Written by Scott H.D. Bower, Derek J. Bell, Peter D. Banks, Ranjan K. Agarwal, Russell J. Kruger and William A. Bortolin
In a precedent setting case, the Supreme Court of Canada has: (1) recognized good faith as a "general organizing principle" of Canadian contract law; and (2) recognized a new duty of "honest performance", which requires parties to be honest with each other in relation to the performance of their contractual obligations. The decision in Bhasin v Hrynew, 2014 SCC 71, applies generally to all Canadian contracts, other than those subject to Quebec law (which also recognizes certain obligations of good faith). The notion of a general and independent doctrine of good faith performance of contracts has historically been resisted in Anglo-Canadian common law. The decision in Bhasin v Hrynew deliberately stops short of recognizing a general "duty of good faith", but takes an incremental step in that direction, with the recognition of the narrower "duty of honesty".
At issue in Bhasin v Hrynew was a contract between Canadian American Financial Corp. (Can-Am), a provider of education savings plan investments, and Mr. Bhasin, one of Can-Am's retail dealers. The contract renewed automatically, unless notice of non-renewal was given at least six months prior to the end of the term. Can-Am terminated the contract, with the required notice, but had deceived Bhasin about its intention to do so. Had Can-Am not deceived Bhasin about its intention to terminate the contract, Bhasin could have transitioned and preserved his business to a greater extent than he was able to without such notice.
The Law Before Bhasin v Hrynew
Justice Cromwell characterized the role of good faith in Canadian common law as complex, incoherent, unclear and uncertain. Viewed as a whole, the law on good faith was undoubtedly complex prior to the decision in Bhasin v Hrynew. An array of narrow rules, rationalized in a variety of different ways, had been developed for different situations. However, taken individually, many of these rules were fairly settled. For example, the Supreme Court of Canada had previously recognized implied duties of good faith in the manner of termination of an employment contract, in the manner that insurers deal with claims, and in the manner that a company considers bids in the tendering context.
The Law After Bhasin v Hrynew
There are two distinct aspects to the Supreme Court of Canada decision. The first is the recognition of good faith contractual performance as "a general organizing principle of the common law of contract which underpins and informs the various rules in which the common law, in various situations and types of relationships, recognizes obligations of good faith contractual performance". The second is the recognition, "as a further manifestation of this organizing principle of good faith, that there is a common law duty which applies to all contracts to act honestly in the performance of contractual obligations."
The recognition of good faith as a "general organizing principle" will guide the development of the common law in the future, but has no immediate implications. Justice Cromwell identified an array of disparate legal rules, and attempted to group them together under the umbrella of a single unifying principle. The decision in Bhasin v Hrynew opens the door to recognizing new duties of good faith, but there are still hurdles to clear before that can happen. Justice Cromwell explained that "[g]enerally, claims of good faith will not succeed if they do not fall within existing doctrines", and directed that the "principle of good faith must be applied in a manner that is consistent with the fundamental commitments of the common law of contract which generally places great weight on the freedom of contracting parties to pursue the individual self-interest".
The duty of honesty recognized by the Court represents a new legal rule, which has immediate implications. Justice Cromwell explained the duty of honesty in contractual performance as requiring that parties "must not lie or otherwise knowingly mislead each other about matters directly linked to the performance of the contract". It is not a duty of loyalty or of disclosure, and does not require a party to forego advantages flowing from the contract. Justice Cromwell held that the duty of honesty operates irrespective of the intentions of the parties, although he did not rule out a role for contractual modification of the duty, so long as the parties "respect its minimum core requirements".
In the Court's view, the recognition of a duty of honesty poses no risk to commercial certainty in the law of contract and is clear and easy to apply. Justice Cromwell characterized this as a modest, incremental step, which is less drastic than recognizing a broader "duty of good faith", as the appellants had proposed. Justice Cromwell also pointed to the experience in Quebec and the United States (where a duty of good faith had already been recognized) as cause for comfort.
The new duty of honesty is described as applying generally, which could include anything from a commercial lending agreement to an over-the-counter consumer transaction. As a practical matter, however, there may only be a limited number of circumstances in which a claim based on the duty of honesty is viable, due to the need to show a causal link between dishonesty in performance and damages. Dishonesty regarding the intention to terminate an agreement, as in Bhasin v Hrynew, is a context where damages are particularly likely, since a party is often able to use advance notice to mitigate losses. Dishonesty regarding the intention to seize collateral, in the context of a lending or forbearance agreement, could raise similar issues.
Larger corporations could face challenges monitoring and controlling all of their counterparty interactions to ensure that contractual counterparties are not deceived. Consider, for example, telecom companies with large call centers. One possible solution is for the parties to agree that the duty of honesty will apply only to communications between certain designated representatives.
Promises made regarding when a product will be delivered or project completed may also raise potential issues. Justice Cromwell attempted to draw a "clear distinction" between the "failure to disclose" facts and "active dishonesty", but that distinction quickly evaporates as soon as one party asks a question that the other party does not want to answer (as happened in Bhasin v Hrynew). Any failure to give a fulsome answer could be construed as deception by omission (the Can-Am employee in Bhasin v Hrynew was faulted for responding "equivocally").
Another practical issue arises if a claim is litigated, and the defendant wants to take the position that it did not "knowingly" mislead the plaintiff. This would put the defendant's "state of mind" in issue, which drastically widens the scope of discovery in litigation. As well, the introduction of this new duty could potentially make it more difficult to get summary judgment on a contract claim where breaches of this new duty are alleged, and additional credibility and other factual dimensions are raised.
Further, this case raises numerous unanswered questions concerning the scope of this new duty of honesty, including whether it applies to both deliberate and innocent misrepresentations, whether it bars the representing party from later changing its position, and whether it creates a new positive duty on the representing party to subsequently disclose its change of position if it later changes its mind (or discovers new information) which makes the earlier statement no longer correct.
The extent to which parties may contract out of these new developments will also likely be a subject for future consideration. The Court said, somewhat enigmatically, that parties should be free "in some contexts" to relax the requirements of the doctrine "so long as they respect its minimum core requirements." Future litigation on what those contexts and minimum core requirements are is likely.
The duty of good faith recognized in the Uniform Commercial Code in the United States similarly started out as a duty of honesty (in 1952), but evolved over time to also include a duty of fair dealing (i.e., commercial reasonableness). Courts in most states have applied the duty narrowly, as an interpretive guide to the express terms of the agreement rather than an independent obligation. The content of the duty of good faith also remains the subject of vigorous debate. According to an Iowa Law Review journal article (cited in Bhasin v Hrynew for a different proposition, at para. 84), ambiguity in the meaning of "good faith" has resulted in "inconsistency and uncertainty". A footnote further describes the good faith cases as "rife with inconsistencies and confusion, even within single jurisdictions."
In the years ahead, we expect, contrary to the Court's hope, that there will be considerable uncertainty applying and developing the new general organizing principle of good faith and applying the new duty of honest performance. Experience has shown us that in the realm of complex commercial transactions, good faith arguments, and likely now the duty of honest performance, are, and will be, creatively used to gain an edge over counterparties. What may otherwise appear to be a straightforward contractual termination clause, as in this case, may not be so straightforward in practice. In the coming years, parties will have to carefully consider the potential scope of these new duties and what that may entail.