29 October 2020
On 28 May 2020, the Third Session of the Thirteenth National People's Congress of the People's Republic of China resolved that The Civil Code of the People's Republic of China (Civil Code) be approved. The Civil Code will come into force on 1 January 2021. Based on the Contract Law of the People's Republic of China (Contract Law), the ‘contract section of the Civil Code’ will make relatively substantial modification and improvement in the law regarding contract termination. This article will focus primarily on the following three aspects: (1) the peremption period for exercising the right of termination; (2) the time of termination of a contract through litigation or arbitration; and (3) the right to terminate by a party in breach.
(1) The peremption for exercising the right of termination
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Contract Law |
Civil Code – Contracts |
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Article 95 (Extinguishment of termination right): Where the period for exercising a right of termination is stipulated by law or agreement between the parties, and the period expires without a party exercising its right to terminate, the said right shall be extinguished. Where neither the law has stipulated nor have the parties made any agreement upon the period for exercising the right to terminate the contract, and a party fails to exercise it within a reasonable time after being demanded by the other party, the said right shall be extinguished. |
Article 564:
Where the law stipulates or the parties have agreed on the time limit for exercising the right to terminate a contract, and no party exercises it when the period expires, the said right shall be extinguished.
Where neither the law stipulates nor have the parties made any agreement on the period for exercising the right to terminate a contract, and the right is not exercised within one year from the date on which a party entitled to terminate the contract knows or ought to have known the cause for termination, or fails to exercise such right within a reasonable time after being demanded to do so by the other party, the said right shall be extinguished. |
According to Article 199 of the Civil Code – “except as otherwise provided by law, the duration of such rights as the right of revocation or termination, etc. stipulated by law or agreed to by the parties shall be calculated from the date when a party entitled to such right knows or ought to have known that such right has accrued, and the provisions on the suspension, interruption and extension of the limitation period shall not apply to the above duration. Upon the expiration of the duration, the right of revocation, the right of termination and other rights shall be extinguished.” Article 95 of the Contract Law merely stipulates that in the event of a failure by a party to exercise the right to terminate a contract at the end of the period prescribed by the contract for doing so, the said right shall be extinguished. However, it does not specifically prescribe for the peremption of the right of termination, which therefore, results in the absence of uniform rules governing peremption in contract termination in judicial practice.
In previous contract dispute cases, in order to determine the peremption of the right to terminate a contract, judges would usually cite Article 15 of the Interpretation of the Supreme People's Court on Several Issues Concerning the Application of Law in the Hearing of Cases Regarding Disputes over Contracts of House Transaction – “If the other party fails to demand, the right of termination shall be exercisable within one year from the date of accrual of the right to terminate, and the right of termination shall be extinguished if it is not exercised within the time limit”. By the same analogy, therefore, the peremption period of one year also applies. Nonetheless, due to the relatively huge differences between different types of contract, there are still many cases where judges could not directly apply the one-year peremption applicable to real estate transaction contracts, resulting in a big difference in judgments on the issue of peremption of the right of contract termination.
To solve the problem, Article 564, sub-paragraph 2 of the Civil Code stipulates that, “where the law does not stipulate or the parties have not agreed upon the time limit for exercising the right to terminate a contract, the right shall be extinguished if no party exercises such right within one year from the date on which the party is entitled to terminate knows or ought to have known the cause for termination, or fails to exercise such right within a reasonable period of time after being demanded to do so by the other party.”
Therefore, it is clear that the peremption period applicable to the right of contract termination is one year, which unifies the adjudication rules, provides clear legal guidance for judicial practice, and avoids differentiating treatments between different types of contracts on the issue of peremption of the termination right.
(2) The time of termination when the contract is terminated by litigation or arbitration
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Contract Law |
The Ninth Civil Conference Minutes (Consultation Draft)[1] |
Civil Code – Contracts |
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Article 96 (Exercise of termination right):
A party seeking termination of a contract in accordance with the provisions of sub-paragraph 2 of Article 93, or Article 94 hereof shall notify the other party. The contract shall be terminated from the time the notice reaches the other party. Where the other party raises objection, it may request the People's Court or an arbitration institution to determine the validity of the termination.
Where termination of a contract is subject to procedure such as approval or registration etc., as required by laws and administrative regulations, such provisions shall be followed. |
Article 48 (Time of termination of contract):
When the People's Court orders the termination of a contract, it shall determine the time of termination. If a party terminates the contract by exercising the right of termination, it shall be terminated from the date when the notice of termination reaches the other party. If the party directly terminates the contract by means of litigation, and the People’s Court confirms that the plaintiff has the right to terminate, the contract shall be terminated from the date when the copy of the complaint is served on the other party. The People's Court shall not support a party’s defence on the ground that the notice of termination has not been issued.
Where a party in breach applies for termination of contract and due to the occurrence of the exceptions specified in Article 110 of the Contract Law, the People's Court shall determine the time of termination of the contract in its judgment document taking into consideration the relevant facts. |
Article 565:
A party demanding termination of a contract in accordance with the law shall notify the other party. The contract shall be terminated when the notice reaches the other party; and if such notice specifies that the contract will be automatically terminated if the obligor fails to perform its obligations by a certain time limit, the contract shall be terminated upon the expiration of the time limit specified in the notice. Where the other party objects to the termination of the contract, either party may petition to the People's Court or an arbitration institution to confirm the validity of the termination.
Where a party does not notify the other party but directly claims termination of contract by instituting a legal action or applying for arbitration, if the People's Court or the arbitration institution confirms the claim, the contract shall be terminated when a copy of the complaint or the copy of the arbitration application is served on the other party.
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The methods for terminating a contract include termination by notice, commencement of litigation or application for arbitration. In terms of termination by notice, the time of termination is when the notice reaches the other party, whereas in the case of termination by commencement of litigation or application for arbitration, the time of termination was not stipulated before the issuance of the Civil Code. In judicial practice, there are two ways for identifying the time of termination of the contract, when a copy of the complaint or arbitration application is served on the other party; and the date on which the judgment or arbitration award takes effect. The Civil Code adopts the first way of identification, which is the same as the method stipulated in Article 48 of the Ninth Civil Conference Minutes (Consultation Draft). This method of identification emphasises and reiterates that the right to terminate is, by nature, a right of formation, and clarifies that the court or arbitration institution’s examination of a party's termination action is "confirmation" rather than "adjudication". Therefore, when a contract is terminated by commencement of litigation or application for arbitration, the time of termination is still "when a copy of the complaint or a copy of the arbitration application is served on the other party", that is, when the "notice reaches the other party", thereby clarifying the controversies in judicial practice.
(3) The defaulting party’s right to terminate the contract
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Contract Law |
The Ninth Civil Conference Minutes (Consultation Draft) |
Civil Code – Contracts |
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Article 110 (Liability for breach of non-monetary obligations):
Where a party fails to perform the non-monetary obligations or its performance of the non-monetary obligations fails to comply with the terms of the contract, the other party may request it to perform, except for any of the following circumstances:
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Article 48 (Time of termination of a contract):
Where the party in breach applies for the termination of contract or the contract is terminated due to the occurrence of the exceptions specified in Article 110 of the Contract Law, the People's Court shall determine the time of termination in its judgment document taking into consideration the relevant facts. (Note: For the full text of Article 48, please refer to the second table above) |
Article 580:
Where a party fails to perform the non-monetary obligations or fails to perform the non-monetary obligations in accordance with the terms of the contract, the other party may request it to perform except under any of the following circumstances:
If any of the foregoing circumstances renders it impossible to fulfill the purpose of the contract, the People's Court or an arbitration institution may terminate the contractual rights and obligations at the request of the parties, without prejudice to the liability for antecedent breach. |
Article 110 of the Contract Law is a defence for a defaulting party of its non-monetary obligations. However, the provision does not provide the defaulting party with the right to terminate a contract. In judicial practice, a scenario often happens that a non-defaulting party requests the continual performance of the non-monetary obligations, but the defaulting party invokes the said defence, rendering the non-monetary obligations unperformed, the contract could not be terminated, and the parties ended up in a deadlock. To avoid this scenario from happening, the Ninth Civil Conference Minutes (Consultation Draft) proposed for the first time the concept of the right of a defaulting party to terminate the contract, but without mentioning the responsibility for its breach of contract. Article 580, sub-paragraph 2 of the Civil Code stipulates that “the parties” can request termination of the contract which term should properly be understood to include a defaulting party, which in effect confers the right to terminate on the defaulting party, while preserving the liability for its breach of the contract on the defaulting party notwithstanding the termination. It should be noted that in the Civil Code, the termination right for a defaulting party shall only apply for non-performance of non-monetary obligations, and the right must be exercised through the court or arbitration institutions, that is, it can only be invoked through judicial channels, and therefore cannot be brought about by statutory means or by agreement, thereby effectively preventing the defaulting party from abusing the termination right causing instability to the transaction. This new provision of the Civil Code is conducive to resolving the contractual deadlock based on the principle of good faith, facilitating a win-win situation for the parties, and maximising resources utilisation.
For further information, please contact:
Myles Seto, Partner, Deacons
myles.seto@deacons.com.hk
[1] Full name is Minutes of the National Court Work Conference on Trial of Civil and Commercial Cases (Exposure Draft Prepared by the Second Civil Division of the Supreme People's Court), promulgated by the Supreme People’s Court on 6 August 2019 and currently effective.
