• Video

Dealing with Third Party Interests in Contracts: Assignment & Third-Party Beneficiaries

What creates third-party interest in a contract, and when is that interest binding? Professor Richard Epstein of NYU School of Law lays out two key ways that third-party interest is created: assignment and third-party beneficiary, and explains how and when they are binding and when they are not. https://youtube.com/watch?v=V4iVOe2JJ98


There are two ways in which you can create third-party interest. One is by assignment and one is by third-party beneficiaries. Starting with the assignment situation, suppose it turns out that, um, A owes B a thousand dollars, but it turns out that B needs the cash right now and A’s promise is only to be paid at a future time. It is perfectly respectable in most situations ah, for B to take the particular right to receive the money, sell it to C and receive in exchange eight hundred dollars today. He’s better off because he gets the money when he needs it and C is better off because he gets a better loan. Do you think in effect under these circumstances that the debtor is allowed to veto the transaction? And the answer generally speaking is no because what happens is the obligation that you’re talking about is no more onerous if paid to one party than the other. But if you want to assign only some part of this particular debt, then the debtor has a legitimate beef because he doesn’t want to have to do business with two creditors, it’s much more difficult to renegotiate a loan for extensions and you have to deal with two enforcement actions. So the usual rule is given the surcharges it’s called, the extra burden are from a partial assignment, those things are prohibited. And then there are also cases where it may well be complicated because it’s a service obligation. I may agree to be your manservant and now you want to assign the obligation to somebody else, to whom I don’t wish to work and so the usual rule when you’re dealing with personal services, a free assignment is not going to be allowed because of that surplus interest. Under the early common law rules of privity of contract, it was generally thought to be impossible to have an obligation that was enforced by a third party. So going back to the Roman rule on this point it turned out that B as the promisor could discharge that obligation by making the payment to C but that C could not enforce that right if B did not pay. Starting with the great case of Lawrence and Fox in 1859, the rule was that the third party beneficiary could sue in order to collect the debt. Generally speaking, allowing the third party to sue is extremely important. The key thing to understand about these promises is they are very narrow scope. The standard contract today will often have the following clause in it; this agreement does not create any rights in any third parties, the doctrine of third-party beneficiary is excluded. The explanation for this is most people wish to have the right to modify contracts freely and if, in fact, you interpose a protected right to a third party, it is widely understood today that third-party beneficiary rights are generally inefficient. It’s not that you have to ban them as a matter of law, it’s that these obligations tend to be excluded as a matter of explicit agreement.

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