have had to rely on the illegality to rebut the presumption. M’s claim succeeded because her relationship to T, of lesbian lovers, was not one to which the presumption of advancement attached. Today, it is questionable whether the outcome should depend on whether the parties’ are married and whether the claimant is the husband or the wife.The independent proprietary rights approach supports the policy of avoiding unjustenrichment (see Tinsley at 366), but it relies too heavily on the ‘mechanical applicationof highly technical and procedural concepts’ (Beatson, 411). As Rose observes,19 itavoids directly confronting the issue of illegality and openly weighing its gradations ofimpropriety, the extent of the parties’ participation and responsibility, and the degreesof injustice because of unjust enrichment. For a time these considerations led to thedevelopment of a flexible discretionary test whereby courts could allow recovery unlessto do so would affront the ‘public conscience . . . because the court would therebyappear to assist or encourage the claimant in his illegal conduct or to encourage othersin similar acts’ (Euro-Diam Ltd v Bathurst (1990) at 35). But in Tinsley, the House of Lordsrejected such a test because: • it contradicts a long line of authority going back to Holman v Johnson (1775), that courts would not lend their aid to someone resting their action on an illegality; and • it would make relief dependent on judicial discretion rather than on rules and this should be sanctioned by the legislature. 19 F Rose, ‘Reconsidering Illegality’ (1996) JCL 271. © Mindy Chen-Wishart 2008
  25. 25. ILLEGALITY AND PUBLIC POLICY W37 Counterpoint This rejection of a discretionary approach in favour of the technical proprietary rights approach is regrettable: 1. It can lead to too much restitution, as where a claimant can make out an ‘independent’ legal or equitable proprietary right despite strong policies against restitution. For example, a claimant who lends housebreaking equipment, a get-away car, or pedophilic pornography can, in principle, ask the court to get it back after the offences have been committed; a claimant who contributes to the purchase of a property for use in terrorism can ask for a resulting trust to be declared. A court may not countenance recovery (Bowmakers at 72), but it is difficult to see how a principle which entitles a party to recover his property can properly make this sort of distinction (Tinsley, per Lord Goff at 362). 2. Equally, the proprietary approach may lead to too little restitution as where restitution is denied simply because of the rules on presumptions of advancement (husbands in favour of wives and parents in favour of children) when other factors point to the desirability of restitution. 3. Such potential for injustice can lead to another problem, inconsistent application of some rules and the distortion of other rules to avoid unjust results. In Tribe v Tribe (1996) since a father transferred his shares to his son to defraud his creditors, the presumption of advance- ment should have applied to negate any resulting trust in favour of the father. The logic of the proprietary approach should have denied restitution since the father could only rebut the presumption of advancement by reliance on his illegal purpose. The court nevertheless returned the shares to the father by switching to, and arguably over-stretching, the timely withdrawal exception (see W2.2.2.2). As stated above, there was no merit in the father with- drawing from an illegality once the necessity for it had passed and no need for the law to provide an incentive to do so.The proprietary approach was rejected by the High Court of Australia in Nelson v Nelson(1995) for yielding results which are ‘essentially random and produce windfall gains aswell as losses’ (at 189). The High Court continues (at 190): The Bowmakers rule has no regard to the legal and equitable rights of the parties, the merits of the case, the effect of the transaction in undermining the policy of the relevant legislation or the question whether the sanctions imposed by the legislation sufficiently protect the purpose of the legislation. Regard is had only to the procedural issue; and it is that issue and not the policy of the legislation or the merits of the parties which deter- mine the outcome. Basing the grant of legal remedies on an essentially procedural crite- rion which has nothing to do with the equitable positions of the parties or the policy of the legislation is unsatisfactory, particularly when implementing a doctrine that is founded on public policy.In Nelson a mother provided the money to buy a house which was put into the names ofher two children so that she could unlawfully obtain a subsidised advance from agovernmental body to buy another property. In spite of her lack of ‘clean hands’ and the © Mindy Chen-Wishart 2008
  26. 26. W38 ILLEGALITY AND PUBLIC POLICYpresumption of advancement to her children, the court allowed her recovery of the firsthouse on condition that she recompensed the body advancing the subsidy. The test waswhether restitution would undermine the policy of the statute. The sanction for illegality must‘further the purpose of the statute’ and not impose an additional sanction over and abovethat which the statute deems sufficient. Moreover, the sanction ‘should be proportionateto the seriousness of the illegality involved’ assessed by reference to the statute (at 192).W2.2.3 The future: the Law Commission’s suggestionLord Goff conceded (in Tinsley at 355, 364) that the illegality doctrine ‘is not a princi-ple of justice, it is a principle of policy, whose application is indiscriminate and so canlead to unfair consequences . . . the principle allows no room for the exercise of any dis-cretion by the court in favour of one party or the other’; it is ‘capable . . . of producinginjustice’. However, he viewed any wide-ranging reform as a matter for Parliament aftera full inquiry by the Law Commission. He made particular reference to New Zealand’sIllegal Contracts Act 197020 which gives courts very wide discretionary powers to grantrelief having regard to a non-exhaustive list of factors. A more limited discretionaryapproach found favour with the English Law Commission. In its Consultation Paper (No 154) of 1999 Illegal Transactions: The Effect of Illegality onContracts and Trusts the Law Commission provisionally proposed ([1.18–1.21]) that inthe absence of express statutory provision for the effect of illegality on a transaction,the present technical and complex rules on the effect of illegality should be replaced bya discretion. Illegality should operate as a defence to standard contractual or restitution-ary claims, except for timely withdrawal which may act as a cause of action. The courtshould be empowered to decide whether or not: • to enforce an illegal transaction, • to recognise that property rights have been transferred or created by it, or • to allow restitution of benefits conferred under it.Beyond these, the Law Commission opposes the courts having an open-ended discre-tion to reach ‘just’ solutions. In exercising its more limited discretion, a court shouldtake into account: (i) the seriousness of the illegality involved; (ii) the knowledge and intention of the party seeking to enforce the illegal transaction or to recover benefits conferred under it; (iii) whether refusing to allow standard rights and remedies would deter illegality or further the purpose of the rule rendering the transaction illegal; and (iv) whether refusing to allow standard rights and remedies would be proportionate to the illegality involved.In the Law Commission’s view ([1.21]), such an approach would allow courts ‘to reachits decision on the facts of a particular case using open and explicit reasoning, givingfull effect to the relevance of the illegality on the transaction’. Moreover, since illegality 20 M Furmston, ‘The Illegal Contracts Act 1970-An English View’ (1972) 5 NZULR 151. © Mindy Chen-Wishart 2008
  27. 27. ILLEGALITY AND PUBLIC POLICY W39would operate as a defence only where there is a clear and justifiable public interest,claimants are less likely to be denied their usual rights or remedies.THIS CHAPTER IN ESSENCE1 In general, courts will not assist parties to a contract which is illegal or contrary to public pol- icy (either as to its means or ends) by enforcing the contract or permit recovery of benefits con- ferred under it.2 Contracts may be illegal by reference to statutes or contrary to public policy under the com- mon law. The courts are opposed to recognising new categories of public policy but are pre- pared to extend existing categories which include contracts: • to commit a crime or a civil wrong, • to oust the jurisdiction of the court, • interfering with the administration of justice, • prejudicial to the state, • furthering sexually immoral purposes, • prejudicial to family life, and • unduly restrictive of personal liberty.3 Contracts in restraint of trade are void and unenforceable unless they are reasonable taking into account the legitimate interests of (i) one party to protect its interests, (ii) the other to pur- sue an activity and (iii) the public to benefit from free competition. The doctrine applies mainly to restrain employees from competing with employers during or after the employment, and to restrain sellers of businesses and their goodwill from competing with the buyer. Similarly, exclu- sive dealing contracts are also judged by their reasonableness.4 If a contract is illegal at formation, being expressly or impliedly prohibited by statute or con- trary to public policy, the contract is unenforceable by either party irrespective of their good faith. The court will be slow to reach this conclusion because of the potential harshness it can visit on a good faith claimant. However, such a claimant may, in appropriate cases, have an action for breach of a collateral contract or for deceit.5 Contracts which are legal at formation but intended to further an improper purpose or to be performed in an illegal way are unenforceable by parties having, or knowing of, such an inten- tion, unless the purpose behind the illegality is the protection of a class of persons to which the claimant belongs and enforcement of the contract would not undermine that purpose. Even the claimant who intends (or knows of the defendant’s intention) to further an improper purpose or per- form in an illegal manner, may still be able to enforce the contract if (i) the illegality is too remote from the contract, or (ii) the claimant is seeking to enforce a statutory entitlement attaching to the con- tract (eg employment) which does not rely directly on, or effectively enforce, the illegal contract.6 Where the illegality only attaches to the performance of a contract which is valid at formation the contract is enforceable by the guilty party, if the purpose behind the statute or © Mindy Chen-Wishart 2008
  28. 28. W40 ILLEGALITY AND PUBLIC POLICY public policy violated does not effectively prohibit the contract. The other party can enforce the contract if he is ignorant of the illegality, but not otherwise. If the policy underlying the illegal- ity does effectively prohibit the contract then neither party can enforce the contract.7 The court may be prepared to sever the illegal part of the contract and enforce the remainder where severance would not distort the remainder, substantially change the contract, or deprive one party of substantially the whole or main consideration under the original contract.8 The general bar against recovery of benefits conferred under an illegal contract is subject to three exceptions. Namely, where the claimant: (i) is relatively less blameworthy than the other party (unequal blame); (ii) withdraws from the illegal purpose in time (timely withdrawal), or (iii) can establish an independent proprietary right to the money or property transferred to the other party without relying on the illegal contract (enforcement of proprietary right).QUESTIONS1 ‘The content of illegality and public policy cannot remain immutable, but must change with the evolution of public opinion, morality and legislative policies.’ When and why are contracts tainted by illegality?2 What is wrong with contracts in restraint of trade? Are they ever enforceable?3 ‘The effect of illegality on the validity of a contract depends on a variety of factors.’ Discuss.4 Do you agree with the Law Commission’s recommendation that courts should have discretion in deciding whether or not illegality should be a defence to a claim for contractual enforce- ment? What factors should the court take into account in exercising such discretion?5 When does, and when should restitution of the benefits conferred under an illegal contract be permitted?6 ‘The illegality doctrine is not a principle of justice, it is a principle of policy, whose application is indiscriminate and so can lead to unfair consequences. It allows no room for the exercise of any discretion by the court and is capable of producing injustice.’ Discuss.7 Alfred was a licensed haulier under the (fictitious) Licensing and Regulation of Road Hauliers Act 2005. Section 1 of the Act makes it a criminal offence for any road haulier to operate without a licence. Section 2 requires all loads carried to be accompanied by a ‘statutory invoice’ detailing its content and certifying the haulier’s compliance with safety regulations relating to loading and driver breaks. Advise Alfred in the following circumstances: (a) Alfred delivered a load for Bob but failed to provide a statutory invoice at the time of deliv- ery because he did not notice that it had fallen out of his truck during one of his stops. Bob refuses to pay. (b) Alfred delivered a load for Camilla but failed to provide a statutory invoice at the time of delivery because Camilla said she did not need one. Camilla refused to pay but insisted that Alfred pay for the goods damaged in transit. © Mindy Chen-Wishart 2008
  29. 29. ILLEGALITY AND PUBLIC POLICY W41 (c) Alfred delivered an urgent load for Delia in breach of the safety regulations by taking insufficient breaks during the journey at Delia’s request. Delia refuses to pay. If Delia has pre- paid but calls off the contract before Alfred was due to take his first safety break, can she recover the sum from Alfred? (d) Alfred agreed to carry a load for Errol which Errol had paid for in advance. Alfred refuses to perform the contract when he discovers that his licence has expired. Can Errol compel Alfred to return the payment? (e) Alfred transfers one of his trucks to Fifi (his daughter) in a sham transaction to keep it out of the hands of his creditors. After Alfred reached a settlement with his creditors, Fifi refuses to return the truck, claiming that it is hers. For hints on how to answer these questions, please see the Online Resource Centre at FURTHER READINGBuckley, R, ‘Illegality in Contract and Conceptual Reasoning’ (1983) 12 Anglo-American LR 280.Buckley, R, ‘Illegal Transactions: Chaos or Discretion?’ (2000) 20 Legal Studies 155.Law Commission, Consultation Paper No 154, Illegal Transactions: The Effect of Illegality on Contracts and Trusts. For updates to this chapter and links to websites relevant to the topics covered, please see the Online Resource Centre at © Mindy Chen-Wishart 2008