Switzerland: The Essentials Of Swiss Contract Law: Rescission Of Contracts (No. 9)

This blog series gives a short and compact overview on the essential elements of Swiss contract law.

Under Swiss law, a party can rescind a contract if there is a defect concerning its conclusion. Art. 23-31 of the Swiss Code of Obligations ("CO") deal with three kind of defects, namely error, fraud and duress.

Pursuant to the basic rule in Art. 23 CO, a party acting based on a fundamental error when entering into a contract is not bound by that contract. Art. 28(1) CO states that a party induced to enter into a contract by the fraud of the other party is not bound by the contract even if the error is not fundamental. Finally, a party who entered into a contract under duress from the other party or a third party is not bound by that contract independently from whether there was an error (Art. 29(1) CO).

Fundamental error

Art. 24(1) CO defines four scenarios in which an error is considered as being fundamental and thus allows the erring party to rescind the contract. The first three scenarios envisaged by Art. 24(1)(1)-(3) each refer to an error in declaration ("Erklärungsirrtum"). They concern an error with regard to the transaction that is the subject of the contract (error in negotio), the object of the transaction or the counterparty (error in obiecto vel in persona) or the scope of the main obligation and/or the consideration (error in quantitate). There is a legal presumption that these kinds of error are fundamental and allow the erring party to rescind the contract under Art. 23 CO.

Art. 24(1)(4) CO deals with the concept of a material error ("Grundlagenirrtum"). An error is deemed to be material if it relates to specific facts which the party acting in error considered in good faith to be a necessary basis for the contract. Art. 24(2) CO makes clear that this does not include errors relating solely to that party's reason for concluding the contract. Whether a material error exists is often the subject of disputes and courts have developed quite some case law on this topic.

An error relevant under Art. 24(1)(4) CO may relate to circumstances that are internal (e.g., properties of the object of the purchase) or external (e.g., the purpose of the contract and involved risks) to the contract in question. Furthermore, it may relate to present or future circumstances. With regard to future circumstances, it is required that the error relates to a certain future fact which, viewed objectively, could be regarded as certain at the time of the conclusion of the contract. In addition, the other party should have realised in good faith applicable to commercial dealings that the certainty of the occurrence of the future event was a prerequisite of the contract for the erring party.

The case law requires that the circumstances on which a party erred were subjectively and objectively fundamental for the party's decision to enter into the contract and that this was observable by the other party. Circumstances are subjectively fundamental if they are a conditio sine qua non for the party to enter into the contract. Circumstances are objectively fundamental if they are a necessary basis for the contract according to the requirements of loyal business dealings. The importance of the circumstances in question for one party is deemed observable by the other party if there has been express communication on that point, if the importance is obvious to both parties or if it derives from the specific circumstances of the conclusion of the contract. E.g., the Swiss Federal Supreme Court has found the following circumstances to be material: the availability of patents in connection to the purchase of all shares of a company, the net value of stocks, the financial situation of a company or the size of an apartment (actual size was 8% less than the size contractually agreed upon).

Fraud and the duty to disclose

A fraud under Art. 28 CO – also referred to as wilful deception – can consist of a misrepresentation or the concealment of facts. What is important is that both must relate to facts and not mere opinions. As stated above, materiality of the error induced by the fraud is not required under Art. 28 CO.

The existence of a fraud does not require a malicious element. Therefore, a wilful deception does not necessarily constitute fraud in the criminal law sense (meaning an intentional deception with a malicious element, which can consist of a "building of lies" or in (one) "qualified lie"). The threshold under Art. 28 CO is significantly lower. The intentional taking of an obvious risk is also qualified as wilfulness in the sense of wilful deception ("Eventualvorsatz").

The concealment of facts amounts to wilful deception if there is a duty to disclose. This leads to the question under which circumstances such duty to disclose exists. Swiss law does not provide for a general duty to disclose certain information in legal relationships or during contractual negotiations. However, in specific circumstances, such duty may derive from the parties' contractual relationship or a relationship of mutual trust.

The Swiss Federal Supreme Court has affirmed the existence of a relationship of mutual trust in the case of contract negotiations. Therefore, the parties to such negotiations are obliged, pursuant to the principle of good faith, to inform each other of facts that may influence the other party's decision to enter into the contract or the terms and conditions of the contract. The extent to which a party has to inform the other party depends on the circumstances of the individual case, in particular the nature of the contract, the manner in which the negotiations have been conducted and the intentions and knowledge of the parties.

For sales contracts, the parties are, in principle, not obliged to inform the other party about all circumstances that may be relevant for the determination of the purchase price. However, a purchaser may expect that the seller disclose any risks known to it that may frustrate or substantially prejudice the identifiable purpose of the contract. The so defined duty to disclose of the seller exists even if the buyer was in a position to become aware of the undisclosed facts.

Duress

Pursuant to Art. 30 CO, a party is under duress if, in the circumstances, he has good cause to believe that there is an imminent and substantial risk to their own life, limb, reputation or property or to those of a person close to them. The fear that another person might enforce a legitimate claim is taken into consideration only where the straitened circumstances of the party under duress have been exploited in order to extort excessive benefits from him.

Notice requirement

The existence of a fundamental error, fraud or duress does not void the contract automatically. Rather, the affected party must give notice. By virtue of Art. 31(1) CO, the contract is deemed to have been ratified if the party acting based on error, fraud or duress neither declares to the other party that it intends not to honour the contract nor seeks restitution for the performance made within one year. The one year period runs from the time that the error or the fraud was discovered or from the time that the duress ended (Art. 31(2) CO). The declaration required under Art. 31 CO may be made expressly or impliedly. No particular form is required.

Remedies

In principle, a person acting based on material error, fraud or duress at the conclusion of contract is not bound by it unless the contract is deemed ratified pursuant to Art. 31 CO. This means, in particular, that both parties may claim back any performance they have rendered to the other party, and refuse any further performances due, under the rescinded contract. If the defect affects only part of the contract, only that part is non-binding if it may be assumed that the parties would have entered into the contract even without that part (Art. 20(2) CO by analogy).

The Swiss Federal Supreme Court recognizes in its standing case law that the provisions on material errors and wilful deception apply, in particular, also to the purchase of a business in addition to the specific provisions on warranty under sales contracts. This has some importance in practice as the time limits to bring warranty claims are often very short. On this basis, it is possible to challenge part, and get a reduction of, the purchase price in cases where a business was acquired.

In cases of fraud or duress, the affected party may also claim damages, based either on tort (Art. 41 CO) or culpa in contrahendo. The ratification of a contract made voidable by duress or fraud does not automatically exclude the right to claim damages (Art. 31(3) CO).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.