Brexit: commercial contract implications

Brexit is likely to only have a limited impact on English contract law (which is mainly a creature of common law). However, its impact on the key obligations under contracts may be more significant.

For existing contracts which continue in force after the end of the transition period (or are affected by Brexit-related developments before then), businesses should review those contracts to see whether there is any impact on a business’ performance, or the costs of performance, of its obligations under the contract which arises from Brexit and whether those contracts provide protection as they currently stand.

For any future contract entered into after Brexit occurs, businesses should consider ensuring that the contract is drafted in such a way as to provide protection against the impact of Brexit.

What should be considered?

Existing contracts

Checklist for reviewing existing contracts

Business change

Which contracts will be affected by the business’ overall response to Brexit and the end of the transition period? For example, if the business intends to relocate some of its operations, will that mean contracts related to the previous / new location of the business need to be changed or terminated / re-negotiated? What cost implications may arise?

Term

Will the contract still be in force on 31 December 2020? If the contract will come to an end before this key date, could the contract be extended (and particularly, unilaterally)?

Flexibility

How flexible is the contract? For example, can the contract be terminated on short notice (although this does raise the risk that the other party might also terminate)? Similarly, is the contract for long term supply or service / are there any minimum purchase commitments under the contract or is it an “at will” arrangement?

Supply chain

What effect will the end of the transition period have on the supply chain; in particular, as to performance and cost of performance by subcontractors and suppliers? How robust are the subcontracts / supply contracts (and can any cost be passed to the other party)?

Territory

Does the agreement contain territorial references to “the EU”? If so, will that include the UK after the end of the transition period (this will depend on how the EU has been defined)? It will be important for many commercial agreements, in particular agency, distribution, franchising and other licensing arrangements.

Currency

In what currency must payments be made? Who bears the risk of a change in exchange rates during the term of the contract? Are the prices fixed in a particular currency and is there a mechanism to vary the charges in light of any changes to exchange rates?

Tariffs

Who pays tariffs? Are sales subject to Incoterms and, if so, which Incoterm?

From 1 January 2021, the UK will apply a UK-specific tariff to imported goods.  This UK Global Tariff (UKGT) will replace the EU’s Common External Tariff, which applies until 31 December 2020.

The UKGT will apply to all goods imported into the UK unless:

• an exception applies, such as a relief or tariff suspension
• the goods come from countries that are part of the Generalised Scheme of Preferences
• the country you’re importing from has a trade agreement with the UK

It only shows the tariffs that will be applied to goods at the border when they’re imported into the UK.

It does not cover:

• other import duties, such as VAT
• the precise details of trade remedy measures, such as anti-dumping, countervailing and safeguards

Goods covered by a tariff-rate quota

Some products are covered by a tariff-rate quota. This allows a limited amount of a product to be imported at a zero or lower tariff rate. 

The limit may be expressed in units of:

• weight
• volume
• quantity
• value   

If this limit is exceeded, a higher tariff rate applies.

If there is a tariff-rate quota on your product, you can apply to import a limited amount at a reduced rate of customs duty.  Some tariff-rate quotas are only applicable to products imported from a specified country.

The government will publish further advice on tariff-rate quotas later in 2020. This will be based on the quotas in the UK goods schedule at the World Trade Organization, published in draft in 2018.

Customs clearance

Who is responsible for customs clearance? Who will pick up the cost and expense of managing this process? Are sales subject to Incoterms and, if so, which Incoterm? What impact might customs control (e.g. due to delays) have on agreed service levels and delivery timetables / obligations?

From 1 January 2021, you'll need to make customs declarations when you import or export goods from the EU. These rules currently apply to importing and exporting goods to and from the rest of the world, including Switzerland, Norway, Iceland and Liechtenstein.

In some situations, you can delay making a declaration for up to 6 months after you have imported goods. If you’re importing standard goods into Great Britain from the EU between 1 January and 30 June 2021, you can use ‘entry in the declarant’s records’ without getting authorisation in advance and do not need to make an entry summary declaration.

You’ll need to:

1. Record the goods in your own records.
2. Account for the VAT in your VAT Return if you’re VAT registered.
3. Make a supplementary declaration up to 6 months after the goods were imported.

You or someone who does your import declarations for you will also need to have the following in place before you make your first supplementary declaration:

• authorisation to use simplified declarations for imports
• a CHIEF badge
• software that works with CHIEF
• a duty deferment account for paying any import duties and VAT

For controlled goods you must follow the normal rules for making an import declaration.

Service provision - location

Will any restrictions apply to the provision of services (including from where they may be provided), whether to EU member states or other countries? What cost implications may arise?

Resource - labour

Is there a risk of labour shortages (in particular, which could lead to delays / difficulties in performing obligations)? Will the loss of freedom of movement lead to labour shortages post-transition period or an increase in labour costs?

Excise goods rules

If your excise goods are dispatched from an EU member state from 1 January 2021, you must complete a customs declaration and use the relevant customs procedures when they arrive at the place they enter into Great Britain.

You can use Customs Freight Simplified Procedures (CFSP) to import some excise goods such as alcohol and tobacco. All other excise goods are excluded from using CFSP. This means you’ll be able to transport your goods into Great Britain without having to make a full customs declaration in advance.

To use a simplified declaration for imports you’ll need:

• to follow the controlled goods procedure
• a duty deferment account

From 1 January 2021, you will not be able to use the following to import excise duty paid goods into Great Britain:

• a Simplified Accompanying Administrative Document (SAAD)
• EU distance-selling arrangements

Labelling rules

Make sure you are compliant with the marking and labelling rules that will be effective from 1 January 2021. They will apply to importing and exporting food, plant seeds and manufactured goods.

Licensing/standards

Could either party (or their personnel) lose the benefit / recognition of EU-wide licensing or approval arrangements?

From 1 January 2021, the rules for importing some types of goods will change. You’ll need to get a licence or certificate to import some types of goods. You might also need to pay an inspection fee for some goods before they’re allowed into the UK.

There are specific rules for: live animals, animal products, high-risk food and feed, fish for human consumption, live fish and shellfish for aquaculture and ornamental purposes plant and plant products endangered animal and plant species, and products made from them veterinary medicines, wood packaging, timber, controlled drugs, drug precursor chemicals, nuclear materials, fluorinated gases (F gas) and ozone-depleting substances, and waste.

EORI Number

You need an EORI (Economic Operators Registration and Identification) number to move goods between the UK and non-EU countries. If you are exporting this number needs to start with “GB”.

If you do not have one, you may have increased costs and delays. For example, if HM Revenue and Customs (HMRC) cannot clear your goods you may have to pay storage fees.

If you haven’t got an EORI number, it takes 5 to 10 minutes to apply for one. You’ll get it either:

• straight away; or
• within 5 working days (if HMRC needs to make more checks).

Data protection

Are there data transfers from the: EU to the UK; UK to EU; and / or other countries (where such transfers could impact on arrangements with the EU)? If so, will Standard Contractual Clauses or other mechanisms be needed to ensure those transfers can continue post-Brexit? Please see our separate Note on Brexit and Data Protection.

Tax

Will Brexit result in a tax changes? Will Brexit result in changes to the tax treatment of payments under the contract, for example changes to the way VAT is applied? Who will be responsible for this?

Does the contract already provide Brexit-protection?

There may be existing provisions in a contract that will assist in providing protection or recourse where Brexit-related events affect a contract:

Force Majeure

The term force majeure does not have a recognised meaning in English law. Rather, whether the provision will assist will depend upon the drafting of the clause.

Force majeure clauses typically seek to relieve a party to a contract from liability for a breach resulting from “circumstances beyond its reasonable control”. An event will only be beyond the reasonable control of a party if it has taken steps to avoid its operation or mitigate its results. If Brexit was a possibility when the contract was entered into, it could be argued that the parties could and should have planned for its effects.

A change in economic or market circumstances affecting the profitability of a contract or the ease with which the parties’ obligations can be performed is not generally accepted as being a force majeure event.

Unless there is a suitable express reference to Brexit and the end of the transition period, the market view and case law suggest that force majeure clauses are unlikely to assist. However, certain events arising from Brexit, may – dependent upon the drafting of the clause – assist. For example, in the context of delays in delivery of goods, the definition of force majeure may be drafted or capable of interpretation to encompass delays due to cross-border issues.

Material Adverse Change (MAC)

MAC clauses are not as standard an inclusion as force majeure clauses, but do appear in certain types of contracts; for example:

• Lending - to allow the lender to end the arrangement if there is an adverse change in the borrower’s position or circumstances; and
• Corporate Acquisition - to allow a buyer to walk away from the deal if events occur that are detrimental to the target company.

Whether the effects of Brexit will trigger a MAC clause will depend on how the clause is drafted. However, a party is usually unable to rely on a MAC clause on the basis of circumstances it knows about when it enters into a contract.

Compliance with law clauses

Many contracts state expressly that the parties must comply with applicable law. If the contract is silent on this point, it will generally be a matter of interpretation.

Where a party is obliged to comply with the law from time to time, it is still likely to be a matter of interpretation whether such a clause could oblige a party to absorb the costs associated with a Brexit-related change in law.

Long-form agreements, such as outsourcing agreements, often expressly address what will happen if the law changes, for example by specifying that charges cannot be increased and requiring the supplier to consult with the customer before making any necessary changes to the services.

Change Control

Long-term agreements, particularly outsourcing agreements, may contain a clause setting out a procedure to follow when either party wishes to change the contract. Often either party can table issues for discussion but it may be that either or both parties can only compel certain changes, for example those which are technically or legally necessary. Generally there is no right to terminate if a (non-essential) change is not agreed.

Such a clause may be of assistance if, for example, the way the contract is performed needs changing to reflect a Brexit-related change in law. However, the default position on how the costs of such a change will be borne may be inappropriate.

Hardship

A long-term agreement may contain clauses which deal with which party should bear the burden of increases in costs of supply, fluctuations in interest rates or exchange rates, and other changes to factors that the parties took into account when they made the deal.

Whether such a clause can be invoked when a Brexit-related event occurs depends entirely on how the clause is drafted. Even if it can be invoked, the clause may only offer limited assistance. Will changes be agreed according to an agreed mechanism (for example, price adjustments as per a formula) or simply be negotiated? What will happen if no changes can be agreed?

Termination

The contract may include scope for termination, by either party, in connection with circumstances arising from Brexit or a failure to agree a change or, potentially, for convenience (although subject to some form of compensation). If a contract’s termination clause gives a party a right to terminate on relatively short notice, the prospect of termination can always be raised as a means of encouraging negotiation.

Does the common law position assist?

Frustration

Frustration arises where an event occurs after the date of the contract, without the fault of either party, which either transforms the obligations into something radically different, or makes it physically or commercially impossible to fulfil the contract. Supervening illegality or a change in law can frustrate a contract.

English courts have traditionally construed the law of frustration narrowly. In particular, a contract is not frustrated:

• Where the alleged frustrating event should have been foreseen by the parties (but this result depends on the extent to which the event was foreseeable); or
• Due to inconvenience, hardship or financial loss.

The market view and case law suggest that the law of frustration is, of itself, unlikely to assist on Brexit. However, this is not to say that the law of frustration would not apply where certain laws arising from Brexit or changes in events due to Brexit, render the performance of a contract commercially impossible to fulfil.

Interpretation and implied terms

The courts will generally be reluctant to interpret a contract or imply a term into a contract to assist a party who is adversely affected by Brexit. Whilst interpretation should have regard to business common sense, this does not mean the courts will relieve a party from the consequences of their imprudence or poor advice, if that involves departing from the natural meaning of the contract. Similarly, the fairness of a proposed implied term or the fact that the parties would agree to it is (by itself) insufficient grounds for implying it.

Both interpretation and implication of terms have regard to the background knowledge reasonably available to the parties at the time they entered the contract. If the parties fail to specifically provide for Brexit they may be taken to have accepted that any additional costs and risks should lie where they fall.

Future contracts

Checklist for drafting future contracts

Business should ensure that future contracts address the following issues, where relevant.

Parties

Consider location of the parties to the contract. Is there any advantage in ensuring the parties are both in the UK or EU?

Definition of EU and UK

Make sure that territorial references to the EU make it clear whether or not the EU includes the UK.

Predictable events

Are there any specific events for which the parties feel confident about providing specified consequences? If so, include clauses which define the trigger event and the consequence.

Supply of goods

The following should be considered:

• Pricing formulae to vary prices in the event of changes to tariffs;
• Who is to be responsible for customs clearance and the potential impact delays in customs clearance might have on delivery times;
• The regulatory requirements the goods must satisfy (in the event of divergence between the UK and EU) and who is responsible for conformity assessments; and

If use of UK or EU components might have an impact on rules of origin for tariff purposes.

Supply of services

The following should be considered:

• If the supplier will be permitted to continue to supply services after Brexit. This is a particular issue in relation to the “passporting” of financial services contracts;
• Whether loss of freedom of movement will have an impact on personnel who need to travel to provide services / availability of resources; and

Whether loss of recognition of professional qualifications for those personnel will be relevant.

Currency

Draft payment provisions which make it clear which party will bear the risk of exchange rate fluctuations.

Tariffs

Draft payment provisions which make it clear which party will bear the risk of additional / increases to tariffs.

Data Protection

Will personal data be transferred from the EU to the UK? If so, how will this be dealt with to ensure those transfers can continue post-Brexit (e.g. Standard Contractual Clauses)?

Termination

Consider including a termination for convenience clause, with a short notice period, or a specific Brexit termination clause.

Disputes

English law and the English courts will be largely unaffected by Brexit. However, enforcing an English judgment in a member state could be more difficult after Brexit and a conservative approach might involve taking local law advice on the ability to enforce a judgment against the other party after Brexit or opting for arbitration.

What are the options for future contracts?

Do Nothing?

The risk of not drafting to address Brexit uncertainty is that a party will be obliged to continue to perform its obligations in full, even if, as a result of Brexit-related events, doing so has become commercially unattractive. If an affected party is unable to renegotiate its contract it may find itself in breach of contract and facing termination for default and an action for damages.

However, doing nothing may be an option for:

• A party that is confident that their ability to perform and costs of performance could not be affected by Brexit or that their contract already caters for such effects;
• A party for whom the risks of doing nothing are not as great as the risks which come from introducing a Brexit clause. Many customers (as opposed to suppliers) may well be in this position;
• Short-term contracts, where the parties can revise their terms to address the impact of Brexit as it happens; and
• A party who has rights to terminate without penalty on short notice

Include a “Brexit Clause”

A “Brexit clause” is a clause that triggers some change in the parties’ rights and obligations as a result of a defined event occurring. Essentially, it is an “if/then” clause which attempts to govern what will happen in the event of a change.

Given that Brexit could affect almost every aspect of doing business but its actual impact is still uncertain, for some contracts the most a Brexit clause may offer is a binding requirement that the parties will attempt to renegotiate relevant aspects of the contract. For other contracts, it may be possible to specify consequences of certain events, but the risk here is that events occur for which the parties have not made provision.

Examples:

Examples include:

• Exchange rate fluctuation (potentially within a cap / collar);
• Imposition of additional duties; and

Increase in time for performance due to customs clearance delays.