The overarching obligation to act in good faith in contracts governed by UAE law - legal regime and practice

Date published

05/11/2019

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This article focuses on "good faith", a key obligation on the parties to a contract governed by UAE law, which may have direct implications on the assessment of the respective parties' performance of those obligations.

For any type of contract that is subject to UAE law, the duty to act in good faith is expressly set out in Article 246 of the UAE Civil Transaction Code, which provides as follows:

(1) "The contract must be performed in accordance with its contents and in a manner consistent with the requirement of good faith.
(2) The contract shall not be restricted to an obligation upon the contracting party to do that which is (expressly) contained in it, but shall also embrace that which is appurtenant to it by virtue of the law, custom, and the nature of the transaction."

Article 246(1) imposes a positive duty on a party to perform its obligations under a contract in a manner consistent with the principle of good faith. Article 246(2) deals with the fact that performance of a contract is not limited to the express terms of the contract, but also encompasses additional obligations, which can be implied from the nature of the transaction itself, custom or tradition.

The UAE Courts have consistently confirmed the existence of a duty of good faith that extends beyond the words of the contract, by emphasizing that reference should be made to the UAE law, which is influenced by Islamic Shari'a, custom and the nature of the transaction. Further, the UAE Courts have consistently confirmed that good faith is presumed and that the burden of proving bad faith falls on the party alleging the same.

While Article 246 stipulates the requirement of good faith, it does not define it. Therefore, when the concept is raised before a court or arbitral tribunal, it is for judges/arbitrators (exercising their discretion) to determine whether, in the circumstances of the case, there has been bad faith, taking into account that good faith is always presumed.

In practice, establishing bad faith has proven to be difficult and rare (reflecting the absence of a definition in law or jurisprudence). In some instances, the deliberate concealing of a fact (or silence as to the knowledge of a fact), coupled with the intention to cause harm, has been regarded by the UAE Courts as an act of bad faith. In others, in deciding whether an act constitutes bad faith, the court has looked at Article 106 of the Civil Code, which provides that:

"A person shall be held liable for an unlawful exercise of his rights. The exercise of a right shall be unlawful: if (a) if there is an intentional infringement (of another's rights); (b) if the interests which such exercise of right is designed to bring about are contrary to the rules of the Islamic Shari'ah, the law, public order, or morals; (c) if the interests desired are disproportionate to the harm that will be suffered by others; or (d) if it exceeds the bounds of usage and custom."

The general position adopted by UAE Courts on abuse of right is that:

"It is settled law under Articles 104 and 106 of the Civil Code that whoever exercises a right lawfully will not be liable for any harm arising thereout. The exercise of a right will be deemed to be unlawful if there is an intention of infringing or if it involves malice and the sole intention of the person exercising the right is to cause harm to another, or if the interests to be achieved are contrary to the provisions of Islamic Shari'a or of the law, or are against public order or morals, or if the interests involved are not proportionate to the harm that will be done to others thereby or if the exercise of the right exceeds the bounds of usage and custom. The person who alleges that one of those factors exists has the burden of proving it".

On that basis, the Court would have to find that the defaulting party has abused its rights while performing its obligations. In that context, the notion of good faith is a corollary to the abuse of rights theory, which requires that the offending act be intentional.

While the obligation to act in good faith is codified in Article 246 of the Civil Code, there is nothing in the law to suggest that the breach of such obligation would in itself result in a court awarding compensation to the party suffering harm as a result of the breach. In fact, there is no clear guidance in UAE law as to the legal implications of a breach of a duty to act in good faith per se. The usual situation is that UAE Courts award compensation when they decide there has a been a breach of another specific law and/or contractual term, coupled with an act of bad faith/abuse of rights.

That said, one should not ignore the importance of the obligation to act in good faith and not to abuse one's rights while performing the contract.

By way of examples, in the context of construction contracts governed by UAE law, one might see that a duty to act in good faith and not to abuse ones rights may have wide ramifications. This is for instance the case in the following scenarios:

  • Where claims were not formally made by a contractor in strict compliance with the contract, but were informally communicated to the employer via an exchange of correspondence or recorded in minutes of meetings; any attempt by an employer to rely on a time bar provision in such circumstances, is likely to be restricted by the application of the principles of good faith and abuse of rights.
  • Where defective materials have been supplied on site or used in a project and the employer/contractor – as the case may be - does not raise an objection to the same in a timely fashion or at all, when he knew or should have known of these defects. If those materials deteriorate in themselves and/or impact on the end product, the employer/contractor (in failing to object at an appropriate time or at all) may be deemed to have acted in bad faith, abused its rights and not have mitigated its losses. This in turn may impact on its entitlement to claim compensation for the resulting damage. This flows from the duty of the employer/contractor to act in good faith and not contribute to their own losses.

Finally, it is frequently suggested that the good faith obligation under UAE law is not only incorporated into a contract, but also implied at the contract negotiation stage. This line of defence is commonly raised in post-acquisition disputes or in instances when the signed version of an agreement is different from the original draft. In such situations, it is common for one party to claim compensation and/or termination of a contract by alleging that the other party acted in bad faith during contract negotiations and/or "tricked" the former into signing the agreement.

Such a defence is not usually upheld by the UAE courts or Tribunals. Unlike other civil law jurisdictions, UAE Courts have (to date) limited the application of Article 246/good faith to the performance of the contract – except for instances where the duty to act in good faith at the negotiation phase is expressly set out in the law applicable to the specific type of contract, such as an insurance contract (where the insured is required by Article 1032 Civil code to disclose all information material to the insurer's evaluation of the risk).

Further, while the UAE Courts have looked at good faith as an interpretive instrument to assess parties' performance of contractual obligations, they have not extended that principle per se to the contract negotiation stage. In this respect, the UAE approach differs from certain other civil code jurisdictions, including Egypt and France (prior to the latest amendment to the French Civil Code, which has now codified a duty of good faith at the contract negotiation stage).

This topic is subject to ongoing doctrinal debate in the UAE. However, the courts' current position is that the issues of conduct that may impact the validity of a contract at its formation phase, are those where consent has been vitiated as a result of misrepresentation (i.e. gross cheat combined with deception), error or fault, and not bad faith in negotiation. It is yet to be seen whether the UAE Courts will follow certain other civil law jurisdictions and will extend the application of the principle to the contract negotiation stage.

This article was originally published on Mondaq