(b)  A civilian solution to wasted pre-contractual expenditure: culpa in contrahendo and bad faith termination of contractual negotiations

The German doctrine of culpa in contrahendo (‘fault in contracting’) has been described as arising as follows:

Once parties enter into negotiations for a contract … a relationship of trust and confidence comes into existence irrespective of whether they succeed or fail. Thus, protection is afforded against blameworthy conduct which prevents the consummation of a contract. A party is liable for negligently creating the expectation that a contract would be forthcoming although he knows or should know that the expectation cannot be realized. Furthermore, the parties are bound to take such precautionary measures as are necessary for the protection of each other’s person or property.39

Described in this way, the possible boundaries of liability in culpa in contrahendo are quite wide, and might certainly encompass any bad faith termination of intended contractual relations. Taken at its widest, the doctrine would have the potential to destroy the freedom not to contract and might put parties off negotiating contracts in the first place without having formed a preliminary contract determining how the negotiating process for the substantive contract was to be conducted. The doctrine has been criticised for ignoring the reality that negotiating parties look to their own interests; expecting them to protect the other party’s position has been said to be unrealistic.

Culpa in contrahendo was proposed by the German jurist Rudolf von Jhering, who saw it as based upon the trust which exists between negotiating parties.40 While the doctrine was originally accepted into German law in uncodified form, it was incorporated into the BGB as a general form of liability in the most recent revision of the Code.41 Even before this general incorporation there were, however, what could be classified as specific, narrower instances of culpa in contrahendo, for instance §119 on contracts avoided for mistake, which provides that a party avoiding a contract must pay damages to the other party for losses which that other party suffers ‘as a result of relying on the validity of the declaration [of intent of the other party]’.

The now general provision on culpa in contrahendo (§311(2)) states that an obligation under §241(2) – that is, an obligation obliging ‘each party to

39 Kessler and Fine, ‘Culpa in Contrahendo’, p. 404.

40  Von Jhering, ‘Culpa in Contrahendo’, pp. 1–112.    41  See §311(2) BGB.

take account of the rights, legal interests and other interests of the other party’ – comes into existence by:

(1)the commencement of contract negotiations,

(2)the initiation of a contract where one party, with regard to a potential contractual relationship, gives the other party the possibility of affecting his rights, legal interests and other interests, or entrusts these to him, or

(3)similar business contacts.

This codification has been described as ‘utterly vague’ and liable to perpetuate differing academic views on the nature of culpa in contrahendo.42 Such differing views are quite substantial, not least in respect of the underlying nature of liability which is created by the doctrine. While there is general agreement that the new provision in the BGB is not promissorybased liability, but rather a continuation of the trust-based liability of the former uncodified law, there is no agreement on whether liability in culpa in contrahendo is best seen as lying in contract, in tort, or somewhere between those two obligations.43

A substantial part of the difficulty in deciding where taxonomically to place culpa in contrahendo stems from the quite varied circumstances which can trigger the doctrine, as well as from the nature and extent of recovery available. As to the different factual circumstances triggering liability, these include:

(1)claims for harm caused in circumstances which are almost delictual, but where there is a contractual background: these cases are typically of harm for personal injury caused to A while contemplating contracting with B. Examples include the famous cases of a linoleum roll falling on to a potential customer,44 and the child of a shopper slipping on a vegetable leaf;45

(2)claims by A for his being worse off as a result of not entering a contract with B;

42Markesinis et al., The German Law of Contract, p. 93.

43See Zimmermann, Law of Obligations, p. 245, who states that culpa in contrahendo ‘falls squarely into the grey area between the law of contract and the law of delict … there is much to be said for the proposition that it does not fit neatly into either of these, but rather forms an integral part of a third “track” of liability’. For citation in German of the different literature expounding the various views, see Schlechtriem, Schuldrecht, p. 13; for a discussion in English of the issues, see Dietrich, ‘Classifying Precontractual Liability’, pp. 174f.

44 RGZ 78, 239. 45 BGHZ 66, 51.

(3)claims by A for his being worse off as a result of B’s inducing him to contract with C;

(4)claims by A for having entered a contract with B on unfavourable terms; and

(5)claims under §311(3), that is claims against agents or those acting like agents in facilitating the conclusion of a contract.

In all these types of claim, damages are available, though usually only if the harm caused was the result of the fault of the breaching party.46 There are, however, some instances of strict liability for culpa in contrahendo, for instance in the case mentioned earlier of damages under §122 for contracts avoided for mistake. Damages essentially protect the restoration interest, though in some types of case the award can approach compensation in the performance measure,47 adding further confusion to the proper classification of the doctrine.

What will be noticed from the different types of factual circumstance listed above capable of giving rise to claims of culpa in contrahendo is that types (1), (3) and (4) would usually be settled in tort by most systems, sometimes through claims of misrepresentation (the German solution thus closing a gap in the codal provisions on error, discussed later). Type (1) is problematic for German tort law because of the terms of §831 which allow a vendor to evade liability if he showed care in employing and supervising the employee (in other words, which limit what would be called vicarious liability for employee’s torts in some systems). Styling this culpa in contrahendo, and giving it a pre-contractual nature, means that the §278 contractual liability for employees can be used. Types (3) and (4) have been developed to deal largely with cases of negligent misrepresentation causing pure economic loss, as German tort law does not allow recovery in such cases.

Type (2) cases raise the most interesting issues for the idea of promise, or rather the freedom not to promise. It is this type which the Red Owl facts fall into. Considering possible liability in this type of case prompts one to ask whether negotiating parties owe each other any duties on account of negotiations breaking down. In German law, the answer is yes (as will be seen more fully in a discussion of such duties later in this chapter), the principle of trust and good faith giving rise to such duties, and the breach of good faith creating liability in culpa in contrahendo. German case law

46  See §280(1) BGB.    47  See, for instance, BGH NJW 1965, 812.

has demonstrated that in such type (2) cases four requirements must be met before liability can be established:

(a)A and B entered into negotiations for the conclusion of a contract;

(b)A had a legitimate expectation that a contract would be concluded with B;

(c)in reliance on this legitimate expectation, A incurred expenses or otherwise suffered loss which stems from the failure to conclude the contract; and

(d)B broke off the contract negotiations without good cause.

Thus, for instance, negotiations conducted by a party in bad faith, with no intention of contracting with the other party, would fall squarely within this category. Liability would also arise where, for instance, the vendor of a house, having arranged a visit to the property with a prospective purchaser, omitted to inform the prospective purchaser that the house has been sold, thus causing the prospective purchaser wasted travelling expenses.48

Many legal systems might well find liability in the terms defined by German law in type (2) cases controversial. Consider the criteria which must be met: these include that A has a ‘legitimate expectation’ that a contract will be concluded, and that B must break off negotiations ‘without good cause’ (ohne triftigen Grund). As to the first, it seems odd, in a system which says that once an offer is made it cannot usually be withdrawn, to consider that it is ever legitimate to expect that a contract will be concluded if an offer has not yet been forthcoming (if it has, that will provide the basis of liability in any event). As to the second, it seems problematic attempting to assess objectively what may or may not be a good cause for breaking off negotiations. Clear bad faith may be easy to identify (the fraudulently conducted negotiations, for instance), but what of less clear-cut cases? This surely is asking courts to dabble in business decisions and assumes that the motivating factors of commerce are susceptible to scrutiny by reference to judicial norms. Such a process must be fraught with difficulty and liable to claims of judicial interference in non-judicial matters. Ultimately, the underlying legitimate concern about liability in this type (2) case is that it seems to infringe the freedom of parties not to ­contract. While under culpa in contrahendo there would most certainly have been liability on the Red Owl facts, there would also be so in many

48  This example is cited by Kessler and Fine, ‘Culpa in Contrahendo’, p. 405.

is no longer financially feasible for it, it is precluded from withdrawing (such a reason being valid but only pertaining to it) without compensating the other for any losses it may have suffered. Many will feel that this is far too great an interference with freedom of contract, though whatever view is taken, this development of the Common law of Australia in Sabemo has remarkable parallels with the culpa in contrahendo liability of German law.

As a final remark, it is interesting to note that the Louisiana courts have flirted with the idea of establishing liability based upon the idea of culpa in contrahendo. The Louisiana Supreme Court did so in Coleman v. Bossier City,57 in which, due to certain contracts being held invalid on account of a failure to comply with state statutes (a potential invalidity of which the Court felt the defendants ought to have known), developers of property were left substantially impoverished. Because the defendant municipality had benefited from the developer’s loss, a claim in unjustified enrichment was thought able to furnish a remedy for the plaintiff. This meant that the majority of the Court felt that ‘we need not now decide whether recovery may be allowable under the doctrine of culpa in contrahendo’.58 This statement offers a tantalising glimpse of what might have been the first example of culpa in contrahendo liability in Louisiana, but the possibility of such development has not been taken up by the courts, and the subsequent enactment59 of a codal provision that amounts to promissory estoppel may perhaps be perceived as having removed any pressing need to revisit the idea of culpa in contrahendo. Were the possibility of so developing the law to be reconsidered at some point, then there are Louisiana cases other than Coleman which might be looked to for assistance. The early twentieth-century case of Kaplan v. Whitworth60 could, for instance, provide a basis for developing culpa in contrahendo. In the opinion of the court in that case, though an agreement between the parties did not amount to a valid contract of sale, the litigation was remitted for further procedure on the question of whether the plaintiff’s losses incurred in reliance on the belief, fostered by the defendant, that the land would be sold could be proved. If the plaintiff could so prove, said the court, ‘[t]hese actual losses, we think, he may be entitled to recover’.61 The affinity of the facts of the case with the doctrine of culpa in contrahendo are evident.

57 305 So 2d 444 (La 1974).    58  Per Tate J, for the majority, at 447. 59  CC Art. 1967.    60  40 So 723 (La 1905).    61  Per Monroe J at 725.