Frustrated Contracts in Australia, when an Unexpected Event Ends a Contract

A frustrated contract is one the law treats as automatically ended because an unexpected event, beyond either party's control, has made performance impossible or radically different from what the parties agreed. The doctrine of frustration is deliberately narrow: it is not an escape hatch for deals that became difficult, delayed or unprofitable.

In this article we cover:

• The test: what courts mean by "radically different" performance
• The limits: events a party caused, and risks the contract already covered
• The effect: automatic termination and what happens to money already paid
• A worked example: a cancelled event and a burnt-out function venue
• When a lawyer helps: assessing frustration and protecting your position

The Test: Performance That Is Radically Different

The starting point is the classic statement in Davis Contractors Ltd v Fareham Urban District Council [1956] AC 696, adopted by the High Court in State Rail Authority (NSW) v Codelfa Construction Pty Ltd (1982) 149 CLR 337. Frustration occurs when the law recognises that, without default of either party, a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract.

Put in practical terms, three things usually need to be present:

• A supervening event: something happens after the contract is made that changes the situation the parties bargained for
• No fault: neither party caused or contributed to the event
• A radical effect: performance is no longer possible at all, has become illegal, or would be fundamentally different in substance from what was promised

The High Court put the question this way in Codelfa: whether the situation that came about was fundamentally different from that contemplated by the contract on its true construction, in the light of the surrounding circumstances. The contract is judged as it was written, not against what the parties now wish they had agreed.

Classic situations where frustration can arise include the destruction of the subject matter (a venue burns down before the event), a change of law that makes performance illegal, a government order that shuts down the activity the contract is about, and the death or incapacity of a person whose personal performance was essential to the deal.

The Event Must Be Beyond Either Party's Control

Frustration only operates "without default of either party". An event a party brought about, whether by breach, choice or carelessness, is not a frustrating event. A supplier who sells the goods elsewhere and then claims the contract is frustrated has breached, not frustrated, the contract. Self-induced hardship has no place in the doctrine, because the law will not let a party rely on its own conduct to escape obligations.

The event must also be genuinely supervening: it has to change the situation after the parties committed. If the difficulty already existed when the contract was signed, the party who promised performance took that risk, and frustration does not help.

The Risk the Parties Already Took On

Frustration does not rescue parties from the risks they accepted when they signed. If the event was within the parties' reasonable contemplation, or if the contract can be construed as allocating the risk of it, frustration cannot apply. In Veremu Pty Ltd v Ezishop.Net Ltd [2003] NSWCA 317, venture investors tried to escape an obligation to pay for shares after the target company went into liquidation. The Court of Appeal held the contract was not frustrated: the investors knew the company was losing money, the risk of insolvency was within their contemplation, and the disappointment of their expectations did not make the payment radically different.

The same logic explains why a well-drafted force majeure clause usually displaces frustration. Force majeure is a contractual creature: it only operates if, and to the extent, the contract provides for it. Where a contract contains a force majeure clause that covers the event in question, the clause governs, including its notice requirements and consequences. Frustration is the default legal rule for events the contract did not deal with.

Nor is mere hardship enough. Increased costs, supply delays, staff shortages and falling demand all make performance harder, but none of them makes it radically different. The pandemic cases made this point sharply: in Dyco Hotels Pty Ltd v Laundy Hotels (Quarry) Pty Ltd [2021] NSWCA 332, the Court of Appeal confirmed that frustration does not arise merely because an event such as a public health order damages one party's expected financial returns, where the contract can still be performed.

What Frustration Does: Automatic Discharge

If the doctrine applies, the contract is discharged automatically from the date of the frustrating event. Neither party needs to elect to end it, and neither party can insist on keeping it alive. Future obligations come to an end for both sides. Because discharge is not a breach, the innocent-party remedies of damages and termination for breach are not available; the law simply recognises that the bargain has been overtaken by events.

Automatic discharge does not, however, automatically sort out the money. At common law the loss lies where it falls: money paid before the frustrating event is generally not recoverable under the contract, and work done before frustration is generally not paid for unless the contract or a restitution claim provides otherwise. That harsh result is exactly why some states have stepped in with legislation.

Legislation in NSW, South Australia and Victoria

Whether a statute helps, and how much, depends on the state or territory whose law governs the contract:

• New South Wales: the Frustrated Contracts Act 1978 (NSW) applies to frustrated contracts governed by NSW law. Under s 12, money paid for performance that never materialised must be returned; s 11 allows the court to adjust matters where one party received part performance, including an allowance for the reasonable cost of that performance; s 14 allows recovery of these amounts as a debt.
• South Australia: the Frustrated Contracts Act 1988 (SA) performs a similar adjustment function, allowing the court to rebalance the parties' positions.
• Victoria: the old Frustrated Contracts Act 1959 (Vic) was repealed, and adjustment provisions now sit in the Australian Consumer Law and Fair Trading Act 2012 (Vic).
• Elsewhere: Queensland, Western Australia, Tasmania, the ACT and the Northern Territory have no frustrated contracts statute, so the common law position applies and the parties' pre-paid money and expenses are left where they fall unless they agree otherwise.

Two qualifications matter. First, the state legislation only applies where the parties have not already dealt with the risk in their contract: a force majeure or similar clause takes the matter out of the statutory adjustment regime. Second, the legislation does not apply to every kind of contract, and the detail differs between states, so the governing law of the contract needs to be identified before anyone assumes the statute will help.

Worked Example: The Burnt-Out Function Venue

Sydney event caterer Marquees and Co signs a contract in July to cater a 300-guest awards dinner at a city function venue in November. The client pays a $15,000 deposit on signing. Three weeks before the dinner, a fire destroys the venue's function hall.

The hall is the subject matter of the contract. Neither party caused the fire. Nothing in the contract allocated the risk of it: there is no force majeure clause and no term allowing a substitute venue. A function hall is essential to what was promised, so performance is now impossible, not merely harder. The contract is frustrated and ends automatically from the date of the fire.

Now the money question. At common law the deposit might well be lost, because losses lie where they fall. But the contract is governed by NSW law, so the Frustrated Contracts Act 1978 (NSW) applies: the caterer must return the $15,000 under s 12, and if the caterer had already performed part of the job, say by preparing menus and ordering ingredients the client received a benefit from, s 11 allows the court to adjust for the reasonable cost of that part performance. Had the same contract been governed by WA law, no statute would assist, and the caterer and client would need to negotiate who bears the loss.

Common Misconceptions

A handful of misconceptions recur often enough to be worth addressing:

• "Frustration covers anything that makes the deal harder": It does not. Rising costs, delays, market shifts and staff shortages are the ordinary risks of business, and the contract allocates them. Frustration is reserved for performance that is impossible, illegal or radically different in substance, as the pandemic cases confirmed.
• "A frustrated contract means I automatically get my money back": Not at common law, where the loss lies where it falls. Refund and adjustment rights depend on the legislation of the state or territory whose law governs the contract.
• "If the contract is silent, frustration steps in": Silence does not create frustration. The question is always whether an unforeseen event made performance radically different, not whether the contract happened to mention the risk. A risk the parties could have foreseen and simply did not address may still be one they bore.
• "Force majeure and frustration are the same thing": Force majeure is a clause the parties write into a contract; frustration is a legal rule that applies when the contract does not deal with the event. If the clause covers the event, the clause wins.

Frustration in Employment Contracts

Employment contracts can also be frustrated, for example where a worker becomes permanently unable to perform the job through illness or injury, or where a change of law, such as a visa cancellation, makes the work unlawful. NSW tribunals have examined frustration by incapacity closely: in Hilton Hotels of Australia Ltd v Pasovska [2003] NSWIRComm 17 the question was whether an employment contract was frustrated by an employee's incapacity, and in CFMEU v Northern Sydney Area Health Service [2004] NSWIRComm 251 the tribunal analysed frustration by illness in the context of a dismissal.

The trap for employers is that "frustration" cannot be used to sidestep unfair dismissal protections. If the reality is that the employer decided to end the employment, the law may treat it as a dismissal whatever label is used, and the employer may need to show a valid reason and follow fair process. An employment relationship should only be treated as frustrated on clear facts, and ideally after advice from an employment lawyer.

When a Lawyer Helps

Deciding whether a contract is frustrated is rarely a simple call, and the cost of getting it wrong is high: refuse to perform on a mistaken belief in frustration and you may be the party in breach. A lawyer will:

• Review the contract for clauses that allocate the risk, including force majeure, termination, variation and substitution terms, and identify the governing law
• Test the event against the Davis Contractors and Codelfa standard, and gather the facts that matter, such as when the event happened and what each party knew
• Check what the local frustrated contracts legislation allows, because the answer differs across NSW, South Australia, Victoria and the rest of the country
• Advise on how to communicate with the other party. The NSW Court of Appeal held in Dyco Hotels that asserting frustration in correspondence is not, by itself, repudiation, but the wording matters and careless letters can still cause damage
• Negotiate a variation, a termination deed or a refund arrangement where the parties prefer a commercial solution to a legal one
• Draft stronger force majeure and risk-allocation clauses for future contracts, so the next unexpected event has a contractual answer instead of a legal dispute

The Question to Ask Before You Walk Away

The most expensive mistake in this area is treating frustration as a free exit with a refund attached. The business that stops performing on the assumption that "the contract is frustrated" exposes itself to a breach claim if the event merely made the deal harder, or if the risk was one the contract had already allocated to it.

Before you refuse to perform, ask two questions. Did our contract already deal with this event? And is performance now truly radically different from what we promised, through no fault of ours? If you cannot answer both with confidence, treat the contract as still on foot until a lawyer has assessed it. That single discipline separates the business that manages an unexpected event well from the one that turns a frustrating situation into an expensive dispute.