The Court of Appeal has recently clarified the legal test for claims in rectification on the basis of common mistake in the case of FSHC Group Holdings Limited v. GLAS Trust Corporation Ltd [2019] EWCA Civ 1361.
Rectification is an equitable remedy through which the Courts can correct the written terms of a contract to reflect the parties’ contractual intention. The amended document will then take effect as amended from the time it was first made.
There has for the past decade been some ambiguity as to the correct approach as a result of the case of Chartbrook Ltd v Persimmon Homes Ltd [2009] UKHL 38 in which Lord Hoffman commented that the correct approach to rectification was a “wholly objective” test. This meant that the Court should not assess the parties’ subjective intentions through evidence of their actual state of mind at the time, but should decide what an impartial observer would have concluded having regard to the background facts and communications between the parties.
The controversial observation was not a part of the reasoning that decided this claim and was therefore not binding. Still, the analysis was followed in some judgments while being criticised in others, which led to considerable uncertainty as to the correct approach.
The case
The Court of Appeal has now clearly restated the test and the correct approach to be followed in FSHC Group, which concerns a complex corporate acquisition between the parties. Years later, it was discovered that a security document that was required to be in place was omitted from the documentation.
In order to avoid an event of default and associated consequences, FSHC and the security agent quickly entered into two deeds of accession which would plug the gap in the security by allowing FSHC to accede to two pre-existing security agreements. Unfortunately for FSHC, it later discovered that the effect of the deeds was also that it had signed up to onerous additional obligations, including a covenant to pay the secured obligations exceeding £500 million on demand. FSHC sought rectification of the deeds, arguing that the intention was to do no more and no less than fill in the void in security arising out of the discovery of the missing security document.
The judgment
The Court of Appeal granted the rectification sought and decided to clarify the law on the correct test for rectification in the case of common mistake. It identified two different situations:
- Where a document fails to give effect to a prior concluded contract between the parties, ie: where the parties have agreed in a binding contract to enter into another future contract on certain terms, but the second contract mistakenly contains different terms.
In this case, the Court should enforce the first agreement on the terms agreed between the parties by rectifying the second document. In this case, the general approach to interpreting contracts applies, which is an objective test, ie: what a reasonable man would consider the parties had in the first contract agreed to record in the second document.
- Where a document executed by parties mistakenly fails accurately to record the common intention of the parties. In this case, the Courts are concerned with assessing the parties’ subjective state of mind at the time as it seeks to determine whether it should correct a document to reflect what the parties in fact intended. There must also be an outward expression of accord, meaning that the parties must have, through communications exchanged between them, understood each other to share this intention.
Comment
This case, at least at Court of Appeal level, clarifies the relevant tests in two alternative scenarios.
In the latter situation, parties will need to evidence their intention at the time of entering into a contract and that this intention was communicated. It is therefore, in case a dispute later arises, very important to keep documentary evidence of intentions and negotiations prior to entering into a contract, including attendance notes, meeting minutes and related correspondence.
Of course, a much better way of avoiding having to claim rectification in the first instance is to make sure that any document that is entered into accurately reflects the parties’ intentions. Legal advice should if possible be sought prior to entering into any contract in order to avoid further legal costs down the line when a dispute arises.
For more information, please contact Pauline Lépissier, Solicitor in the Litigation & Dispute Resolution team.
