Contracting with Third Parties

 

In every line of business, contracts occupy a vital and crucial position. The validity of contracts must be guaranteed to ensure the smooth operation of a business. Therefore, the sections below will elaborate on the prevailing contract law in Indonesia.

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Definition of Contract

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The legal regime governing private law in Indonesia is contained in the ICC, which has been in force since the Dutch colonial period. In the context of contracts, the ICC provides the legal basis applicable to all contracts entered into in Indonesia. Article 1313 ICC stipulates that “a contract is a legal act whereby one person or more persons bind themselves to one or more other persons.” There are 3 (three) categories of contract based on the type of obligation involved, namely: (i) obligations to give something; (ii) obligations to do something; (iii) obligations to refrain from doing something.

 

A contract to give something imposes an obligation on the debtor to deliver and maintain the object of the obligation in proper condition for the benefit of the creditor. The creditor is also entitled to compensation in the event of the debtor’s default.

 

In contracts involving obligations to do or not to do something, the creditor is likewise entitled to claim compensation in the event of non-performance. In addition, the creditor may seek the reversal of acts undertaken by the debtor that prejudice the creditor’s interests, either through judicial means (court) or by fulfilling the obligation at the debtor’s expense when permitted by law.

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Categories of Contracts

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In addition to the abovementioned types, there are 6 (six) types of contracts:

 

Conditional Contracts

 

Conditional contracts are defined as contracts whose validity and conclusiveness depend on a future or uncertain event. 

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Temporal Contracts

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Temporal contracts are contracts in which performance is subject to a specific time condition. Creditors are not entitled to demand performance before the maturity of the contract. Likewise, debtors are not entitled to reclaim a performance already rendered prior to the maturity date. The determination of maturity generally operates for the benefit of the creditor, unless the nature of the contract or circumstances indicate otherwise.

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Disjunctive Contracts

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A disjunctive contract allows the debtor to fulfill their obligation by delivering one of two specified goods. However, debtors are prohibited from offering the creditor the partial performance of each good and combining them as one. A disjunctive contract reverts to a standard contract if one of the goods becomes unavailable due to hindrance, loss, or other causes attributable to the debtor. In such circumstances, the debtor is obligated to compensate for the lost good proportionate to its value.

 

If only one of the goods is lost, the creditor is entitled to demand performance with respect to the remaining goods. If the loss is attributable to the debtor, the creditor is entitled to the remaining goods or a payment equivalent to the value of the lost good. If both goods are lost, the creditor is entitled to full compensation equivalent to the value of the lost goods.

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Joint Contracts

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A joint contract among creditors entails that each creditor in a group of creditors to claim performance from the debtor on behalf of the others. The debtor is free to choose which creditor to perform the obligation for, and such performance discharges the debtor’s obligation toward the other creditors. A creditor is also entitled to claim performance from any given debtor, or any other debtor they wish, and the debtor may not demand that the obligation be divided.

 

In the case of a joint contract among debtors, where several debtors share joint liability and obligation for performance, performance by one debtor releases the remaining debtors. The creditor may impose different conditions on each debtor with respect to the performance of their respective obligations.

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Divisible and Indivisible Contracts

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The divisibility of a contract pertains to the divisibility of the performance based on its nature, whether physical or otherwise.  However, even if a performance is naturally divisible, it shall not be considered divisible if the contract requires the performance in its entirety.  Moreover, a divisible contract must be performed in a manner that treats the contract as indivisible, unless it is concerning inheritors of a party to the contract, who are responsible only for their own rights or obligations.  Therefore, an inheritor of a creditor to a divisible performance is not allowed to individually relieve the debtor from their obligation, or take the due payment for their own. If such a case occurred, the rest of the inheritors shall claim their own share, excluding the portion which has already been taken by the first inheritor.  

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In addition, a conference of debtors, who are collectively responsible for a divisible performance, is obligated to it in its entirety, even if the contract is not a joint contract. 
 

Contracts with Penalties

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A penalty clause may be included in the contract to prevent the debtor from defaulting their obligation, taking the form of compensation for damages and loss, and interest.  A creditor is not allowed to claim both the performance of the principal obligation and the penalty, as the penalty was only devised as an alternative in case of the debtor’s default.  However, in case of default, a creditor may demand the performance of the principal obligation instead and, therefore, relieve the debtor from the penalty.  Therefore, the invalidity of the contract shall invalidate the penalty clause, but the relief of the penalty clause does not invalidate the contract. 

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Validity of Contract

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Article 1320 ICC further stipulates the cumulative conditions of a valid contract, which are as follows:

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The Consent of Both Parties 

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It is essential that contracts are based on the free and mutual consent of the contracting parties to ensure that the performance is undertaken voluntary. Accordingly, contracts concluded as a result of error, duress, or fraud are deemed invalid. In the case of error, invalidity arises only when the error relates to the substance of the object of the contract.

 

Furthermore, a contract concluded under duress is considered invalid. Any act that induces fear in a reasonable person–such that they, their family, or their property are in imminent danger–constitutes coercion. However, a claim for annulment based on duress is no longer admissible if the coercion has ceased and the contract continues to be performed, or if the period prescribed by law for seeking annulment has elapsed.

 

Lastly, fraud as a ground for invalidity occurs when one party deceives the other into entering into a contract that would not have been concluded in the absence of such deception. Fraud must be proven and cannot be presumed.

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The Legal Capacity to Engage in the Legal Act

 

The ICC provides that every person has the capacity to enter into a contract, except for minors and persons under guardianship. The incapacity of minors and persons under guardianship is absolute and cannot be waived.

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The Certainty of the Object of the Contract

 

Pursuant to Article 1332 jo. Article 1333 ICC, only objects that may be traded are eligible to be the subject of a contract, provided that their nature or quantity can be determined. Contracts concerning future objects are permissible, except in relation to inheritance.

Lawful Cause 

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The law requires that a contract must be based on a lawful cause. A cause is considered lawful as long as it does not contravene the law, public order, or morality. It is important to distinguish the cause of a contract from the personal motives of the parties. A contract may remain valid even if the cause is not expressly stated, provided that it is lawful.

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Performance of Contract

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It is important to consider certain matters in the performance of a contract in order to safeguard the interests of both parties. These matters include:

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The Implementation of Good Faith

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The principle of good faith is prescribed by Article 1338 ICC.  This principle essentially demands that both parties undertake the contract in such a manner that does not offend the trust and spirit of either party.  

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The Object of Performance

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A contract binds not only matters explicitly stipulated therein but also matters that are implied by justice, custom, or applicable laws. This is particularly relevant when a court assesses a contractual dispute based on principles beyond the express terms of the contract.

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The Subject of Performance

 

According to Article 1315 ICC, only the contracting parties are subject to the contract.  However, exceptions can arise when a third party is involved as a second bearer of the right to performance by the debtor, or when a third party is involved as a second bearer of the obligation to perform for the creditor.  This arrangement is irrevocable once the third party consented to it, and does not diminish the right of the creditor to demand performance from the principal debtor. 

 

The Interpretation

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Commonly applied methods of interpretation in contract law include: (i) grammatical or literal interpretation; (ii) systematic or contextual interpretation; (iii) teleological or purposive interpretation; (iv) historical interpretation. The ICC adopts these methods in construing contractual provisions.

 

If the wording of a contract is clear, interpretation beyond its literal meaning is not permitted. However, where ambiguity arises, the intention of the parties at the time of concluding the contract must be ascertained. In such cases, interpretation should consider the nature and purpose of the contract.

 

If a clause has multiple meanings, the interpretation that allows for the most feasible performance of the obligation shall prevail, or the interpretation that best aligns with the nature of the contract. Clauses with multiple meanings should also be interpreted in accordance with prevailing custom.

 

The interpretation of a contract must be conducted as a whole, treating clauses as interconnected. Furthermore, interpretation should favor the party undertaking the obligation and benefit the party for whom the obligation is performed. Irrespective of how broadly a clause may be interpreted, it shall bind only matters that were intended by the contracting parties at the time the contract was concluded.

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Breach of Contract

 

It is important to understand the circumstances that may lead to a breach of contract. These circumstances includes the following:

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Default

 

A person is considered to be in default when the debtor fails to fulfill their contractual obligations. This may take the form of: (i) failure to perform; (ii) delay in performance; (iii) improper or incomplete performance; or (iv) performing an act that is prohibited under the contract. However, a debtor is deemed to be in default only after being formally notified or placed in default, or when the contract itself stipulated that default arises automatically upon the occurrence of a certain event.

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As a consequence, the creditor is entitled to demand the performance of the obligation, even after the debtor has been declared in default. Furthermore, the creditor may claim compensation, which includes: (i) costs incurred by the creditor; (ii) losses suffered as a result of the default; (iii) interest; and (iv) loss of potential profit. The first two categories must be calculated strictly, encompassing only costs that could reasonably have been foreseen at the time of the conclusion of the contract and losses directly caused by the default. Only these costs will be compensated.

 

In the case of a joint contract where an object is destroyed due to the fault of a debtor, the remaining debtors are only obliged to bear the shared cost of the object, and not the compensation, interest, or losses. Such claims may only be directed against the debtor at fault.

 

Furthermore, a contract may be declared null by as a result of a breach. Such annulment gives rise to restitution, whereby the parties are required to restore what has been received, thereby returning them to their respective positions as if the contract had never existed. Even where the contract provides for annulment, such annulment must be effected through judicial process.

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Force Majeure

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Force majeure refers to a breach of contract, such as the failure or delay in performance, arising from an unforeseen event that prevents the debtor from performing the obligation. The same principle applies where an inevitable and unforeseeable event hinders the debtor from fulfilling the obligation. A force majeure event may also release the debtor from liability where it results in the destruction of the subject matter of the contract.

 

Moreover, even if the object is destroyed after the debtor has been declared in default, liability may still be excluded if it can be proven that the object would have been destroyed while in the possession of the creditor. In such a case, any insurance proceeds related to the destroyed object must be transferred to the creditor as compensation.

 

There are 2 (two) types of force majeure: (i) absolute force majeure; and (ii) relative force majeure. The former entails the complete inability of the debtor to deliver the performance due to force majeure, while the latter involves the ability to perform, but only at an extraordinary cost or with exceptional effort.

 

Additionally, the generally accepted characteristics of force majeure include: (i) the occurrence of an unforeseeable event; (ii) the removal of liability from the debtor; (iii) the absence of bad faith; (iv) the absence of intentional conduct attributable to the debtor; (v) the obstruction of the performance of the contractual obligation; and (vi) the event being beyond the control of the parties.

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Cessation of Contract

 

A contract will cease to exist in any of the following cases:

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• Payment or Performance of contract

• Debt payment offering or debt renewal;

• Debt satisfaction or compensation;

• Debt consolidation;

• Debt relief;

• The perish of the object of contract;

• Annulment by law;

• The activation of annulment clause;

• Prescription.

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