Practical Law

The facts in Costello v Macdonald are not uncommon in the construction industry, when a party wants to redevelop a site that it owns:

• A special purpose vehicle (SPV) is set up for the sole purpose of the redevelopment (primarily for tax reasons).
• The SPV engages the contractor to carry out the redevelopment.
• The contractor does not get paid. The SPV has no assets.
• The contractor seeks to recover the monies owed from the actual owner of the property, which owns the SPV and which now has the benefit of a redeveloped property.

The basis of the contractor’s claim is that the owners of the property have been unjustly enriched and, as a result, should be liable to the contractor in restitution.

Court of Appeal overturns first instance decision

In Costello v Macdonald, the first instance recorder gave Judgment in favour of the contractor. However, Etherton LJ, who gave the leading judgment in the Court of Appeal, would have none of it and overturned the recorder’s decision.

Contractor assumed insolvency risk

While Etherton LJ was in no doubt that the Costellos (the owners of the property) had benefited and had been enriched by the contractor’s works, and that their enrichment had been achieved by their unconscionable conduct, that was not enough. It wholly ignored the contractual structure that had been carefully set up by the parties, such that:

• The legally enforceable promises were only made between the SPV and the contractor.
• The risk of non-payment was allocated to the SPV and the SPV alone.

The Court of Appeal did not think that in these circumstances a claim should be allowed against the Costellos as it would shatter the agreed contractual structure. The contractor had, by virtue of the contractual structure it had voluntarily entered into, assumed the risk of the SPV’s insolvency. To allow the contractor’s claim against the SPV would be to improve the contractor’s position over the position of the unsecured creditors of the SPV.

Court cannot undermine parties’ contract

Also, given that the court’s role was to uphold contracts, to allow the contractor’s claim would be to do the exact opposite. It would undermine the parties’ contract. Restitution for unjust enrichment should not be awarded if it undermined the contract in place.

Contractor cannot evade its contract

A further reason that the court gave for overturning the judgment in the contractor’s favour was that by awarding the contractor judgment, the contractor could have done better out of a restitutionary claim, based on the value of the services provided, as opposed to a contractual claim based on price and terms. The contractor could have entered into a bad bargain viz an unprofitable contract. The contractor should not be allowed to improve its position by evading the contract.

While it was not fundamental to the court’s decision, the specific facts of the case did not help the contractor. The contractor had previously carried out work for the Costellos on the same basis via an SPV. Thus, the contractor went into the contract with the SPV with its “eyes open”.

Finally, the Court recognised that all of the contractor’s problems could have been avoided if only it had obtained a guarantee from the Costellos. It had not and, as a result, the law could not now come to its aid.