Unfair contract term protections for small businesses
From 12 November 2016, the existing unfair contract term protections for consumers will be extended to cover standard form small business contracts.
Before the law comes into effect, ASIC expects businesses to review their standard form small business contracts to remove any terms that could be considered to be unfair to ensure compliance by 12 November 2016.
This information sheet gives guidance on how the law deals with unfair terms in small business contracts for financial products and services. It describes the protections that are available for small businesses and ASIC's expectations of all businesses.
- What is a small business contract?
- What is a standard form contract?
- Which contracts are covered?
- Which contracts and terms are excluded?
- When is a term of a small business contract unfair?
- What happens if a court finds a term is unfair?
- What can I do if I think a term in my contract is unfair?
- What does ASIC expect businesses to do between now and 12 November 2016?
A small business contract is a contract for:
- a financial product, or
- the supply or possible supply of financial services.
At least one of the parties to the contract must be a small business. The law defines a 'small business', in the context of the unfair contract term protections, as a business that employs fewer than 20 people at the time the contract is entered into (including casual staff employed on a regular or systematic basis).
The relevant number of employees is the number of people employed by the legal entity that is entering into the contract.
The law does not define a ‘standard form contract’. However, in broad terms, a standard form contract is one that has been prepared by one party to the contract and is not subject to negotiation between the parties – that is, it is offered on a ‘take it or leave it’ basis.
If a small business alleges that a contract is a standard form contract, the contract is presumed to be a standard form contract unless proved otherwise.
In determining whether a contract is a standard form contract, a court may take into account any relevant matter, but must take into account whether:
- one of the parties has all or most of the bargaining power relating to the transaction
- the contract was prepared by one party before any discussion relating to the transaction occurred between the parties
- another party was, in effect, required either to accept or reject the terms of the contract in the form in which they were presented
- another party was given an effective opportunity to negotiate the terms of the contract
- the terms of the contract take into account the specific characteristics of another party or the particular transaction.
The unfair contract terms law applies only to 'standard form' small business contracts.
Small businesses enter into standard form contracts every day for financial products and services. Contracts for business loans, credit cards and client or broker agreements, for example, are almost certainly standard form contracts.
The new unfair contract term protections will apply to standard form small business contracts entered into, or renewed, on or after 12 November 2016, where the upfront price payable under the contract does not exceed $300,000 – or $1 million if the contract is for more than 12 months.
When assessing whether a small business credit contract falls within the above threshold, any interest payable is excluded from the upfront price payable.
The protections apply as follows:
- If a term of a contract is varied on or after 12 November 2016, the protections will apply to the varied term but not to the rest of the contract.
- If a contract is automatically renewed ('rolled over') on or after 12 November 2016, the protections will apply from the date the contract is renewed.
- If a contract is rolled over on a periodic basis (e.g. a month-to-month basis), the protections will apply from the first time a new period starts on or after 12 November 2016.
Small business contracts that are covered by an industry code, such as the Code of Banking Practice or the Customer Owned Banking Code of Practice, will also be covered by the unfair contract terms law.
Individually negotiated contracts are not covered by the unfair contract terms law. A number of other exceptions also apply.
The unfair contract terms law does not cover:
- insurance contracts regulated under the Insurance Contracts Act 1984
- the constitutions of companies, managed investment schemes or other kinds of bodies.
The responsible Minister has the power to specify another law deemed equivalent and enforceable to the unfair contract terms law. Contracts subject to that law will be exempt from the unfair contract terms law.
Applications to the Minister will be considered on the basis of:
- public interest
- the overall impact of providing the exemption
- the impact on small businesses of prescribing the law.
The Minister has not currently exempted any sectors from the new laws.
Further information about exempting a law from the unfair contract terms law can be found on the Treasury website.
The following specific contract terms are also excluded:
- terms that define the main subject of the contract (i.e. the goods or services that are acquired under the contract, or a term that is necessary for the supply of goods or services to occur)
- terms that set the upfront price payable
- terms that are required or expressly permitted by a law of the Commonwealth, or a state or territory.
What is the upfront price payable?
The 'upfront price payable' means the amount disclosed to the other party at or before the time the contract is entered into. Any future payments will be included in the upfront price as long as they are disclosed to the small business at or before the time the contract is entered into.
When assessing whether a small business credit contract falls within the transaction value threshold, any interest payable is excluded from the upfront price payable.
The upfront price does not include any other fees or charges that are contingent on the occurrence or non-occurrence of an event (e.g. loan default fees).
Example: Upfront price payable for a small business contract
A small business seeks a loan of $950,000 over 25 years from a large business. The interest rate on the loan is 10% per year.
A late fee of $50 is payable for each late payment.
Because this is a credit contract, the interest is excluded from the upfront price payable when assessing whether the contract falls within the transaction value threshold.
The late fee would also not form part of the upfront price payable as this is a contingent fee payable only in the event of late repayment.
This means that only the $950,000 principal amount would be used for the threshold test and, therefore, the unfair contract term protections would apply.
Only a court can determine whether a contract term is unfair. In deciding whether a term is unfair, a court must consider the extent to which the term is transparent, as well as the contract as a whole. The court may also consider other matters.
Meaning of 'unfair'
A term in a standard form small business contract is 'unfair' if:
- it would cause a significant imbalance in the parties’ rights and obligations arising under the contract
- the term is not reasonably necessary to protect the legitimate interests of the party that would benefit from its inclusion
- the term would cause financial or other detriment (e.g. delay) to a small business if it were to be applied or relied on.
Transparency of the term
A term is considered to be 'transparent' if it is:
- expressed in reasonably plain language
- presented clearly
- readily available to any party affected by the term.
Terms that may not be transparent include terms that are hidden in the fine print or schedules, or terms that are phrased in legal, complex or technical language. However, a term that is transparent could still be found to be unfair.
The contract as a whole
The court must also assess the fairness of a particular term in the context of the contract as a whole, including any other terms that may offset the fairness of the term.
For example, a potentially unfair term may be counterbalanced by additional benefits being offered to the other party. This means that a term could be unfair in one contract but not unfair in another.
Examples of unfair terms
The following examples contain some small business contract terms that may raise concerns under the unfair contract terms law.
Example 1: Lender's legitimate interests
A small business seeks finance which is secured by a mortgage over the home of the business. The contract contains a term under which a default by the small business borrower results in the small business being liable to pay large and excessive default fees. This may result in a transfer of equity from the small business to the lender.
This term is likely to be unfair as it imposes an unfair cost on the small business that appears to exceed the amount required to protect the lender's legitimate interests.
Example 2: Automatic rollover
A small business enters into a fixed-term lease. At the end of the lease term, unless it elects to purchase the goods or has made arrangements to return the goods, the small business is automatically entered into another fixed-term lease. To exit this new lease contract, early termination fees apply.
The term is likely to raise concerns under the unfair contract terms law as it allows the lessor to automatically renew the contract without the small business giving its consent.
The term would be less likely to raise concerns if the small business were able to immediately end the new lease without consequence.
Example 3: Right to unilaterally vary the contract
A small business enters into a loan contract. Under a term of the contract, the lender has the right to vary any term or condition of the contract, including interest or fees, if notice is given in writing. The small business does not have the right to end the contract, even if the lender increases its fees significantly (e.g. by 20%).
The term is likely to raise concerns under the unfair contract terms law as it allows the lender to unilaterally increase the price.
If an additional term were included stating that, if the price or services change, the small business is able to immediately cancel the contract without consequence, the original term would be less likely to raise concerns.
If a court finds that a term in a contract is unfair, it can make a range of orders, including:
- declaring all or part of a contract to be void
- varying a contract
- refusing to enforce some or all of the terms of a contract or arrangement
- directing a party to refund money or return property to the small business affected
- directing a party to provide services to the small business affected at the party's expense.
If a court finds that a term in a standard form contract is unfair, the term is void. This means that the term is treated as if it never existed. However, the contract will continue to bind parties if it is capable of operating without the unfair term.
If a court has declared that a term is unfair and a party subsequently seeks to apply or rely on the unfair term, it will be treated as a contravention of the Australian Securities and Investments Commission Act 2001. The remedies available include:
- an injunction
- an order to provide redress to the small business affected
- any other orders the court considers appropriate.
You can make a complaint directly to your financial services provider. If they cannot resolve your complaint, you may be able to take your complaint to an external dispute resolution scheme (e.g. the Financial Ombudsman Service (FOS) or the Credit and Investments Ombudsman (CIO)) if the provider is a member of the scheme and the dispute falls within their jurisdiction.
You can also make a complaint directly to ASIC. Information Sheet 153 How ASIC deals with reports of misconduct (INFO 153) explains how ASIC handles complaints.
We do not generally act for individuals and can only take action if the matter is within our areas of responsibility. We are more likely to take action when it will be in the wider public interest and in line with ASIC's objectives of fair and transparent markets, and confident and informed investors and consumers.
It is not ASIC's role to endorse contract terms or to state that they are unfair. Only a court can decide whether or not a term is unfair.
ASIC, as well as any party to the contract, may apply to a court to have a term declared unfair if it is in the public interest to do so.
ASIC is responsible for enforcing the unfair contract terms law in relation to financial products and services. For other goods and services, enforcement of the unfair contract terms law is shared between the Australian Competition and Consumer Commission (ACCC) and the state and territory consumer protection agencies.
- For unfair terms in contracts for non-financial products and services, contact the ACCC.
We expect businesses to use the transition period to review contracts for potential terms that would breach the new requirements. Where we identify a potentially unfair contract term during the transition period, we will bring this to the attention of the business and work with them to remove the term.
If businesses using contract terms of potential concern are uncooperative, or refuse to make recommended changes, we may consider enforcement action.
Where can I get more information?
- ACCC's guidance on unfair contract terms for non-financial products and services
Please note that this information sheet is a summary giving you basic information about a particular topic. It does not cover the whole of the relevant law regarding that topic, and it is not a substitute for professional advice. You should also note that because this information sheet avoids legal language wherever possible, it might include some generalisations about the application of the law. Some provisions of the law referred to have exceptions or important qualifications. In most cases, your particular circumstances must be taken into account when determining how the law applies to you.