Right to ter­mi­nate con­tracts for insolvency

Ipso fac­to” claus­es are claus­es which allow a par­ty to ter­mi­nate a con­tract if the oth­er par­ty suf­fers an insol­ven­cy event. These pro­vi­sions are enforce­able even if the insol­vent par­ty has oth­er­wise con­tin­ued to per­form its oblig­a­tions under the contract.

Some impor­tant reforms came into force on 1 July 2018 which restrict the oper­a­tion of ipso fac­to claus­es. The right to ter­mi­nate (or to enforce secu­ri­ty) is now not enforce­able to the extent that it is trig­gered by a par­ty suf­fer­ing an insol­ven­cy event (such as enter­ing into admin­is­tra­tion, appoint­ing a receiv­er, or imple­ment­ing a scheme of arrange­ment). The non-enforce­ment peri­od lasts from the date of appoint­ment of the receiv­er or admin­is­tra­tor until the admin­is­tra­tion or receiver­ship ends.

The inten­tion is to pro­mote busi­ness turn­around and recov­ery by assist­ing busi­ness­es to con­tin­ue to trade when they find them­selves in finan­cial dif­fi­cul­ty. By pre­vent­ing the ter­mi­na­tion of trad­ing rela­tion­ships in these cir­cum­stances, the reforms should help busi­ness­es to retain their enter­prise val­ue and increase the like­li­hood of a sale of the busi­ness as a going concern.

Note that the actu­al right to ter­mi­nate or amend an agree­ment for non-per­for­mance or default remains enforce­able notwith­stand­ing the new rules. The new rules apply only to con­tracts entered into after 1 July 2018, and there are also quite a few exemp­tions which have broad appli­ca­tion to com­mer­cial agree­ments. These include:

  • Con­tracts relat­ing to the issue of secu­ri­ties or the sale of a business
  • Con­tracts where the con­troller consents
  • The right of indem­ni­ty for cer­tain costs 
  • Step-in rights under cer­tain con­tracts (such as con­struc­tion con­tracts and long term ser­vices contracts) 
  • Set off, assign­ment and nova­tion rights.

It is prob­a­bly a good idea to use a mod­i­fied ver­sion of your exist­ing ipso fac­to claus­es in any new agree­ments, and if you want to avoid the restric­tions in rela­tion to con­tracts entered into before 1 July, you can seek to extend, vary, novate or assign the rights under exist­ing con­tracts (rather than enter into new ones), as the exist­ing agree­ments will not be affect­ed by the new rules.