Annulment by notice
A contract can be annulled if the validity requirements are not met at the time of its conclusion. This is the case, both under the old and the new Civil Code.
In principle, the nullity relates to the entire contract. However, as already established in case-law, the new Book 5 confirms that a partial nullity is also possible. In this context, annulment may be limited to:
- certain terms of the contract (material divisibility)
- certain parts of a term (theory of mitigation)
- in case of a multiparty contract: the legal relations between certain parties (personal divisibility)
The divisibility of a contract must be assessed according to the intention of the parties. For example, choice of law and dispute resolution clauses (e.g., choice of forum clause, clause of arbitration, clause of conciliation or mediation) are typically divisible from the rest of the contract. If the parties included an indivisibility clause in their contract, the contract will be completely void if one of the requirements is not met. But even then, a court can still, based on the purpose and scope of the violated standard, allow the contract to survive in part anyway.
Triggering of the nullity
In principle, nullity never takes effect by law. In other words, a contract affected by a nullity ground is not void by law, but rather annullable. The distinction between an amicable or judicial annulment of the contract is kept in the new Book 5.
But Book 5 adds a third option: the annulment by notice. The reasoning behind the introduction of out-of-court annulment is that it may be unreasonable to oblige the party who has grounds to invoke nullity to wait for the outcome of court proceedings. It allows the holder of the nullity claim to trigger that nullity by giving notice to the other contracting party. This notice must be given in writing.
Such a out-of-court annulment by notice is done at the risks of the party issuing it. The nullity can always be challenged in court. If the court finds that the contract has been declared void on unfounded grounds, it means that the contract could not be annulled. If, in the meantime, the person who served the notice has ceased to perform the contract, this may give rise to termination of the contract at his expense.
An out-of-court annulment by notice is not possible if the contract is established by an authentic act.
The annulment has a retrospective effect: the contract is null as from its conclusion. In real estate context, it should be stressed that the annulment eliminates the effects of the transfer, establishment, modification, or extinction of the rights in rem that were the subject of the contract. This means, for example, that if a sale is void, and the buyer has meanwhile sold the property to a third person, the latter also has no longer a right to that property. Third-party protection mechanisms can mitigate the consequences of annulment for the last buyer or for a bona fide third party disposing of a competing right (e.g., a mortgagee). Here we can refer to a recent ruling of the Supreme Court and to article 3.17, §1 of the new Civil Code: some termination grounds of rights in rem only have “relative” effect and cannot affect the rights of third parties acting in good faith with a competing right on the immoveable property concerned. Annulment, however, is not explicitly listed as a termination ground with relative effect.
Extrajudicial replacement of a defaulting counterparty
In the construction sector, planning and budget are of utmost importance. The default of a (sub-) contractor can have huge negative consequences. Is the principal or (general) contractor allowed to replace defaulting (sub-)contractor?”.
The mechanism of judicial replacement already existed under the old Civil Code. It allows the creditor – in case of failure by his counterparty in the performance of an obligation – to request the judge to have the obligation performed by a third party, at the costs of the defaulting counterparty.
When the old Civil Code was adopted, only judicial replacement was codified but in recent years, it became established case law that, in case of urgency or exceptional circumstances, a principal is entitled to unilaterally replace the defaulting contractor by a third party and to recover the costs from the defaulting contractor, without the prior intervention of a judge. A posteriori judicial review remains possible if the defaulting party does not agree with the (payment of the) replacement costs.
Book 5 codifies this mechanism: extrajudicial (unilateral) replacement in case of breach of a contractual obligation by the counterparty is possible, provided that certain conditions are met.
Mitigation of the formal and substantive conditions
Book 5 provides that extrajudicial replacement can only be applied in case the following cumulative conditions are met:
- “in case of urgency or other exceptional circumstances”
- “after taking the necessary steps to establish the debtor's default”
- “by a written notification, which sets out the breaches by the debtor and the circumstances which justify the replacement”.
These conditions are important, because they allow a judge to verify - a posteriori – whether the extrajudicial replacement of the debtor was justified.
Sanctions in case of (mis)use of the extrajudicial replacement mechanism
The unilateral replacement in case of breach by a (sub-)contractor always takes place at the principal’s or general contractor’s own risk.
The replacement of the defaulting (sub-)contractor during the construction phase is often more expensive for the principal or general contractor than if the defaulting (sub-)contractor had performed his obligations. The additional cost is not only due to the context (the principal or general contractor must quickly find a replacement to step in), but also to the fact that a third party, who is not a party to the initial contract and does not know the construction site, must step-in and continue the works previously done by the defaulting (sub-)contractor.
In principle, the additional replacement costs must be borne by the defaulting (sub-)contractor. However, in most of the cases, the defaulting (sub-)contractor will, after being notified of the replacement, subsequently refuse to reimburse or dispute the ((additional) costs relating to the) extrajudicial replacement. In such case the principal will not be able to avoid judicial proceedings: the defaulting (sub-)contractor will go to court and ask the judge a posteriori to consider whether the extrajudicial replacement and the costs claimed from him are justified. But at least the principal or general contractor can unblock the situation without waiting for a court decision.
Of course, the principal or general contractor can only invoke extrajudicial replacement to the extent that this is justified and thus to the extent that the above conditions are met. If this is not the case, the court may decide that the "defaulting" (sub-)contractor does not have to pay the claimed costs (in full) and may order the principal or general contractor to pay damages to the latter.
If the balance of performances agreed upon is distorted, the creditor could argue for a price reduction, even unilaterally.
Price reduction as an autonomous sanction
Book 5 provides for a new sanction mechanism consisting of the right to claim a price reduction. This sanction, which aims to restore the balance of performance, cannot be qualified as a rescission of the contract (which presupposes a sufficiently serious non-performance) nor as compensation (which compensates the damage suffered by the creditor) or as a plea of non-performance (which is a temporary defense): it has different implications and specific application conditions.
The creditor invoking the price reduction as a sanction for a contractual default by the other party (i.e. the debtor) may claim it in court or may even apply the price reduction unilaterally through a written and reasoned notice stating the reason for the price reduction to the debtor. The contractual default may be either quantitative (e.g. a supplier that under-delivers) or qualitative (e.g. a contractor that delivers a building that is of poor quality).
The price reduction that can be claimed is equal to the difference, at the time of conclusion of the contract, between the value of the performance received and the value of the performance agreed upon. The purpose of the sanction is to rebalance the mutual commitments of the parties. Additional damage recovery is only possible for items other than those compensated by the price reduction.
If the price reduction is applied before the supplier has issued his invoice, this price reduction will not be part of the taxable amount for VAT purposes. If an invoice was already issued, the supplier must issue a credit note and reclaim the VAT on the disputed part of the price from the VAT authorities.
The claim for a VAT refund is time-barred after the expiry of the third calendar year following that in which the cause for refund (the price reduction) occurred. Consequently, the claimant can exercise his right to a VAT refund in one of the declarations filed before the expiry of the third calendar year following that in which the price reduction occurred.
The price reduction must be distinguished from the sanction that consists in compensating damages that have been suffered. A compensation for damages falls outside the scope of VAT.
A penalty clause allows the parties to fix, on a flat-rate basis, a compensation in case of an attributable non-performance of an obligation. The non-performance may consist of failure to perform or delay in performance and the clause may aim to compensate all types of damage.
It follows that e.g. penalties for delay, which fulfil both a deterrent and a remedial function, are not to be regarded as price reductions so that these amounts do not affect the taxable amount for VAT.