“The manner of the transaction was to gild over and conceal the truth; and whenever Courts of Law see such attempts made to conceal such wicked deeds, they will brush away the cobweb varnish, and shew the transactions in their true light”^[1]

A contract meeting all necessary requirements for being valid and binding upon the parties, may nevertheless be void and unenforceable where it is prohibited, or, as it is commonly known, “illegal”. Illegality may stem from either statutory provisions or from common law. These different sources of illegality are dealt with separately below. The Chapter ends with an examination of the consequences of a contract being held to be prohibited or “illegal”.

7.1 Some initial observations

The area of law discussed in this Chapter is commonly referred to as “illegality” or “legality of object”. As noted in Electric Acceptance Pty Ltd v Doug Thorley Caravans (Aust.) Pty Ltd:^[2]

contracts that are broadly termed “illegal” fall into two groups: those which are so mischievous as to be viewed as illegal in the narrow sense, like contracts to commit a crime, and those which are less reprehensible and are in consequence nugatory rather than illegal in the narrow sense [such as contracts in restraint of trade].^[3]

The use of the term “illegal” in the reports and in textbooks is problematic as it is often used indiscriminately to refer to either illegality in the strictly “illegal” sense (e.g., a contract to commit a crime) or the broader “nugatory” sense (e.g., a contract in restraint of trade). To avoid confusion in this book, the term “prohibited” is used when referring to the broader sense of the term. Thus, when a contract is talked of as being illegal, reference is made to illegality in the narrow sense (e.g., a contract to commit a crime) outlined above.

Furthermore, many textbooks make a double use of the term “void”, in that the term is used both to describe the category of contracts referred to as “nugatory” in the quote above, and also when referring to the consequences of illegality. Here, however, the term nugatory is preferred when reference is made to the class of contracts that are prohibited, but not illegal in the narrow sense. Thus, the term “void” is reserved for the discussion of the consequences of a contract being prohibited, due to it being either illegal or nugatory.

Perhaps the conflicting use of terminology could be said to be illustrative of the general complexity of the law regulating prohibited contracts. Indeed, looking at textbooks dealing with this area of law, one finds that there is a great variation in how different commentators approach it. This may be seen to signal that the law is unsettled. It has even been suggested that approaching prohibited contracts from the perspective of distinguishing between “illegal” contracts on the one hand, and “void”/“nugatory” contracts on the other hand, is misguided:

The words used do not matter if the actual legal result they are used to express be not in doubt or debate. But it has always seemed to me likely to lead to error, in matters such as this, to adopt first one of the familiar legal adjectives – “illegal”, “void”, “unenforceable”, “ineffectual”, “nugatory” – and then having given an act a label, to deduce from that its results in law. That is to invert the order of inquiry, and by so doing to beg the question, and allow linguistics to determine legal rights.^[4]

To summarise the above, a contract may be prohibited under statute and/or common law, and all prohibited contracts are either illegal or nugatory:

However, as is made clear below, this neat distinction is rather artificial and there are several instances of overlap.

Another initial observation that needs to be made is that, while a contract being prohibited is ordinarily a matter pleaded as a defence, this is not always the case. In Knowles v Fuller,^[5] Fuller was a builder, building a hotel for Knowles. Fuller sued Knowles to recover the balance of the contract. Knowles pleaded payment. The jury found for Fuller and awarded him payment for the balance of the contract. Jordan CJ outlined when a contract being prohibited can be relied upon, where the defendant has not actually pleaded it:

A court will not entertain a defence of illegality [in its broad sense, referred to as prohibited contracts in this book] which has not been pleaded, unless (1) the transaction sued upon is ex facie illegal, or (2) the plaintiff cannot prove his case without proving also that he is pleading under an illegal transaction, or (3) exceptionally, where a fact comes to light in the course of the trial which of itself shows that the transaction sued on is illegal on grounds which nothing could cure.^[6]

Consequently, while the issue of a contract being prohibited typically arises due to it being pleaded as a defence by one of the parties to a contractual dispute, a court may, on its own initiative, find a disputed contract to be prohibited in certain limited circumstances.

7.2 Contracts prohibited by statute

In examining whether a contract is prohibited by statute, the courts often find themselves having to strike a balance between two fundamental legal principles. On the one hand is the desire to hold the parties to their bargaining, and on the other hand is the principle that the court must not condone or assist a breach of statute. As always when two fundamental legal principles are in conflict, the law is less than straightforward.

7.2.1 Contracts illegal by statute law

In Yango Pastoral Co Pty Ltd v First Chicago Australia Ltd^[7] (discussed in detail below), Gibbs ACJ noted that there are four ways in which the enforceability of a contract may be affected by a statutory provision which renders a particular contract unlawful:

(1) The contract may be to do something which the statute forbids;

(2) The contract may be [of a kind] which the statute expressly or impliedly prohibits;

(3) The contract, although lawful on its face, may be made in order to effect a purpose which the statute renders unlawful; or

(4) The contract, although lawful according to its own terms, may be performed in a manner which the statute prohibits.^[8]

In this context, we may usefully recall the observation in Australian Competition and Consumer Commission v Baxter Healthcare Pty Ltd – a matter relating to the proper understanding of certain sections of the TPA – that:

[W]hen a statute contains a unilateral prohibition on entry into a contract, it does not follow that the contract is void. Whether or not the statute has this effect depends upon the mischief which the statute is designed to prevent, its language, scope and purpose, the consequences for the innocent party, and any other relevant considerations. Ultimately, the question is one of statutory construction.^[9]

Nelson v Nelson^[10] involved a dispute over a trust fund. The trust was set up for the benefit of the mother from the sale of property for which she had provided funds. The adult children held ownership of the property as joint tenants. This was done so that the mother could obtain a benefit from the purchase of another house, which required her to not be the owner of any other property. Her daughter contested that she had a beneficial interest in the property and was owed funds from the trust as a result.

The Court held that while the transaction was not illegal per se, it was entered into for an illegal purpose. It was also held that the Act in question, the Defence Services Home Act 1908 (Cth), which made the actions of the mother illegal, was not relevant to the claim by the parties. The illegality of the mother’s actions played no role in her right to the trust fund. It was ordered that she obtain the trust fund monies as she was duly entitled. As is made clear by McHugh J in that case, the respective consequences of illegality based on the four grounds outlined in Yango must not all be the same: “It would be surprising if sound legal policy required each of these forms of illegality to be treated in the same way”.^[11]

The first two of these four situations are examined directly below. However, the consequences of the third and fourth situations are determined by reference to “public policy”, and are, thus, more appropriately dealt with in the context of contracts rendered illegal under common law (see 7.3 below).

7.2.1.1 Contracts to do something which the statute forbids

Illegality based on a contract to do something forbidden by statute is ordinarily not difficult to identify. A contract under which a person undertakes to commit an act prescribed as a crime would be an example of a contract to do something forbidden by the relevant statute. For example, the object of a contract to carry out a “hit” against a person’s life would clearly be forbidden by Chapter 28 of the Queensland Criminal Code 1899 and its equivalent provisions elsewhere. A less extreme example of conduct prohibited by statute is found in Re Mahmoud & Ispahani,^[12] discussed below, although in that case the contract was also specifically prohibited. Thus, that case is also illustrative of the fact that there often is an overlap between contracts to do something which the statute forbids and contracts of a kind which the statute expressly prohibits.

7.2.1.2 Contracts of a kind which the statute expressly or impliedly prohibits

A statute may either expressly or impliedly hold a particular type, or kind, of contract illegal, either as formed or as performed. This is different to illegality based on a contract to do something forbidden by statute in that, in the case of illegality based on a contract to do something forbidden by statute, focus is placed on the action to be carried out under the contract, rather than on the type, or kind, of contract. However, as already signalled, there is clearly an overlap.

In St John Shipping Corp v Joseph Rank Ltd^[13] due to overloading of a ship, the plaintiff was entitled to an extra £2,295 in freight. The plaintiff sued to recover the withheld freight and the defendant argued that because the contract was performed in an illegal manner, the plaintiff was not entitled to recover any part of the freight. It was held that the plaintiff was entitled to recover the extra freight from the defendants. Devlin J stated that: “the court will not enforce a contract which is expressly or impliedly prohibited by statute”.^[14] However, Devlin J also raised a warning in relation to inferring a prohibition:

If a contract has as its whole object the doing of the very act which the statute prohibits, it can be argued that you can hardly make sense of a statute which forbids an act and yet permits to be made a contract to do it; that is a clear implication. But unless you get a clear implication of that sort, I think that a court ought to be very slow to hold that a statute intends to interfere with the rights and remedies given by the ordinary law of contract. Caution in this respect is, I think, especially necessary in these times when so much of commercial life is governed by regulations of one sort or another, which may easily be broken without wicked intent. Persons who deliberately set out to break the law cannot expect to be aided in a court of justice, but it is a different matter when the law is unwittingly broken. To nullify a bargain in such circumstances frequently means that in a case – perhaps of such triviality that no authority would have felt it worthwhile to prosecute – a seller, because he cannot enforce his civil rights, may forfeit a sum vastly in excess of any penalty that a criminal court would impose; and the sum forfeited will not go into the public purse but into the pockets of someone who is lucky enough to pick up the windfall or astute enough to have contrived to get it.^[15]

The first thing to note when examining whether a contract falls within the scope of the second category, as defined in Yango, is that focus is placed on the kind of contract in question rather than the particular contract at hand. The difference is illustrated in Colin John Fitzgerald v F J Leonhardt Pty Ltd^[16] (see 7.3.1.2 below for the background facts), where the Court noted that: “the drilling contract was not one which the statute expressly or impliedly prohibited. A permit [which was lacking in the case] was required if the drilling was not to constitute an offence on the part of the owner, but a contract for the drilling of bores was plainly envisaged by the Act”.^[17]

While it is usually necessary to carefully examine the relevant statute to determine whether a prohibition is implied, it is sometimes the case that a particular type of contract is expressly prohibited. For example, when combined, s. 5 of  the Surrogacy Act 2010 (Qld) make clear, amongst other things, that a person shall not enter into, or offer to enter into, a contract, whether formally or informally, and whether or not for payment or reward, under which it is agreed that a person shall become, or shall seek or attempt to become, the bearer of a child, and that a child delivered as the result thereof shall become and be treated, whether by adoption, agreement, or otherwise, as the child of any person or persons other than the person first mentioned. However, s. 5(b) makes provision for a surrogacy arrangement as a result of court-sanctioned transfer of parentage permissible provided the following principles are adhered by according to s. 6:

The manner in which the courts deal with contracts expressly prohibited by statute is demonstrated, for example, in Re Mahmoud & Ispahani.^[18] The matter before the Court involved a statute which proscribed the buying or selling of a variety of seeds, oils and fats in the period immediately after World War I, unless the buyer and seller were both licensed. The plaintiff seller’s licence only allowed him to sell oil for delivery in the United Kingdom to a licensed buyer. The plaintiff was induced to sell linseed oil to the defendant buyer, who was not licensed, as the buyer deliberately deceived the seller by saying that he had a buyer’s license, when he did not. The buyer subsequently refused to take delivery of the oil, claiming the contract was void for illegality. Lord Justice Scrutton noted that: “The contract [in question] was absolutely prohibited; and in my view, if an act is prohibited by statute for the public benefit, the Court must enforce the prohibition, even though the person breaking the law relies upon his own illegality”.^[19]

In contrast to the Surrogate Parenthood Act 1988 (Qld), most statutes do not make clear whether a contract entered into in contravention of the statute is to be viewed as illegal. For example, the relevant Act in Yango Pastoral Co Pty Ltd v First Chicago Australia Ltd^[20] – the Banking Act 1959 (Cth) – stated at the time of the dispute that: “Subject to this Act, a body corporate shall not carry on any banking business in Australia unless the body corporate is in possession of an authority under the next succeeding section to carry on banking business” (s. 8). Furthermore, the same section prescribed a penalty of $10,000 for each day during which a contravention of s. 8 continued. While the Act made it blatantly clear that a corporation engaging in banking business without the appropriate authority would be acting in contravention of the Act, it did not make it clear whether or not a contract entered into by such a corporation was illegal.

Having noted that the section makes no reference to contracts or transactions, Mason J had no difficulty in finding that the section did not contain any express prohibition against the type of contract in dispute. Thus, the question with which the High Court in Yango was faced was whether it was implied in the Act that such a contract was illegal. In other words, the Court needed to examine whether the Act merely prohibited the conduct in question, or whether it went further to also prohibit, by inference, any contract involving that conduct.

The answer to such a question has huge policy implications. If the contract is held to be enforceable, corporations may find it profitable to act in breach of the statute, thus undermining it. On the other hand, if all contracts entered into in a situation such as in Yango are held as unenforceable, the results may be highly unfair as a party may rely upon the illegality of its own acts to put itself in a better position. In Yango, however, the party seeking to rely on the illegality was not the same as the party having breached the statute. Had that been the case, the Court’s decision might have been different:

[I]n the present case Parliament has provided a penalty which is a measure of the deterrent which it intends to operate in respect of non-compliance with s. 8. In this case it is not for the court to hold that further consequences should flow, consequences which in financial terms could well far exceed the prescribed penalty and could even conceivably lead the plaintiff to insolvency with resultant loss to innocent lenders or investors. In saying this I am mindful that there could be a case where the facts disclose that the plaintiff stands to gain by enforcement of rights gained through an illegal activity far more than the prescribed penalty. This circumstance might provide a sufficient foundation for attributing a different intention to the legislature. It may be that the true basis of the principle is that the court will refuse to enforce a transaction with a fraudulent or immoral purpose: Beresford v Royal Insurance Co Ltd.^[21] On this basis the common law principle of ex turpi causa can be given an operation consistent with, though subordinate to, the statutory intention, denying relief in those cases where a plaintiff may otherwise evade the real consequences of a breach of a statutory prohibition.^[22]

Having taken into account: “the scope and purpose of the statute from which inferences may be drawn as to the legislative intention regarding the extent and the effect of the prohibition which the statute contains”;^[23] and the fact that the statute in question already provided for a penalty; and having examined the respective consequences of holding the contract enforceable or unenforceable, the Court found the contract enforceable.

7.2.2 Contracts nugatory by statute law

Certain types of contracts are nugatory under statutes, without being regarded as “illegal” in the strict sense. For example, s. 56(1) of the Unlawful Gambling Act 1998 (NSW) states that:

Here, the legislators clearly intend for the type of contracts discussed to be nugatory, but it is equally clear that there is no intention to make such contracts illegal. In other words, neither party to a prohibited gambling agreement can legally enforce that agreement against the other party. However, entering into such an agreement is not illegal, and performing such a contract is not illegal.

7.3 Contracts prohibited under common law

There are rather well-defined categories of contracts that are prohibited by reason of the public interest. Whether they are actually “illegal”, or merely nugatory, contracts prohibited under common law are prohibited with reference to the elusive concept of “public policy”. In determining what the relevant public policy considerations are, it is interesting to note that in A v Hayden (No. 2),^[24] the High Court approved the following passage from Wilkinson v Osborne:^[25]

In my opinion the “public policy” which a Court is entitled to apply as a test of validity to a contract is in relation to some definite and governing principle which the community as a whole has already adopted either formally by law or tacitly by its general course of corporate life, and which the Courts of the country can therefore recognise and enforce. The Court is not a legislator:  it cannot initiate the principle; it can only state or formulate it if it already exists … The Courts refuse to give effect to such a bargain, not for the sake of the defendant, not to protect any interest of his – indeed, they do not fail to notice that his failure to abide by his agreement sometimes adds dishonesty to illegality – but they refuse to enforce the bargain for the sake of the community, who would be prejudiced if such a bargain were countenanced.^[26]

7.3.1 Contracts illegal under common law

There are several types of contracts that are recognised as illegal under Australian common law. These are outlined in Rule 26 and are discussed below.

7.3.1.1 Contracts entered into with the intent to commit a crime, tort or fraud

Where a contract is not expressly or impliedly prohibited by statute, it may nevertheless be held illegal if it is contrary to public policy. The rationale for holding contracts that are entered into with the intent to commit crime, tort or fraud against a third party, or with the intent of breaching a statute, unenforceable, is found in the maxim ex turpi causa non oritur actio (i.e., no action arises out of dishonourable cause).

It is not difficult to imagine situations where a contract would be held to be illegal under Article 1(a), 1(b) or 1(c) of Rule 26. For example, a person may enter into a contract to kill, defame or defraud a third party. However, actual cases where the principles expressed in these rules have been applied are relatively rare.

One such case is Allen v Rescous;^[27] the plaintiff agreed to pay the respondent to beat up a third party. The plaintiff sued the respondent for failing to beat up the third party after payment was provided. The Court held that the whole contract was void as the purpose was illegal.

7.3.1.2 Contracts breaching a statute

The principle expressed in Rule 26, Article 1(d) is, in a sense, connected to what was discussed in relation to contracts rendered illegal by legislation, and has been the object of much litigation.

While it would appear that any contract falling within the two first categories stated in Yango (see 7.2.1 above) would not only be illegal under statute but also under common law, this section will focus on contracts falling within the third and fourth category of Yango; that is: contracts that, although lawful on their face, are made in order to effect a purpose which the statute renders unlawful; and contracts, although lawful according to their own terms, that are performed in a manner which the statute prohibits. In Colin John Fitzgerald v F J Leonhardt Pty Ltd,^[28] Kirby J made an attempt to clarify the approach to be taken when examining a contract alleged to be illegal by statute:

The questions therefore to be asked are whether the Act invoked to taint the contract with illegality expressly prohibits the contract as formed or because of the way it was performed? If not, the subordinate question is whether the Act, by necessary inference, prohibits the contract as formed or because of the way it was performed? These are the construction questions. Only if the answers to those questions are in the negative does the further question arise whether, as a matter of public policy, the Court will allow the plaintiff to invoke its process to enforce the contract. Even if, as here, it is accepted that there was nothing illegal in the contract as formed, it remains for a court to consider whether, as performed, the contract is so in breach of a legislative provision as, by implication, to attract the operation of the Act, rendering the contract as performed to that extent unlawful and therefore void. Obviously, the issues posed by this question overlap with those relevant to the resolution of the question whether the contract is unenforceable on public policy grounds. But the two questions are not the same. Part of the confusion which has attended many of the authorities in these cases derives from a failure to make clear the distinction between the two issues.^[29]

With regard to contracts that, although lawful on their face, are made in order to effect a purpose which the statute renders unlawful, it is to be noted that the unlawful intention must go to the substance of the contract. Thus, in Neal v Ayers,^[30] a contract under which property in a hotel was transferred with the understanding that the buyer would engage in illegal after-hours trade, was nevertheless held to be enforceable:

The substantial purpose of the contract was to transfer the property on which a business was carried on. That the purchaser intended for a time to [un]lawfully trade could not invalidate the whole transaction, notwithstanding the vendor’s knowledge. [The buyer’s] intention does not go to the substance of the transaction.^[31]

In relation to contracts that, although lawful according to their own terms, are performed in a manner which the statute prohibits, it is interesting to note the statements by Devlin LJ in Archbolds (Freightage) Ltd v S Spanglett Ltd:^[32]

It is a familiar principle of law that if a contract can be performed in one of two ways, that is, legally or illegally, it is not an illegal contract, though it may be unenforceable at the suit of a party who chooses to perform it illegally. That statement of the law is meaningful if the contract is one which is by its terms open to two modes of performance; otherwise it is meaningless.^[33]

In that case, Archbolds employed Spanglett Ltd, to carry a shipment of whisky. Spanglett used a van with improper licensing. This fact was unknown to Archbolds. The whisky was stolen because of negligent driving and Archbold claimed damages.  Spanglett counterclaimed that the contract was illegal due to the fact that the van had improper licensing. Lord Justice Devlin held that if there was an intent to perform the contract in an unlawful manner, it will be unenforceable by the party having the intent to perform it in an illegal manner. Since Archbolds had no knowledge of the intention to perform the contract in an illegal way, they were entitled to enforce it, but Spanglett Ltd was not entitled to do so.

In Colin John Fitzgerald v F J Leonhardt Pty Ltd,^[34] the plaintiff, a driller, had performed work for the defendant, but was not paid for the work. The performed work required both parties to hold particular licenses. The defendant sought to rely upon its own illegal conduct to avoid paying for the service, as it did not hold the appropriate licence. The High Court held in the plaintiff’s favour, noting that:

The action by the driller to recover moneys owing to it by the owner was not an action by a party to a contract who had chosen to perform it illegally. The penalty imposed by [the statute] was directed at a party in the position of the owner rather than the driller. Further, it has not been suggested that the driller acted otherwise than in good faith or that the driller had aided and abetted the owner in any offence committed by him … The question then becomes whether, as a matter of public policy, the court should decline to enforce the contract because of its association with the illegal activity of the owner … The refusal of the courts in such a case to regard the contract as enforceable stems not from express or implied legislative prohibition but from the policy of the law, commonly called public policy. Regard is to be had primarily to the scope and purpose of the statute to consider whether the legislative purpose will be fulfilled without regarding the contract as void and unenforceable.^[35]

It is to be noted that, just as in determining whether or not a contract is impliedly prohibited by a statute, the existence of a penalty is of relevance in determining the consequences of a contract breaching a statute under common law:

[The statute] prescribes a penalty. In such a case, the role of the common law in determining the legal consequences of commission of the offence may thereby be diminished because the purpose of the statute is sufficiently served by the penalty. Here, the imposition of an additional sanction, namely inability of the driller to recover moneys otherwise owing by the owner, would be an inappropriate adjunct to the scheme for which the Act provides. The contrary decision would cause prejudice to an innocent party without furthering the objects of the legislation.^[36]

7.3.1.3 Contracts promoting sexual immorality

As far as contracts promoting sexual immorality (Rule 26, Article 1(e)) are concerned, the law recognises that community standards of immorality are ever-changing. Early cases, such as Pearce v Brooks,^[37] where the court held that a coach builder could not recover the price for a brougham (a small carriage) built for a prostitute in order for her to “make a display favourable to her immoral purposes”,^[38] arguably no longer represent the community standards of immorality. Thus, great care must be taken in drawing upon older cases. For example, in Barac (t/s Exotic Studios) v Farnell,^[39] a receptionist employed by a brothel was held to be entitled to workers’ compensation, and it is submitted that had this case been decided 100 years earlier, the Court may well have reached a different conclusion.

More recently, in the case of Ashton v Pratt (No 2),^[40] the Court held that contracts promoting sexual immorality will still be considered illegal and therefore void if the contractual agreement does not go beyond the provision of ‘meretricious sexual services’. While changes in social norms have resulted in more liberal attitudes by the courts in cases such as these, Brereton J stated at [50], ‘[s]o far as I can tell, no case stands contrary to the proposition that it is still the law that a contract to provide meretricious sexual services is contrary to public policy and illegal’.^[41] However, the Court does note that in recent cases there have been two features which have saved contracts promoting sexual immorality from being deemed illegal: (1) the contract did not bring about a state of extramarital cohabitation, it merely made provision in respect of one that already existed; and (2) the contract did not involve meretricious sexual services, but a sexual relationship as part of a wider relationship which included cohabitation and aspects of mutual support.^[42]

7.3.1.4 Contracts prejudicial to the administration of justice

An example of a contract prejudicial to the administration of justice (Rule 26, Article 1(f)) is A. v Hayden (No. 2).^[43]  In that case, members of the Australian Secret Intelligence Service (ASIS) performed a training exercise at a hotel without the knowledge of the hotel operators. In the course of the training, they committed a crime. The matter related to whether the Commonwealth Government could reveal the identity of the ASIS members involved in the incident despite the fact that the contract of employment contained a clause binding the Commonwealth to confidentiality. The Court noted that:

Whether enforcement or observance of a term of a particular promise of confidentiality would obstruct [the administration of the criminal law] is a question which must be determined in the context of the circumstances of the particular case. Plainly enough, the enforcement of such a promise by an order forbidding a threatened voluntary disclosure to the Commissioner of a State Police Force of the identity of the participants in joint activity which involved actual or reasonably apprehended offences against the criminal law of that State would involve obstruction of the due administration of that criminal law.^[44]

The most significant aspect of the statement is that it highlights the need for a context-specific assessment in any given case, at least where the matter in question is confidentiality as was the case here.

7.3.1.5 Contracts tending to promote corruption in public life

While somewhat dated, Parkinson v College of Ambulance Ltd^[45] is a rather amusing example of a contract tending to promote corruption in public life (Rule 26, Article 1(g)). In that case, the plaintiff – Colonel Parkinson – had been approached by Mr Harrison, the secretary for the College of Ambulance. Mr Harrison had fraudulently represented to Colonel Parkinson that if a large donation were made to the College, the Colonel would receive a knighthood. When he did not receive the knighthood, Colonel Parkinson brought action against the College to recover his money.

The Court held that, where a contract, regarded as illegal due to it being contrary to public policy, has any element of turpitude^[46] in it, the parties to the contract are in pari delicto (equally at fault). Thus, if one of the parties to the contract has been defrauded, no action for damages can be maintained by the defrauded party, even though the contract is not of a criminal nature.

7.3.1.6 Contracts prejudicial to the public safety

Contracts held to be prejudicial to the public safety are relatively rare. However, examples can be found; a contract entered into with a person residing in a country with which Australia is at war, particularly where such a contract has the effect of hindering the war efforts, is prima facie illegal unless made with governmental approval.  Donohoe v Schroeder^[47] is an example of such a case.

That case involved a contract for the sale of assets during World War I which was signed under power of attorney and approved by a de facto officer of the Crown. The contract was allegedly one constituting “trading with the enemy”. It was held that as the contract was approved by a de facto officer of the Crown, the contract was valid and not contrary to any laws regardless of whether the transaction constituted trading with the enemy.

7.3.1.7 Contracts infringing the laws of a friendly foreign country

A n example of a contract infringing the laws of a friendly foreign country can be found in Ragazzoni v K C Sethia (1944) Ltd.^[48] There he parties to the dispute had contracted for the sale of jute bags. Both parties were aware of the fact that Indian law prohibited the export of jute bags to South Africa, and both parties were aware of the fact that the buyer intended to export the jute bags to South Africa. The seller failed to deliver the jute bags. While no payment had been made, the appellant claimed damages for loss of profit on anticipated resale.

Viscount Simonds noted that: “Just as public policy avoids contracts which offend against our own law, so it will avoid at least some contracts which violate the laws of a foreign State and it will do so because public policy demands that deference to international comity”.^[49] Further, Viscount Simonds explained that, as public policy is relied upon in avoiding contracts that violate law, public policy must also be the focal point in determining when it is motivated not to do so.

7.3.1.8 Contracts imposing servitude

In these times, situations where the matter of contracts imposing servitude may be applicable are rare. However, the principle is nevertheless still in force.

In Horwood v Millar’s Timber and Trading Company Ltd,^[50] a person had entered into a money lending contract, and in doing so had undertaken never to change his residence or employment and never to incur any legal or moral obligations without the moneylender’s consent. The Court found the contract to be illegal as it went far beyond what was necessary to protect the moneylender’s interest, and practically had the effect of rendering the person in question a virtual slave.

7.3.1.9 Contracts to defraud the revenue

In Alexander v Rayson,^[51] the defendant had contracted with the plaintiff to rent a flat. In order to conceal the true rateable value of the flat, the plaintiff lessee had divided the contract in two where the contract for the rent was for £450 while a separate contract for services was for £750, making the total yearly cost £1200.

When the defendant lessor attempted to recover an instalment from the lessee, the Court held that the contract was illegal as it was an attempt to defraud the revenue. As such, the lessor was refused relief.

7.3.2 Contracts nugatory under common law

In relation to contracts to oust the jurisdiction of the courts, it is interesting to note the findings of the Court in Dobbs v National Bank of Australia Ltd:^[52]

A clear distinction has always been maintained between negative restrictions upon the right to invoke the jurisdiction of the Courts and positive provisions giving efficacy to the award of an arbitrator when made or to some analogous definition or ascertainment of private rights upon which otherwise the Courts might have been required to adjudicate. It has never been the policy of the law to discourage the latter. The former have always been invalid. No contractual provision which attempts to disable a party from resorting to the Courts of law was ever recognised as valid. It is not possible for a contract to create rights and at the same time to deny to the other party in whom they vest the right to invoke the jurisdiction of the Courts to enforce them.^[53]

In that case, the appellant contended that a clause of a certificate of indebtedness was void because it attempted to oust the jurisdiction of the courts. The clause purported to be conclusive evidence of the appellant’s indebtedness to the respondents. The appellant contended that the clause attempted to oust the jurisdiction of the court upon an issue essential to the guarantor’s liability and to substitute for the judgment of the court the determination or opinion of an officer of the bank.

These days, contracts prejudicial to the status of marriage would appear to be rare in Australia. Indeed, it could be questioned whether this head of public policy is indeed extinct. Nevertheless, older cases such as Hermann v Charlesworth^[54] may be used to illustrate the application of the relevant principle.

In that case, Mrs Hermann had entered into a contract under which she paid £52 (as a “special client’s fee”) in order to be “introduced to or put in correspondence with a gentleman” through the influence of the defendant and was to pay a further £250 in the event of the occurrence of a marriage. While Mrs Hermann was introduced to several gentlemen, no marriage (or, indeed, even engagement) took place. Mrs Hermann sought to recover the money she had paid.

The Court held the contract to be a marriage brokerage contract and as such it was nugatory. Mrs Hermann was allowed to recover her money despite the fact that the defendant had, indeed, taken some steps to help Mrs Hermann find a husband.

Contracts in restraint of trade are discussed separately below, as they are associated with particular considerations, as well as particular statutory regulation.

7.4 Contract in restraint of trade

A detailed examination of the law regulating restraint of trade goes beyond the scope of this book. However, a few observations need to be made in relation to this very particular form of nugatory contracts.

Contracts having the effect of restraining trade are regulated by both statute and common law. As far as statutes are concerned, the most relevant provisions are found in Part IV of the Competition and Consumer Act 2010 (Qld). However, as far as New South Wales is concerned, we must also examine the Restraints of Trade Act 1976 (NSW).

7.4.1 Part IV of the Competition and Consumer Act 2010 (Cth)

The provisions in Part IV regulating contracts in restraint of trade or commerce which restrict competition, as with the entirety of the Competition and Consumer Act 2010 (Cth), are limited by the Commonwealth Constitution. Thus, Part IV is ordinarily limited to corporations, but may be extended to individuals under certain circumstances. Importantly, s. 51(2) makes it clear that the relevant rules of the CCA do not affect the common law rules relating to sale of business contracts and employment contracts, discussed below.

Part IV of the CCA contains several specialised provisions, such as s. 45DB dealing with boycotts affecting trade or commerce. However, as the aim of this part of the book is to simply provide an introduction to what Part IV of the CCA covers, focus is placed on s. 45(1), which is the provision of most general importance:

It is noteworthy that this regulation focuses on whether individual “provisions” have the effect of substantially lessening competition. The term “provision” is given the following definition in s. 4(1) of the CCA: “‘provision’, in relation to an understanding, means any matter forming part of the understanding.” This emphasises that a contract may be upheld in part, even where individual provisions are held unlawful under s. 45.

In relation to the effect of substantially lessening competition, two phenomena deserve particular attention: so-called “market-sharing” and “horizontal” price-fixing. Rural Press Ltd v ACCC^[55] involved market-sharing. In that case, two rural newspapers agreed not to publish within each other’s circulation areas. Having noted that the affected market need not be substantial, the High Court saw this as a breach of TPA s. 45.

“Horizontal” price-fixing occurs when two or more entities, acting on the same level of the market, agree, for example, to charge the same price for a particular product. In Trade Practices Commission v Nicholas Enterprises Pty Ltd (No 2),^[56] the former Trade Practices Commission alleged that agreements amongst eight hoteliers in metropolitan Adelaide to reduce the number of bottles of beer sold at the price of a dozen from 15 to 14, was effectively a price-fixing agreement. Two of the defendants were held liable, as they were bound by admissions pertaining to their conduct only; however, the evidence tending to prove an agreement binding all the hoteliers was not sufficiently proved so as to make the remaining six hoteliers liable. By way of comparison, in Trade Practices Commission v Email (1980),^[57] two companies were at the time the only manufacturers of electricity meters in Australia, selling approximately 98% of their stock in trade to government providers. The companies had identical pricing arrangements and price variation clauses and sent one another their pricing lists. The TPC argued that this was a price-fixing agreement and that the sending of price lists itself amounted to a breach of s. 45. In the circumstances, there was no evidence to prove any communications relating to price-fixing, let alone an agreement. The Court accepted the explanation offered by Email as negating the inferences raised by the Trade Practices Commission. Thus, it was held that there was no agreement to fix the prices of electricity meters.

Finally, it is to be noted that the application of s. 45(1) is extended through s. 45(4):

together have or are likely to have that effect.

7.4.2 Restraints of Trade Act 1976 (NSW)

New South Wales is the only Australian state to have enacted specific restraint of trade legislation. The key provision of the Restraints of Trade Act 1976 (NSW) is s. 4:

7.4.3 Common law

While one is likely to look at the rules of the provisions found in Part IV of the CCA first, the common law rules regulating restraint of trade are nevertheless of great importance, as, in some instances, an agreement may fall outside the scope of the Part IV of the CCA but be nugatory under the common law rules.

The meaning of restraint of trade was clarified by Diplock LJ in Petrofina (Great Britain) Ltd v Martin:^[58] “A contract in restraint of trade is one in which a party agrees with any other party to restrict his liberty in future to carry on trade with other persons not parties to the contract in such manner as he chooses”.^[59] However, not all contracts fitting this description will be viewed as nugatory under common law.

The general principle is that a contract in restraint of trade will be void unless it is regarded as reasonable by reference to the interests of the parties and the public.^[60] Thus, even contracts that clearly constitute a restraint of trade are subject to a test of “reasonableness”. This “reasonableness test” takes account of whether the restraint is reasonable as between the parties, and whether the restraint is reasonable in the interest of the public.^[61] For both considerations, the court evaluates the duration as well as the geographical extent of the restraint.^[62] The courts also consider the type of activity being restrained.^[63] Thus, a court may conclude that a contract restraining a person from selling, for example, milk is enforceable. While a contract restraining a person from selling any type of food products at all is too far reaching and thereby nugatory.

Finally, A Schroeder Music Publishing Co Ltd v Macaulay^[64] illustrates that the court may take account of the parties’ bargaining power. There a songwriter had entered into a rather onerous contract with a music publisher. The Court stated that: “The test of fairness is, no doubt, whether the restrictions are both reasonably necessary for the protection of the legitimate interests of the promise and commensurate with the benefits secured to the promisor under the contract”.^[65]

Case law has further illustrated that “the law does not readily allow a person to contract out of their means of livelihood”,^[66] and the principle expressed in Article 3 of Rule 28 has, thus, been given a particularly strict interpretation in the context of contracts of employment. In Lindner v Murdock’s Garage^[67] an employment contract purported to prevent the plaintiff from being employed by any person or company in any business similar to that of the respondents within five miles from the respondents’ premises within one year of ceasing employment.

The appellant employee left Murdock’s Garage and began working immediately for another garage within a few hundred yards of Murdock’s. It was held that the clause was invalid due to exceeding what was reasonably necessary. It seems clear that provisions forming part of such contracts, which have the effect of restraining the particular trade of the employee, will only be upheld where they:

(a) have the effect of restraining the employee from applying special skills, acquired with access to their employer’s secrets, in working for a competitor in their spare time; or

(b) have the effect of preventing the employee from using trade secrets, confidential information or trade connections of their past employer, in competing in the same business as their employer (whether they still work for that employer or not).^[68]

In Herbert Morris Ltd v Saxelby,^[69] it was held that a contract, under which a former employee undertook not to carry on a business dealing in hoisting and lifting machinery similar to that of his former employer, was invalid. The contract must be seen as rather extreme as this restriction was to be effective all over the United Kingdom and Ireland for no less than seven years. By way of contrast, in Littlewoods Organisation Ltd v Harris,^[70] a contract under which a former senior employee, who had had access to confidential information, undertook not to work for a directly competing business for a year, was upheld.

7.5 Consequences of a contract being prohibited

As has been made clear throughout this Chapter, contracts may be held to be illegal or nugatory for a number of reasons. The question obviously arises of what actually happens when a contract is illegal or nugatory.

The first thing to note in this context, is that one of the reasons it is important to discuss illegal and nugatory contracts separately, is that the consequences of a contract being illegal are more severe than the consequences of a contract being nugatory.

Whether the illegality stems from statute or common law, where a contract is illegal, the applicable law can be summarised in the following:

The most frequently quoted statement of the relevant principles relating to severance is found in McFarlane v Daniell:^[71]

When valid promises supported by legal consideration are associated with, but separate in form from, invalid promises, the test of whether they are severable is whether they are in substance so connected with the others as to form an indivisible whole which cannot be taken to pieces without altering its nature … If the elimination of the invalid promises changes the extent only but not the kind of the contract, the valid promises are severable.^[72]

In that case, McFarlane and Daniell entered into a contract for employment whereby Daniell was to supply acting services to McFarlane. Daniell brought an action against McFarlane for the balance of his salary payable under the contract. McFarlane argued that the salary was not owed because Daniell had done no acting during the period for which the salary was claimed. McFarlane also argued that Daniell could not recover the money because part of the consideration for McFarlane to pay the salary was a promise by Daniell to adhere to a number of clauses in the employment contract, which McFarlane alleged Daniell had breached. Leave to appeal to the High Court was refused and the trial judge’s decision allowing Daniell to recover was upheld.

Severance was also discussed in Thomas Brown & Sons Ltd v Fazal Deen.^[73]  In that case, the plaintiff had placed gold and jewels in the custody of the defendant. The defendant, who had lost the items, argued that the plaintiff’s claim for damages was founded on an illegal contract. The Court held that, as the gold had been placed in the defendant’s custody in contravention of the National Security (Exchange Control) Regulations, no claim could be made in relation to the gold. Noting that the elimination of the invalid promises changed only the extent of the contract, not the kind of contract, the Court held that the illegality relating to the gold could be severed and the claim could succeed in relation to the lost jewels.

Finally, as far as severance is concerned, courts may very well be unwilling to allow severance in relation to contracts involving serious criminal conduct.^[74]

Article 4(a), which gives expression to the legal maxim of in pari delicto potior est condition defendentis (where the parties are equally at fault, the court will favour the defendant), covers a range of situations. Including where the party seeking to recover money paid and/or property transferred was ignorant or mistaken about the contract’s illegality, and where such a party was induced to enter into the contract by the other party’s fraud, oppression or undue influence, or was the victim of abuse of a fiduciary relationship. One example of the application of Article 4(a) is Shelley v Paddock.^[75] The defendants were hire-purchasers by instalments of a house in Spain and represented to an English woman that they were authorised to sell it. This sale occurred fraudulently and led to an action by the plaintiff buyer to recover damages for fraud. The defendants were clearly guilty, but the plaintiff had also breached statutory provisions relating to exchange control. As the plaintiff’s breach was innocent, it was held that public policy did not prevent the Court from assisting her in recovering damages; the parties were clearly not in pari delicto (that is, the defendants were plainly more culpable).

Furthermore, in JC Scott Constructions v Mermaid Waters Tavern Pty Ltd,^[76] McPherson J noted that the court would assist a claim for damages in relation to a building contract where the claimant was less guilty than the respondent, though it would not assist a claim for a fee or quantum meruit (i.e., “so much money as the plaintiff reasonably deserves to have”^[77]). The statute prohibiting the recovery of agreed fees under illegal contracts was not to be given wider scope than intended by applying it to liabilities arising under a contract, notwithstanding that it is prohibited.

In contrast, in Parkinson v College of Ambulance Ltd,^[78] the Court held that, as both parties knew the contract to be illegal, it is no excuse to say that the person said to be defrauding the other party under the contract was more blameworthy. This highlights the fact that focus is not on whether both parties were equally blameworthy in general terms, but rather whether both parties were equally blameworthy of the contract’s illegality.

Article 4(b) may be of relevance in situations where a party to an illegal contract chooses not to carry out a substantial part of the illegal part of the contract or repudiates the contract before a substantial part of the illegal part of the contract is carried out. In Clegg v Wilson,^[79] the plaintiff was seeking to ensure that the defendant did not give evidence in a criminal prosecution against the plaintiff’s son. In order to achieve this aim, the plaintiff transferred land to the defendant. As discussed above (7.3.1.4), such a contract is illegal, and the Court noted that:

[W]hile the illegal purpose remains wholly executory, this court should grant equitable relief by ordering the repayment of money paid, goods delivered, or property transferred to the defendant pursuant to the contract, notwithstanding that there is an element of turpitude in the contract, and that both parties are in pari delicto.^[80]

Further, the Court in Clegg v Wilson took the view that such an equitable action would not necessarily have succeeded if the illegality in question stemmed from the contract being a contract to do something which the statute forbids, or of a kind which the statute expressly or impliedly prohibits, as in those circumstances, it is the very contract itself, not its performance, that is illegal.

Article 4(c) addresses situations where the illegality of the contract stems from a statute, and the party seeking to recover money paid and/or property transferred is of the class that the statute seeks to protect. In Kiriri Cotton Co Ltd v Dewani,^[81] a contract was concluded under which the respondent (the plaintiff in the case at first instance) paid a sum of money to the appellant (the defendant in the case at first instance) in consideration for the latter agreeing to sublease an apartment to the respondent for seven years and one day, for residential use. Unknown to both parties, such an agreement was illegal under the relevant statute, the Uganda Rent Restriction Ordinance of 1949, which stated that:

Any person whether the owner of the property or not who in consideration of the letting or subletting of a dwelling-house … to a person asks for, solicits or receives any sum of money other than rent … shall be guilty of an offence and liable to a fine not exceeding Shs. 10,000 or imprisonment for a period not exceeding six months or to both such fine and imprisonment (s. 3(2))

While this provision cannot easily be misunderstood, the statute provided for an exception where the lease of premises was for seven years or more. However, the lawyers involved in drafting the contract between the appellant and the respondent failed to note that when the provision outlining the exception referred to “premises”, it only referred to business premises and not premises for residential use, which meant that the contract fell outside the exception and was indeed illegal.

In the judgment, Lord Denning stated that:

It is not correct to say that everyone is presumed to know the law. The true proposition is that no marl [sic] can excuse himself from doing his duty by saying that he did not know the law on the matter … Nor is it correct to say that money paid under a mistake of law can never be recovered back … Thus, if as between the two of them the duty of observing the law is placed on the shoulders of the one rather than the other – it being imposed on him specially for the protection of the other then they are not in pari delicto and the money can be recovered back … Likewise, if the responsibility for the mistake lies more on the one than the other – because he has misled the other when he ought to know better – then again they are not in pari delicto and the money can be recovered back[.]^[82]

In relation to the second part of the quote above, it is interesting to note the clear overlap with the Court’s reasoning in the context of mistake in McRae v Commonwealth Disposal Commission^[83] (see 6.3.1.1). As to the case at hand, Lord Denning continued:

In applying these principles to the present case, the most important thing to observe is that the Rent Restriction Ordinance was intended to protect tenants from being exploited by landlords in days of housing shortage … This is apparent from the fact that the penalty is imposed only on the landlord or his agent and not upon the tenant. It is imposed on the person who “asks for, solicits or receives any sum of money”, but not on the person who submits to the demand and pays the money. It may be that the tenant who pays money is an accomplice or an aider and abettor … but he can hardly be said to be in pari delicto with the landlord. The duty of observing the law is firmly placed by the Ordinance on the shoulders of the landlord for the protection of the tenant: and if the law is broken, the landlord must take the primary responsibility.^[84]

This led to the conclusion that:

Seeing then that the parties are not in pari delicto, the tenant is entitled to recover the premium by the common law: and it is not necessary to find a remedy given by the Ordinance, either expressly or by implication. The omission of a statutory remedy does not, in cases of this kind, exclude the remedy by money had and received.^[85]

Interestingly, Lord Denning commenced his reasoning by defining the question to be answered in very broad terms:

Nevertheless, no matter whether the mistake was excusable or inexcusable, or the premium fair or extortionate, the fact remains that the landlord received a premium contrary to the provisions of the Ordinance: and the question is whether the tenant can recover it back – remembering always that there is nothing in the Uganda Ordinance, comparable to the English Acts, enabling a premium to be recovered back.^[86]

This suggests that the principles laid down above would be applicable whether the party in the position of the appellant in this case had acted innocently or not, and whether the sum of money asked for was unreasonable or not, which means that the principles have very wide application indeed.

While it may be relatively rare, it seems beyond intelligent dispute that, where a statute specifically and expressly outlines rules for how the parties may recover money paid, compensation for benefits conferred and/or property transferred under an illegal contract, the court must take account of those rules. This thinking is the base for Article 4(d).

What has been said above about illegal contracts is, as is emphasised in Article 5, also applicable in relation to situations where the contract is not illegal as such but is tainted by illegality either due to the fact that it was made in order to effect a purpose which the statute renders unlawful, or due to it being performed in a manner which the statute prohibits.

Whether nugatory due to statute or due to common law, where a contract is nugatory, but not illegal, we can look at Rule 30:

The above discussion of the consequences of a contract being illegal is in large parts of relevance also in relation to the principles outlined in Rule 30, discussing the consequences of a contract being nugatory. However, two additional points must be made. First, all other things being equal, a court is more likely to be willing to allow severance in relation to a nugatory part of a contract, than in relation to an illegal part of a contract.^[87] Second, while recovery of money paid, compensation for benefits conferred and/or property transferred, under an illegal contract is (as outlined in Rule 31) limited to a few exceptions, a court will ordinarily allow such recovery in relation to nugatory contracts.^[88]