Read in From Statute: Do the Contractual Duties of Honest Performance and Good Faith Exercise of Discretion Apply to Statutory Contract Terms?

Until recently, parties to a contract did not owe any obligations of good faith towards each other in Canadian common law jurisdictions. There was no obligation of good faith in the negotiation process, none in the performance of contractual obligations, and only limited such obligations in contract termination.[1] There was, for example, no obligation not to lie to your contracting party when performing your contractual duties (unless it constituted the tort of civil fraud). The courts explained the contractual relationship as one in which each party is to get the best deal for themselves, using whatever pressure legitimately at their disposal.[2]

However, this began to change in 2015 when the Supreme Court of Canada (SCC) held for the first time that parties hold a duty to perform their contractual obligations honestly, by not lying or actively misleading the other party.[3] A few years later the Court in Wastech Services Ltd. v. Greater Vancouver Sewerage and Drainage District also held that a party who holds a discretionary contractual right must perform it in keeping with the purpose for which it was given under the contract. To use the contractual discretion for another purpose would be to act in bad faith.[4] The SCC has said that both duties operate as general contract law doctrines from which the parties cannot contract out.[5]

Both cases have received significant judicial consideration, but one thing that remains unclear is whether the duty of honest contractual performance and the duty to exercise contractual discretion in good faith apply to contract terms that are mandated by statute. Contracts are generally thought of as private agreements in which the parties choose the terms of their relationship. In practice, however, many types of contracts are at least partially regulated by statute, which often requires that specific obligations or prohibitions required by the statute be ‘read in’/form a part of a contract formed by the parties. We can think here of domestic contracts such as separation agreements, copyright agreements, insurance contracts, residential tenancies and non-unionized employment contracts, etc. The question is as follows: can the common law of contract doctrines set out by Bhasin and Wastech operate to impose obligations on how rights and obligations read into these contracts by statute are performed, even though those rights and obligations were chosen by the legislator and not the parties? I offer here some preliminary thoughts on the issue through analysis of two regimes: the Employment Standards Act (ESA) and Residential Tenancies Acts (RTA) in Ontario.[6]

To determine whether the contractual duties of honest performance and good faith exercise of discretion apply to statutory terms requires answering three main questions. The first is the extent to which the governing statutes displace negotiated contract terms and general contractual doctrines. The second is what the analysis would look like if the duties do apply. The third is the broad question of whether a right conferred by statute, and therefore created by the legislator, ought to be subject to a common law limitation such as the duties created by Bhasin and Wastech.

The Relationship between Statute and Contract in the RTA and ESA:

Residential tenancy agreements and employment contracts are formed through contract. A residential tenancy is a contract between a landlord and tenant, and a non-unionized employment relationship is a contract between an employer and employee. These contracts are also regulated by statute, and the parties are not free to contract out of the statutory obligations.[7] The relationship between the statute and contract nonetheless differs significantly between these two regimes.

An employment contract regulated by the ESA can contain both minimum terms imposed by statute and terms negotiated between the parties, so long as the negotiated terms provide more than the statutory minima.[8] For this reason, the common law of contracts continues to play a significant role in the interpretation of non-unionized employment contracts, both providing gap fillers and contract law doctrines like misrepresentation and estoppel (except to the extent expressly amended by the statute). Conversely, under the RTA, the terms of a residential tenancy agreement are determined almost entirely by statute, leaving very little room for individually negotiated terms. General contract law doctrines such as misrepresentation and economic duress continue to operate, unless modified by statute.[9] This analysis tsuggests that because the duties created by Bhasin and Wastech operate as general contract doctrines, they apply to non-unionized employment contracts and residential tenancies.

How Would the Doctrines Apply?

To determine whether a party exercised their rights honestly, one would ask whether a landlord or employer (or employee/tenant) had lied (knowingly told an untruth) or actively misled the other party.[10] For example, the duty would require employers to exercise their right to dismiss an employee with statutory notice of termination in an honest manner that doesn’t actively mislead. An employer might, therefore, be in violation of this duty if they if they lied about the reasons for a dismissal.

The application of the duty to perform contractual discretion in good faith would be a bit more complicated. In Wastech, the majority of the SCC held that a discretionary contractual right must be exercised in keeping with the purpose for which the discretion is given, failing which it is being exercised in bad faith.[11] The first and most crucial step, therefore, is determining the purpose for which the discretion was given. If a contractual discretion is endowed by statute, however, it is not the parties that have decided to award it, nor are they the ones who have decided on its purpose. One might, therefore, instead enquire as to the legislator’s intended purpose of the discretion, in the context of the purpose of the statute more generally. For example, the RTA allows for unlimited rent increases for units in buildings built after 2018.[12] At the same time, the RTA also prohibits eviction of tenants except in narrowly defined circumstances. In practice, landlords sometimes impose very high rent increases to force tenants out, in situations where they would not otherwise be able to evict.[13] One could therefore argue that the duty to exercise discretion in good faith applies to the provision permitting unlimited rent increases, such that it cannot be used to impose increases that effectively amount to unlawful evictions.

Landlord counsel might argue that the purpose of the provision was to remove the cap on annual rent increases that otherwise applies under the RTA. To say that a common law doctrine of good faith could then fetter a discretion provided by statute would be to flout the intent of the legislators. Tenants, however, might argue that even if the purpose of the provision is to remove the cap on rent increase, that does not entitle landlords to apply increases so high as to force out tenants when they do not have any other legal avenue to do so, thereby flouting the provisions on unlawful evictions. One should not use one statutory provision to do “indirectly, that which they can not do directly”.[14] Applying the Wastech obligation would, moreover, further the purpose of the statute. The courts have consistently said that the purpose of the RTA (and its predecessors) is to provide protection to tenants, and many of its other provisions are subject to good faith obligations.[15]

These are the types of arguments one might expect in analyzing whether a statutory contract term conferring a discretion has been exercised in good faith.

Should the Duties of Honest Contractual Performance and of Good Faith Exercise of Contractual Discretion Apply to Statutory Contract Terms?

The previous analysis suggests that unless a statute completely ousts the operation of general common law contract principles, the duties of honest contractual performance and the duty to exercise discretion in good faith can apply to statutory contract terms. But one more general question remains. Is it appropriate to use general contract doctrines to circumscribe the exercise of rights provided by the legislator through statute?

One might argue that if the legislator hasn’t sought to limit a discretion it imports into a contract, how can the common law be used to do so? Does this not defy the intentions of legislator, which could have chosen to limit the discretion if it wanted to? On the other hand, one could also say that the issue does not arise in the abstract. It should be answered by focusing on whether the legislator chose to fully displace the operation of general contract law doctrines, and in thinking through the purposes of the statute. For example, given that the purpose of the ESA is provide minimum terms to employees who could not achieve them on their own, and that the statute does not for the most part displace the application of general contractual doctrines to non-unionized employment contracts, it would seem to further the statute’s purpose to apply the Bhasin and Wastech duties.[16]

Conclusion

Whether statutory terms read into contracts are subject to the contractual duty of honest performance and to exercise of discretion in good faith has, to my knowledge, only once received judicial treatment so far.[17] But it is surely on the judicial horizon.

I’ve suggested here that the way to answer this question by analyzing the degree to which the statutory regime in question ousts the application of the general law of contract from application to the contracts under study. When the issue is the application of the Wastech duty, the analysis should consider the purpose of the provision, in the context of the purpose of the statute. As to the broader question of whether we should be using contractual doctrines to fetter discretion provided by statute, my own view is that it should not be considered in the abstract, but rather by reference again to the purpose of the statute. In some instances, applying these two doctrines will further the purposes of the Act and in some cases it will not, and that should be how we determine when it is appropriate to circumscribe statutory contract terms through the common law doctrines of honest contractual performance and good faith exercise of discretion.

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*Associate Professor, University of Windsor Faculty of Law.

[1] Bhasin v. Hrynew, 2014 SCC 71

[2] Martel Buildings Ltd v Canada [2000] 2 SCR 860 at para 62.

[3]Bhasin, supra note 1; C.M. Callow Inc. v. Zollinger, 2020 SCC 45.

[4] Wastech Services Ltd. v. Greater Vancouver Sewerage and Drainage District, 2021 SCC 7 at para 4.

[5] Bhasin supra note 1 at para 74; Wastech ibid at para 94.

[6] RTA ibid; Employment Standards Act, 2000, S.O. 2000, c. 41

[7] RTA supra note 6 at s.3(1), ESA ibid at 5(1)

[8] ESA section 5(2).

[9] Jack Fleming, Residential Tenancies in Ontario, 4^th Edition (Lexis Nexis, 2022) at 310-321. The RTA does not operate to provide minimum terms above which the parties can contract. For that reason, it has been held that a party cannot agree to forego a right they hold under the statute because they would effectively be contracting out of the Act. This applies to landlords and tenants. See, for example, 1086891 Ontario Inc v Barber, [2007] OJ No 2046, 2007 CanLII 18734.

[10] Bhasin, supra note 1 at para 73; Callow supra note 3 at para 89.

[11] Wastech, supra note 4 at para 63.

[12] RTA supra note 6, section 6.1.

[13] Dilshad Burman, “What you need to know about rent control in Ontario”, City News, August 24, 2023 https://toronto.citynews.ca/2023/08/24/what-you-need-to-know-about-rent-ontrol-in-ontario/.

[14] Central Saanich (District) v Amaryllis Enterprises Inc, [1991] BCJ No 3461, 86 DLR (4th) 310, 7 MPLR (2d) 264, 30 ACWS (3d) 753 at para. 18.

[15] RTA ibid at section 4; 202. See also MacDonald v Richard, [2008] OJ No 6076, 2008 CarswellOnt 638, 164 ACWS (3d) 516 at para 2

[16] Andrew Beyers Carpentry Inc , [2010] OESAD No 309 at para 25.

[17] Pinto v. Regan and White v. Regan, 2021 ONSC 5502 at para 39.