Unfair contract terms subject to penalties: is your organisation ready?

By Carolyn Oddie, Felicity McMahon, Kerensa Sneyd, Llon Riley, John Yiannakou
Competition, Consumer & Regulatory Financial Services

9 November looms large 7 min read

Time is of the essence for companies to prepare for changes to unfair contract terms (UCT) laws. The new regime will apply to standard form contracts entered into or renewed following 9 November 2023, and to terms of standard contract terms varied after this date.

In this Insight, we explore the regime changes and how your organisation can prepare for the new reforms.

Key takeaways

  • From 9 November 2023, UCTs will be illegal and can attract significant penalties under the Competition and Consumer Act 2010 (Cth) (the CCA) or the Australian Securities and Investments Commission Act 2001 (Cth) (the ASIC Act).
  • The reforms also apply the UCT regime to a significantly expanded class of 'small businesses', and provide further detail regarding what is a 'standard form' contract.
  • There is no defence for companies that mistakenly characterise a counterparty as being outside the UCT regime. Companies will need to ensure compliance processes properly capture small business counterparties, which will depend on those counterparties' employee count or revenue.
  • The ACCC and ASIC are prioritising enforcement of UCTs and are expected to seek penalties for their use after the reforms commence.
  • Companies that are Australian financial services or Australian credit licensees should also be aware that contraventions of the UCT regime may be a reportable situation under the breach reporting regimes in the Corporations Act 2001 (Cth) and the National Consumer Credit Protection Act 2009 (Cth). 

Who does the regime apply to?

The UCT regime applies to standard form contracts with consumers or small businesses. The reforms significantly expand the definition of 'small business', however, to include someone who employs 100 people or less (increased from 20) or any business with an annual turnover of less than $10 million.

As a counterparty's business changes over time, it may fall above or below these thresholds and it is possible that a counterparty is a 'small business' even though it is part of a larger corporate group with significantly more turnover and staff. It can be difficult to continuously verify whether a counterparty exceeds these thresholds so as to determine if relevant contracts are caught by the regime. This has led many organisations to take a more conservative approach to classifying counterparties as 'small businesses', even when they may not be.

Financial thresholds are abandoned for ACL and provide little certainty for the ASIC Act

Under the incoming changes, there will no longer be any 'contract value' thresholds applied to small business contracts to which the Australian Consumer Law (ACL) applies.

Under the ASIC Act, the UCT regime only applies to a small business contract if the upfront price payable (excluding interest) for the contract is $5 million or less. However, it can be difficult to determine what falls within the 'upfront price' for some products and services, particularly for certain financial products.

What is 'standard form' and how much negotiation is required?

Given the questions raised about the application of the small business and upfront price rules, an organisation's focus may naturally shift to whether a contract is negotiated and is, therefore, not standard form. However, this can sometimes be complicated in itself.

The incoming changes to the UCT regime clarify that, when considering whether a contract is standard form, the following should be taken into account:

  • 'repeated usage of a contract' is relevant, as contracts with the same or similar terms that are repeated across different customers are more likely to be standardised;
  • in considering whether a party had a genuine opportunity to negotiate a contract, a court may disregard instances where:
    • minor changes to an agreement were negotiated, or where a customer has been permitted to select from pre-determined terms within a contract; and/or
    • a party to another contract has been able to negotiate their contract (ie if a subset of customers have negotiated terms, this is not necessarily indicative of all customers).

In light of this, it is worth asking whether your organisation's contracts could be characterised as standard form and, therefore, warrant review from a UCT regime perspective, particularly if:

  • contracts are partly negotiated and/or partly rely on standard form components, such as a loan agreement, or standard form components such as a privacy policy;
  • some customers are on negotiated terms that differ from the main standard form contract in use;
  • contracts adopt standard industry terms, or incorporate these by reference, then modify or add to them (eg by annexing standard terms to a negotiated contract); or
  • counterparties are given an opportunity to negotiate but often opt to proceed with a contract without doing so, resulting in the same terms being adopted across different parties over time.

UCT an enforcement priority

ASIC and the ACCC have made UCT enforcement a priority. The ACCC has taken action in a number of UCT proceedings in the past but noted the difficulty it faced when unfair terms were not illegal (see former ACCC Chair Rod Sims' speech in August 2018 here), leading it to advocate for stronger sanctions (see Rod Sims' speech in March 2021 here). We expect the ACCC and ASIC will now ramp up enforcement given the changes and the potential for penalties to be imposed.

It is important to note that the new UCT provisions can apply to terms that have long been in use. Some of the enforcement proceedings may come as a surprise to industry, particularly if they involve questioning provisions seen as longstanding 'industry standards'.

An example is ASIC's first proceedings in an insurance context, commenced on 4 April 2023, alleging UCTs in insurance contracts used by Auto & General Insurance Company (Auto & General). The proceedings focus on a term in Auto & General product disclosure statements that requires customers to notify Auto & General 'if anything changes about your home and contents'.

ASIC alleges that the term is unfair within the meaning of section 12BG of the ASIC Act, as it:

  • imposes an obligation that cannot be practically met by consumers given its undefined scope—namely, to notify Auto & General if 'anything' changes about their homes or contents;
  • is vague and unclear, making it difficult for a customer to understand when they need to notify Auto & General of an issue that could impact their insurance coverage; and
  • could mislead a customer as to their obligations and rights under the contract and as to Auto & General's rights to refuse claims or reduce amounts payable under the Insurance Contracts Act 1984 (Cth).

ASIC is seeking declarations that the term is unfair (and therefore void), injunctions preventing its use and corrective orders (ie notices published by Auto & General).

What is 'unfair'?

A term is 'unfair' if it would cause a significant imbalance in the parties' rights and obligations under the contract, is not reasonably necessary to protect legitimate business interests, and would cause detriment (financial or otherwise) if it were to be applied or relied upon.

The following kinds of terms have frequently been in the crosshairs of regulatory action:

  • broad discretions for one party to determine matters or unilaterally vary terms, including prices or charges;
  • termination or default rights that allow one party to suspend, terminate or take enforcement action against the counterparty for minor breaches or without reasonable time to fix;
  • limitations of liability that purport to limit a party's liability even where that party is, or ought to be, responsible (eg for its own negligence), or terms that purport to exclude statutory consumer rights;
  • broad indemnities that indemnify a party for costs and losses that are outside the reasonable control of the counterparty;
  • automatic renewal terms that automatically renew a contract with little or no notice of such renewal, thereby locking the customer into an extended contract; and
  • early termination charges that impose break fees that do not reflect an organisation's actual losses or a genuine estimate of such losses in an early termination.

Transparency is key

A court must take into account the transparency of a term and the contract as a whole when determining if a term is unfair. As ASIC Deputy Chair, Sarah Court emphasised in relation to the Auto & General proceedings, the regulator is concerned that contract terms are 'proportionate, transparent and clear, so any obligations are easily understood and able to be realistically adhered to by customers'.  

The range of terms potentially caught therefore goes beyond the perennial issues outlined above. Organisations need to carefully consider how vague or broadly drafted terms may be onerous and unreasonable to comply with—a look at overseas examples in insurance contexts provides an indication (which could be relevant in ASIC and ACCC enforcement in the future):

  • contradictory terms: in 2019, the UK Financial Conduct Authority considered that a term contained in the Cycle Insurance Policy of ETA Services Ltd, which required that a policyholder use an approved lock to be covered by the policy, was unfair. It was unfair because the term contradicted another term, which stated that cover would not be provided unless a bicycle was secured to an immovable object, without specifying that an approved lock was needed (see the FCA's summary here).
  • broad or vague language: the 2015 ruling of the European Court of Justice in Jean-Claude Van Hove v CNP Assurances SA considered whether a term in an insurance contract regarding 'a state of total incapacity for work' lacked transparency due to the requirement that 'after 90 consecutive days…[the insured] finds himself [or herself] unable to take up any activity, paid or otherwise'. The court considered there was a lack of transparency and, therefore, fairness as the words 'any activity, paid or otherwise' were 'extremely broad and vague' (see the ruling here).

Careful consideration needs to be given to balancing the requirements for transparency with regulatory and industry expectations to have simple, easy to understand, plain English documents.

So, are you ready for November 2023?

For many organisations, the compliance process may be relatively straightforward if all contracts fall within the UCT regime. But for organisations with a mix of contracts with consumers and smaller and larger businesses, there is much work to be done, including whether to run parallel sets of contracts for different counterparties depending on whether they fall within or outside the UCT regime and how to ensure appropriate, ongoing compliance.

Smaller organisations with fewer compliance resources might find it easier from a regulatory risk perspective to 'over-capture' contracts, by treating them all as falling within the UCT regime, even if they may not. In particular, given the penalty consequences for (inadvertently) falling within the UCT regime.

Next steps

If your organisation hasn't yet done the work, now is the time to consider:

  1. Are your contracts with businesses/small businesses caught by the regime?
  2. Are your standard form contracts 'fair'?

Our 'ready reckoner' provides a checklist that can be used to help in deciding if the UCT regime applies to your company.