3 The Undoing of Performance: Refinements Purchased

The BGB contains some specific conditiones which are meant to complement the general clause in § 812 para. 1 sent. 1 BGB. We will begin with the one which the Bundesgerichtshof applied in the above case.

Under § 812 para. 1 sent. 2 2nd alt. BGB, performance can be claimed back ‘if the result does not occur which the performance had been aimed at to produce according to the content of the legal transaction’. This is the condictio causa data causa non secuta, which is also called condictio ob causam datorum, or condictio ob rem, a legacy from Roman law which was designed for Roman law contracts which do not exist in German law. To be precise, the contracts for which this condictio was designed had reportedly ceased to exist at the times of Justinian, and this condictio found its way into the codex iuris civilis for the purposes of tradition rather than practical need.¹ It was maintained in § 812 para. 1 sent. 2 BGB more than a millenium later on similar grounds, because the draftsmen were uncertain about whether there would be a need for this condictio.

Today, this condictio has a narrow field of application. It relates to situations where the claimant has provided performance to the defendant not in exchange for counter-performance of another obligation, but for another purpose, and where both parties have agreed that this purpose was the reason for the performance. From an English perspective, it could be said that this condictio concerns failure of consideration outside contracts. Even under German law with its wide notion of contracts, including in particular gratuitous contracts,² failure of consideration outside contracts can arise, in particular in situations where the expected event consists in an act of the defendant which cannot be made the subject of a valid contractual obligation. In one such case, a farmer transferred his farm and all his other assets to his estranged wife in order to encourage her to return to him; when she did not return, the farmer was allowed to rely on § 812 para. 1 sent. 2 BGB.³

As mentioned above, the same condictio was also employed by the court in case no. 11, involving a cashier who had embezzled large amounts of money, and whose husband (the claimant) had signed a recognition of debt according to which he owed the defendant (the victim) some DM 175,000 (approx. €87,500), submitted to immediate execution, and created a mortgage over this amount on his property.⁴ The Bundesgerichtshof reiterated that, in order for § 812 para. 1 sent. 2 to apply, there must be an agreement between the parties as regards the purpose, and that in this case the defendant had required securities for a specified purpose which had not been fulfilled, with the effect that the defendant could not enforce the recognition of debt. This appears to be a classical application of the condictio causa data causa non secuta, but the same result is achieved by the general Leistungskondiktion in conjunction with § 812 para. 2 BGB.⁵ The husband’s promise was an abstract recognition of debt, which was open to an enrichment claim for want of a legal ground from the moment the wife was reported to the police.

Some academics have also taken the view that the condictio causa data causa non secuta, rather than the general Leistungskondiktion, should apply in cases where the parties have performed in anticipation of a contract which is never concluded,⁶ perhaps because one or both parties have changed their minds. A party may likewise have performed under a contract which it knows to be void for lack of form, expecting this lack to be healed by complete performance.⁷ This could concern, in particular, contracts for the sale of land where parties have indicated a lower sales price in the notarized contract in order to save on stamp duty and notary costs.⁸ If the buyer is unwise enough to pay in advance, and the seller then refuses to transfer the title, the seller could under § 814 BGB rely on the fact that the buyer was fully aware of the lack of an existing obligation and thus defeat the buyer’s enrichment claim. In practice, this is unlikely to happen, because the notary is bound to ensure that payment and title change hands at the same time.

Some see the condictio causa data causa no secuta as a way of circumventing § 814. Section 815 BGB provides a separate defence for cases of failure of purpose. This defence is based on a particular lack of mistake, namely the knowledge that the purpose could not be achieved.⁹ Section 815 is therefore no bar to recovery if a person performs in anticipation of a contract which is never concluded.

This view, however, makes sense only if § 815 is understood as the more specific provision, with the effect that § 814 does not apply to any case within the ambit of § 815. However, if § 815 BGB does indeed take precedence as the more specific regulation, there appears to be no reason why it should not serve the same function for the general Leistungskondiktion. Moreover, the courts have adopted the view that, regardless of whether the restitutionary claim figures under Leistungskondiktion  ¹⁰ or under condictio causa data causa non secuta,¹¹ the defence of § 814 BGB does not apply if both parties were aware that the contract on which they were performing was void for lack of form, provided that they expected the form requirement to be ‘healed’ by full performance. The same defences are therefore available, regardless of whether a claim falls under the general Leistungskondiktion or under the condictio causa data causa non secuta.

This leads to a more general point. It seems that whenever condictio causa data causa non secuta raises its head, it causes more problems than it solves. After a flirtatious period, the Bundesgerichtshof gave up employing this condictio for resolving marital property disputes in divorce in cases where spouses had agreed to keep their property completely separate, but had nevertheless used mixed funds to acquire property which rested only in one of the spouses.¹² In these and in other situations the courts discovered that the doctrine of frustration of contract (Wegfall der Geschäftsgrundlage), which now is enshrined in § 313 BGB, offered a far more flexible solution than the ‘all or nothing’ approach of the condictio causa data causa non secuta, and that there is little if any difference between this and frustration of the purpose of a contract (Zweckvereitelung).

Nevertheless, 2008 saw another U-turn by the Bundesgerichtshof in a case in which unmarried partners had pooled their savings for building a family home registered in the name of only one of them (case no. 17, a ‘non-marital property’ dispute).¹³ The Bundesgerichtshof allowed an appeal by the disappointed partner who had invested his life savings and some 1,000 hours of work and instructed the Oberlandesgericht Jena to examine more closely whether this investment had been made with the communicated and accepted purpose (Zweckabrede) of obtaining a lifelong right to live in the home. At the same time, however, the Bundesgerichtshof instructed the Oberlandesgericht to also consider restitution claims following frustration of contract under § 313 BGB, Wegfall der Geschäftsgrundlage. The Bundesgerichtshof remained silent on the issue of which of those claims should take precedence.

This illustrates a general problem for any possible remaining applications of the condictio causa data causa non secuta. This appendix amongst the condictiones distorts the harmony between contract and unjustified enrichment by allowing a person to claim back what was performed under a valid obligation. It is incapable of being reconciled with the first function of the notion of ‘legal ground’ in unjust(ified) enrichment.¹⁴ The nearly 1,500 years which have passed since it was included in Justinian’s code because the drafters were unsure if it still might have a use and the more than one hundred years which have elapsed since it was incorporated in the German Civil Code for the same reason, should surely have allowed sufficient time for an evaluation to conclude that there was, after all, simply no necessity for this condictio alongside the general unjustified enrichment clause in § 812 para. 1 BGB. As a minimum, the causa data causa non secuta should no longer be allowed for a claim in unjustified enrichment where the enrichment is supported by a valid legal ground.

The condictio ob causam finitam, expressed in § 812 para. 1 sent. 2 1st alt. BGB, allows recovery of performance in situations where there was a legal ground when performance was made, but where this cause later lapsed. A paradigmatic example are payments for lost or stolen objects under insurance contracts, where the insurance company can reclaim their payment under this condictio if the lost or stolen object is later found and returned to its owner.¹⁵ There are similar common law cases of insured cargo which was mistakenly believed to be lost or damaged.¹⁶ In Napier and Ettrick v Hunter, an equitable lien was granted in favour of the insurer over monies received by an insured after indemnification.¹⁷ Similarly, case no. 14 concerns maintenance payments made under an interim court regulation, which later turned out to amount to an overpayment.¹⁸

The condictio ob causam finitam is straightforward and largely unproblematic. Within the German law of unjustified enrichment, it serves as an explanatory rule to the general Leistungskondiktion: hindsight will determine whether there was a legal ground for performance.

Section 813 para. 1 BGB allows a person to recover for performance made under an obligation which existed in principle, but which was barred by a permanent defence. Such a permanent defence can arise, inter alia, under unjustified enrichment rules. As explained above, § 821 BGB provides a defence against a claim under an abstract recognition of debt which lacked a supporting causa.¹⁹ In tort law, § 853 BGB can provide a similar defence, for example if the claimant has performed an obligation which the defendant had fraudulently obtained by way of assignment. The majority of the case law, however, concerns cases where the defence was not permanent so that no claim could lie under § 813 para. 1. It seems that there is little application of this rule.

As mentioned, one of the main functions of performance-based unjustified enrichment is to find a satisfactory solution for tri- or multipartite enrichment situations such as in the example of the glazier, his apprentice, the tenant, and his landlord.²⁰ This does indeed work rather well provided that all parties are aware of who is performing within which contractual relationship. Performance-based unjustified enrichment becomes more problematic, though, if the parties concerned have differing views about who has performed towards whom, or whether the enrichment was actually based on performance. In consequence, performance-based restitution between three or more parties has become one of the most controversial areas of the German laws of obligation. Interestingly, the controversy is not so much about how leading cases should have been decided, but focused more on the reasoning behind these decisions.

Restitution of performance between three or more parties bears some resemblance to what Goff and Jones refer to as a benefit which the defendant has acquired from a third party for which he must account to the claimant, as well as with what Burrows calls ‘benefits conferred by third parties’ and shows some overlap with what Birks termed ‘interceptive subtraction’.²¹ On a comparative note, French law, with its action directe en paiement, uses a contractual approach to deal with similar problems.²²

In German law, courts with the support of the majority of academics use the following concept as a framework:

Disenriched party perspective rule. The first rule is that if there was a shift of wealth and one of the parties believed this to be performance while another did not, it is the view of the disenriched party that will decide whether this is a case of performance. We will call this the ‘disenriched party perspective rule’.

Case no. 5 serves as an illustration.²³ A thief steals two young bulls belonging to the claimant and sells them to the bona fide defendant, who converts them into meat and sausages. As the defendant could not acquire bona fide title in the stolen bulls (§ 935 BGB), he acquired property only when the bulls were converted into food (§ 950 BGB, based on the Roman law specificatio).²⁴ From the defendant’s view, it could be argued that he acquired this enrichment under his contract with the thief (although the thief was not actually in a position to perform). But the claimant as the person who lost the property did not perform, therefore this is a case of enrichment in another way. It should be noted, however, that in this case, the Bundesgerichtshof failed to mention either Leistungskondiktion or subsidiarity of enrichment in another way.

Recipient perspective rule. The second rule is that if there has been performance, it is the view of the enriched party that decides which of the various parties performed.²⁵ Therefore, if goods are sold in a chain of contracts, and the producer, on the instruction of the distributor, delivers directly to the ultimate buyer, that party is not answerable to an unjustified enrichment claim from the producer because, from the buyer’s perspective, this was performance by the distributor. We will call this the ‘recipient perspective rule’.

For both rules, it is not the subjective beliefs of the parties concerned which matter, but rather the view which an objective person would take from the perspective of that party, and in particular based on the information available to that party.

The result is that a Leistungskondiktion is available to a claimant who was disenriched without legal ground through what, from the perspective of that party, objectively looked like the claimant’s performance, against a defendant from whose perspective the enrichment objectively looked like having been provided by the claimant.

Subsidiarity of enrichment in another way. Furthermore, if the enrichment occurred as a result of a performance, no restitution is allowed between the other parties under the enrichment in another-way option of § 812 para. 1 sent. 1 BGB (this is the so-called subsidiarity of ‘enrichment in another way’).

The case in which the Bundesgerichtshof embraced the performance/non-performance taxonomy (case no. 4) serves as a further illustration.²⁶ The claimant delivered electrical appliances which were installed in buildings owned by the defendant. The claimant allegedly believed he was acting under a contract with the defendant. In fact, however, there was no such contract. Rather, the defendant had instructed a third party, who had subcontracted to the claimant. It was the claimant’s perspective that decided that there was performance in this case, and the defendant’s perspective which decided that this was performance by the third party which employed the claimant as a subcontractor. The claim was disallowed.

Rule against leapfrogging. This is the general rule which can be taken from this and similar cases involving chains of performance: if any of the contracts within the chain of performance is imperfect, restitution must occur between adjoining parties in the chain, and no leapfrog restitution is allowed between a supplier and a remote recipient.²⁷

The reasons for this restriction are as much economic as they are legal. Canaris has formulated these reasons into the following three principles:²⁸

Interestingly, though, Canaris is a leading critique of employing the concept of Leistung for finding the right claimant and the right defendant in cases involving three or more parties.³⁰ But if it was said before that the concept of performance serves as a compass for this task, it may be suggested that these three principles provide the map; and compass and map are usually complementary rather than irreconcilable methods for finding the correct course. In our case, Canaris has explained the policy which is served by adopting the two above-mentioned rules, the ‘disenriched party perspective rule’ for deciding whether a case falls under performance-based unjustified enrichment, and the ‘recipient perspective rule’ for deciding who is the right claimant.

Bank cases. The most difficult category of multipartite relationships are arguably those between two account holders and their respective banks when an error has occurred with a payment made from the account of one to the account of the other. Having said this, there is one category of cases which is so straightforward that they are not even perceived as multipartite cases: if both banks have correctly made the transfer and the problem is simply that the receiving account holder was not entitled to the payment made by the other account holder, this is treated as a case involving two parties. The fact that wealth is shifted to the final recipient by the receipient’s bank, and to the recipient’s bank by the sender’s bank is entirely ignored for the purposes of unjustified enrichment in this situation. The banks have done no more than move the funds between the two parties concerned.

However, matters become more complicated if one of the two banks, usually the sender’s bank, does not comply with the sender’s instructions. This will turn the situation into a tripartite case—again, the recipient’s bank is ignored for the purposes of unjustified enrichment unless an error has also occurred on the recipient’s side.

Cases such as these have troubled English and German courts alike. The detailed comparative study by Solomon identified several serious difficulties which these cases present for an unjust factor-based approach in which claimants have to rely on mistake.³¹ These cases show that the previous notion of ‘liability mistake’ will not work, in particular because banks are usually not liable to the recipients.³² However, the competing notion of a ‘simple mistake’ is entirely unhelpful for separating the deserving from the undeserving cases, and for identifying the right claimant and the right defendant.³³ This task was increasingly left to the defence that the payment was received for ‘good consideration’, which therefore in this area of English law is used for functions which are similar to those of ‘with legal ground’ in the German law of unjustified enrichment.³⁴

Has the performance-based approach been more successful in sorting out tri- or multipartite cases involving banks which have failed to comply with their instructions? Case no. 8 provides an example. A tenant (a brewery) had cancelled a standing order after a quarrel with its landlord (the defendant) over deficiencies which allegedly prevented the premises from being used by the brewery as a pub, and had announced to the defendant that they were no longer willing to pay the rent.³⁵ The bank (the claimant in the action) overlooked the cancellation and paid for another thirteen months. For some reason the tenant failed to notice the continued payments. Eventually the bank sued the defendant for return of the payments. This was clearly a case of performance, but was it the bank or the brewery who had performed? Under the ‘recipient perspective rule’, this was considered as performance between the tenant and the defendant. The landlord had every right to believe that the tenant had stopped short of realizing his threat. Thus, the landlord was exposed only to a claim by the tenant, which left the landlord with an opportunity to rely on the fact that there was a tenancy contract, which could thus provide the legal ground for the payment. To be on the safe side, however, the Bundesgerichtshof held that each case was to be decided on its own merits, and that the general concept was a guideline and not binding. The factual situation of this case resembles Barclays Bank Ltd v W J Simms Son & Cooke (Southern) Ltd, where, in that instance, the bank was allowed to recover from the recipient.³⁶

There is, however, another case in which the Bundesgerichtshof allowed a bank to recover from the recipient of a mistaken payment.³⁷ As in the previous case, the bank had also ignored a cancellation (this time, of a cheque). It was, however, disputed between the parties whether the recipient was aware that the cheque had been cancelled. It is noteworthy that the bank was allowed to recover directly from the recipient on the assumption (made for the purpose of the appeal) that the recipient knew of the cancellation, even though the bank believed it was performing its banking contract towards its account holder, not towards the recipient. The result is different, but that does not necessarily indicate an exception to the ‘recipient perspective rule’. This was a case of performance towards the recipient, and the only question was whether this was performance by the bank or by the account holder. As this is generally to be determined from the recipient’s perspective, the bank should be the right claimant. If the recipient knew that the bank was mistaken, he also knew that the bank shifted its own and not the account holder’s wealth onto him. It is true that this deprives the recipient from raising defences against the bank which might arise from his relationship with the account holder, but a recipient who knows that this is a mistaken payment under a cancelled cheque does not seem particularly worthy of such protection. On the other hand, it was certainly not helpful that the Bundesgerichtshof refused to state whether restitution should be allowed under the Leistungskondiktion or for enrichment in another way.³⁸

Shifting cases out of performance-based unjustified enrichment. The Bundesgerichtshof has since resolved this question against the Leistungskondiktion and in favour of allowing restitution for enrichment in another way in cases where an instruction to the party who effectuates payment (in our last two cases, the bank) is lacking. In a relatively recent case (case no. 16), a credit broker had made a name for himself by arranging short-term credit deals directly between local authorities. The idea behind this scheme was that by cutting out the banks as middlemen, the broker could offer to local authorities seeking to invest their money returns above market rates, while offering loans with interest rates below market rates to those authorities which were in need of credit.³⁹ However, the broker diverted several millions Deutschmarks to his own account and covered up the fraud by using new investments to repay old ones.

In one such instance, the credit broker first told the defendant, a county council (Landkreis), that the council would provide a loan worth more than DM 3.5 million (€1.75 million) to the city of P, a loan which in fact P had no intention of taking out. The defendant paid the sum to an account held by the credit broker, who used the money for himself. When repayment was due a few months later, the credit broker told a similar story to the claimant, a local authority, and instructed the claimant to make their payment for this fictitious loan to the account of the defendant, indicating as the reason for the transfer ‘Redemption City of P’. On this information, the claimant transferred more than DM 3.5 million to the defendant’s bank account. The Bundesgerichtshof allowed the claimant to recover this sum from the defendant not under the Leistungskondiktion, but under enrichment in another way.

On a performance analysis, the claimant thought it was performing a credit agreement with the city of P, which would later return the sum with interest. The defendant also believed he had a credit agreement with the city of P, and that they were receiving their due repayment from P.

The ‘disenriched party perspective rule’ will tell us that this is a case of performance (it is, also, from the defendant’s perspective). The ‘recipient perspective rule’ will furthermore tell us that from the defendant’s perspective, this was performance under their credit agreement with the city of P. The main problem, which also distinguishes this from previous cases, is that both of the agreements under which the parties thought they were performing existed only in their imagination. The ‘recipient perspective rule’, which protects a party against being sued by the wrong party in tri- or multipartite performance situations, is justified where contracts are valid, void, voidable, or terminated, because it allows the recipient to rely on a valid defence which arises out of this valid, void, or failed relationship. However, preference of the recipient is difficult to justify if the entire situation which could or could not provide a legal ground for keeping the enrichment is purely fictitious, because a fictitious legal relationship cannot give rise to a valid defence. The defendant city council deserves no more protection in their reliance on a fictitious agreement than the claimant in their reliance on a similar fictitious agreement.

The outcome of the case, namely that the claimant was allowed to recover from the defendant, could be justified under the rule against shifting insolvency risks. Both parties had generally accepted the fictitious risk of the city of P becoming insolvent. The claimant might have taken on an additional risk by paying not to the city of P, but to the defendant, relying on the credit broker’s information that this was done under the instruction of P. However, while the claimant may have assumed a risk that the payment could go to the wrong person, the only additional insolvency risk they could thereby have assumed is that the defendant might not have the money to repay them. The defendant, on the other hand, had allowed their payment to go to the credit broker’s bank account, so they could be viewed as having accepted the risk that the credit broker would not pass the money on to the city of P and could become insolvent. Therefore the defendant might be considered as having accepted the risks associated with paying money to a fraudster and the unlikely possibility of being able to recover from this person, whereas this could not be said about the claimant.

However, by moving the case out of performance, the Bundesgerichthof has, it is submitted, thrown the proverbial baby out with the bathwater. This was clearly performance by the claimant—an intentional shift of assets, with a particular obligation in mind. If performance-based unjustified enrichment cannot handle clear cases of performance, what is it good for? All that is needed, it is suggested, is a refinement of the ‘recipient perspective’ rule, namely that this operates for void, imperfect, or otherwise failed obligations, but not for purely imaginary ones.

Purpose of performance and contractual capacity. While this decision has weakened a performance-based analysis by moving a problematic case out of performance, another judgment by the Bundesgerichtshof (case no. 13) has weakened a performance-based analysis from within.⁴⁰ This case involved a claimant who had lost the mental faculties required for legal capacity under German law, with the effect that both his credit agreement with the bank and his instruction that part of the credit should be paid directly to a third party were void (§§ 104, 105 BGB).⁴¹ This lack of capacity became apparent at a later date, and a guardian was appointed who sought to recover the balance of the claimant’s bank account. The bank declared set-off with a claim in unjustified enrichment for the amount which the bank had paid to the third party. The Bundesgerichtshof held that the bank had no such claim.

The normal analysis would have been that, between claimant and third party, this is performance by the claimant towards the third party and, at the same time, between bank and claimant, a case of performance of the bank towards the claimant. If unjustified enrichment claims are to be kept within failed contractual relationships, the bank should thus have been allowed to recover from the claimant, and the claimant to recover from the third party. However, the Bundesgerichtshof argued that legal capacity is required for a party to associate a performance with a particular purpose (Zweckbestimmung), as this association is similar to a legal transaction (rechtsgeschäftliche Natur).

With respect, the argument that contract rules should apply by analogy to the question whether a particular purpose has validly been attached to a performance can defeat the entire notion of performance-based restitution. If a contract is, for example, voidable on the ground of duress (§ 123 BGB), the claimant will almost certainly also have been pressurized into performing for this particular purpose. So this claimant’s Zweckbestimmung is equally affected by duress and should, by the same logic, also be invalid. The absurd result would be that such a claimant cannot recover this performance under the Leistungskondiktion.

This argument comes as close to circularity as that of the House of Lords in Sinclair v Brougham when the House held that if a bank contract was void on the ground of ultra vires (because building societies were not at that time permitted to act as banks), no claim for restitution could lie for customers seeking to recover their deposits because any fictitious promise to repay would have been equally void on the ground of ultra vires.⁴² However, the judgment of the Bundesgerichtshof is correct as a matter of legal policy. Protection of those who lack judgement is a cause which can be more deserving than the protection of those economic interests in tripartite restitution situations which the ‘recipient perspective rule’ aims to protect. The case of incapacity should simply form a second exception to the ‘recipient perspective rule’.

We have seen above (Chapter 1, section 4.1) that restitution of performance after a contract has been terminated is not governed by unjustified enrichment rules under German law. The BGB contains in §§ 346–359 BGB (and thus at quite a distance from unjustified enrichment in §§ 812–822 BGB) specific contract law rules which define the mutual restitutionary claims which may arise after termination.⁴³ English law, in contrast, sees this as a case of unjust enrichment in which restitution may be required for failure of consideration. Another conceptual difference is that, according to the modern German view, the contract survives termination.⁴⁴ Rather than rendering a contract void ex post, termination will create a different set of contractual obligations.

This different construction has a number of consequences when compared with the unjust enrichment approach taken by English law, namely:

An additional difference to English law, unrelated to the construction of these restitution claims as contractual, is that, with only one exception,⁴⁵ restitutionary liability and its extent do not depend on whether the claimant or the defendant was in breach of contract.

Sections 346–359 BGB have been reformulated and amended by the Act to Modernise the Law of Obligations, which entered into force on 1 January 2002. They now apply regardless of whether the contract was terminated in exercise of an express contractual right, or of a statutory right (normally: for breach of contract).⁴⁶

Under the basic rule in § 346 para. 1, parties must return what they have received in performance of the terminated contract, and also ‘benefits derived from such performance’ (see below, section 3.3). As is usual in German law (see also below, Chapter 6, section 1), this claim aims at restitution in kind rather than restitution of value. Therefore any performance which is capable of being returned must be given back, including in particular goods and real property.

There is some disagreement concerning the place of performance for this obligation under § 346 para. 1, but it appears that if termination occurred as a remedy for breach of contract, the place where the object (for example, goods) is to be returned is the place where the object is situated according to the contract.⁴⁷ This will normally imply that the cost of returning defective goods will fall on the seller, unless provided otherwise by the contract, which can also define a place of performance for obligations after termination.

Section 346 para. 2 BGB provides exceptions to the general rule that restitution must be made in kind. It also replaces restitution in kind by restitution for value (i.e. payment of a sum of money) for three situations in which restitution in kind is impossible.

First (§ 346 para. 2 no. 1), there are performances which are generally incapable of being returned, as is the case for most services, but also for construction contracts. If a builder agrees to renovate A’s bathroom and removes the old tiles and then no longer arrives for work, there is nothing A can do after termination of the contract to return the work to the builder. If the builder has laid the new tiles but not got as far as installing, or even ordering, the new shower and mirror, A could of course rip out the new tiles and return the fragments to the builder. But while this would have the effect of undoing this part of the work, it would still not return the builder’s performance.⁴⁸

Secondly (§ 346 para. 2 no. 2), the recipient may have ‘consumed, transferred, encumbered, processed, or transformed’ an object received under the contract, with the effect that the recipient cannot provide restitution in kind. This will frequently happen, for example, with food, goods in a supply chain, or building materials.

Thirdly (§ 346 para. 2 no. 3), an object received under the contract may have deteriorated or been destroyed. Although the recipient could, in principle, return any rubble or debris that might be left, restitution in kind is excluded in this situation and replaced by restitution of value.

Section 346 para. 2 sent. 2 BGB provides: ‘If the contract specifies a counter-performance, such counter-performance is to be taken as a basis for calculation of the compensation for value.’ Effectively, this means that any contractually stipulated price remains effective and will be used for determining the value of any goods or services provided under the (now terminated) contract. The new version is wider than its predecessor in the old § 346 sent. 2 BGB. First, the new version applies to all contractual performances, rather than being limited to calculating the value of a service or the use of an object. Secondly, the new provision no longer relates to contractual price agreements but extends to all types of ‘counter-performance’ (Gegenleistung), so that it would also apply to barter, where it could lead to unexpected results. If, as in the fairytale of the Brothers Grimm, Hans im Glück (Hans in Luck), Hans trades a head-sized lump of gold for a horse and then (unlike in the fairytale) terminates the contract on account of the horse being defective, he can require the horseman to give back the lump of gold. If, however, the horseman has lost, given away, or sold the lump of gold, the value which the horseman must provide to Hans in exchange for the returned horse is not the value of the lump of gold, but the value of the horse as owed under the contract—i.e. the value of a horse which is free from defects.

The German provision thus escapes a criticism which has occasionally been levelled against English law, namely that it allows a party to escape a bad bargain. This is illustrated by the well-known US case of Boomer v Muir, where the claimants were awarded an additional payment of nearly $258,000 for work involved in building a dam, even on the assumption that they had already been paid all but $20,000 of what they were owed under the contract.⁴⁹

The two examples show that allowing a party to escape a bad bargain can be just as problematic as preventing it by keeping the contractual balance of values. However, some justification can be found for the German approach. If all benefits conferred under the contract can be returned (lump of gold against horse), the same situation exists as would have existed without the contract; this is the very purpose of termination of contract. However, if benefits cannot be returned due to their nature or because they are no longer in the hands of the recipient, the contract, although terminated, has irreversibly changed the parties’ positions. Therefore, if the contract has this irreversible effect, it could at least serve to determine all the reversal that can be made, i.e. in money. The fact that in Boomer v Muir the defendant failed to pay in time for work provided by the claimant does not alter the fact that the parties have agreed on what the work is worth. The price agreement is not normally affected by the deficiency which leads to the termination of contract. Relying on the price agreement can also avoid lengthy arguments about the value of services provided, or about other benefits.

It may come as a surprise to readers trained in the common law that § 346 paras 2 and 3 BGB provide for a number of situations in which the recipient is not required to return anything, but is nevertheless entitled to claim back his or her performance, normally the payment of the contractually stipulated price.⁵⁰ The original version of § 350 BGB made it possible for a recipient in whose hands an object (usually goods) received under the contract had accidentally been damaged or perished to proceed with termination and claim back his or her own performance (usually the purchase price) without having to compensate for the value of the received object. This provision was controversial as a matter of legal policy, in particular on the ground that it was not easily reconciled with the rule in sales law that the risk passes to the buyer on the transfer of possession (§ 446 BGB). When the provisions on termination were reformed as part of the Act to Modernise the Law of Obligations, the legislators reacted to this criticism not by reducing, but rather by extending, the situations in which a recipient is not liable for returning anything and may yet claim back for his or her own performance. Taken together, these cover the following five situations:

A case decided by the Oberlandesgericht Hamm involved a car which, at the time it was handed over to the claimant, had a defective timing belt cover.⁵³ After a period of time this defect resulted in serious damage to the engine. The defendant, a car dealer, argued that the buyer was to blame for the deterioration. The buyer had failed to take the car for its regular service, at which time the defect would have been picked up. The court held that the buyer was under no obligation towards the seller to have his car regularly serviced in accordance with the recommendations of the manufacturer, and that he had not been in breach of the standard of care which he usually took in the conduct of his own affairs. Under § 346 para. 3 no. 3, the buyer was thus allowed to recover the purchase price against return of the car, without having to compensate for the value of the defective engine.

The same provision was recently tested again in another interesting case involving the sale of a new motorcycle in 2003.⁵⁴ In 2005, in a rear-end collision, the buyer was injured and the front of the motorcycle damaged. The buyer could show that the motorcycle, although unused at the time of sale, had been manufactured in 1999 and imported to Europe in 2001. This defect allowed him to terminate the contract and reclaim the purchase price. With regard to the seller’s counterclaim, the buyer relied on § 326 para. 3 no. 3. His lawyer argued that the fact that he had been injured in the accident showed that he had applied exactly the same standard of care to the motorcycle which he had applied to himself. While the logic of this argument was impeccable, it was nevertheless rejected by the Oberlandesgericht Karlsruhe. The court held that the dangers of road traffic did not make any allowance for individual carelessness or personal character traits.

With respect, this would be an effective answer if the buyer had raised the same defence against the car owner’s claim for damages caused by the motorcyclist. However, the seller was not involved as a road user. Therefore the question whether the motorcyclist had to compensate the seller for the damage to the motorbike had nothing to do with public reliance on an objective standard of care by road users. Rather, this concerned the standard of care owed in a contractual relationship under § 346 para. 3 no. 3. The case therefore shows that some courts may share the sentiments of the critics of § 346 para. 3 no. 3 by giving a restrictive interpretation to the provision. In general, diligentia quam in suis, that is the level of care which a party normally takes in the conduct of his or her own affairs, is problematic as a yardstick for a party’s conduct, because that party can tweak this measure to its own advantage by pleading his or her own carelessness.

Section 346 para. 3 sent. 2 BGB contains a little corner of autonomous unjustified enrichment within termination of contract. The provision simply states: ‘Any remaining enrichment must be given up.’ This provision is meant to refer directly to the consequences of a claim in unjustified enrichment under § 818 BGB without having to go through the requirements of § 812.

Section 346 para. 3 sent. 2 applies in all cases where a party is relieved from providing restitution of value under para. 3, that is to situations (2) to (5) above.⁵⁵ The provision has no direct predecessor in the pre-reform BGB, and it appears that it has not yet been tested in the courts. It should operate in situations (2) to (5) if the loss was insured, as in the case of the buyer having taken out insurance against the accidental destruction of goods.

This looks much like a case of substitution. However, the normal provisions on substitution do not operate in the context of § 346 para. 3 BGB. The general provision of § 285, whereby a claimant ‘may demand surrender of what has been received as substitute or an assignment of the substitute claim’ (see above, Chapter 1, section 4.5) applies only in cases of impossibility under § 275 paras 1 to 3 BGB. And the specific provision on substitution within unjustified enrichment (§ 818 para. 1 BGB, see below, Chapter 6, section 2.2) would not apply to termination of contract because this is not perceived as a case of unjustified enrichment in German law.

For this reason, § 346 para. 3 sent. 2 contains a separate catch-all provision which reverts to the other party any remaining enrichment in the hands of a party who, after termination of contract has occurred, is relieved from providing restitution for value. It is not limited to situations of substitution, but there is no other obvious example of a remaining enrichment in this situation.

As a matter of legal policy, it is doubted whether this provision fits equally well to all situations covered by § 346 para. 3. It may make sense that the seller of a house which is infested with dry rot can profit from the buyer’s house insurance against lightning in situation (2) above. But why in situation (3) should the seller of a car with a serious safety defect benefit from a comprehensive car insurance policy taken out by the buyer? If the policy rationale is that the buyer should not be allowed to collect the insurance payment in addition to the restitution claim for the purchase price under § 346 BGB, then the car insurer would certainly be a more worthy recipient of what otherwise would be a windfall for the buyer.

Section 346 para. 1 BGB extends the obligation to return any performance made under the terminated contract to ‘benefits derived from such performance’. Such benefits are called Nutzungen and defined in § 100 BGB. They include the fruits of an object or a right, and also the advantage of using such an object or a right, for example the advantage of having lived in a house. This rule would cover, for example, the hire-charge which the defendants were forced to pay in the English case of Strand Electric and Engineering Co Ltd v Brisford Entertainments Ltd.⁵⁶ The existing German judgments largely pre-date the 2002 reform, but remain relevant as the same surrender of Nutzungen was previously owed under § 347 BGB.

If these benefits are capable of being surrendered in kind (for example, harvested fruits), then the recipient is obliged to do so. If the benefits consist of money, then the recipient is obliged to pay the sum which represents the benefit.⁵⁷

If the terminated contract was for the sale of a business, this implies that the buyer of the business is liable for an account of profits. In one case, the claimant had sold a petrol station to the defendant company. Shortly thereafter the defendant became insolvent, with the bulk of the purchase price remaining unpaid. The seller terminated the contract, reclaimed the petrol station, and was also awarded a full account of profits. However, the Bundesgerichtshof affirmed that this would exclude any profits which were due to the particular skills of the new owner—which, however, were obviously lacking in this case.⁵⁸

In practice, the majority of cases concern benefits which cannot be returned in kind, normally the use of goods. In this instance, the recipient must pay a sum which represents the value of having had the use of those goods. Most court decisions concern the use of vehicles, where the use of a new car is generally taxed at 0.67 per cent of its value per 1,000 km driven (assuming the life of a car to be 150,000 km).⁵⁹

Calculating the value of the use as representing the fraction of the expected normal life of the object which the recipient has used, is not limited to vehicles. In another pre-2002 case, a hotel terminated a contract under which it had bought 163 beds, after it found that they were defective. Because the seller initially refused return of the beds, they continued to be used in the hotel for a further eight months before they were finally returned. The hotel was allowed to claim back the purchase price of DM 47,116 (approx. €24,000) plus interest, but the seller was allowed to set-off with a counterclaim for use which amounted to DM 32,303, i.e. more than two-thirds of the purchase price.⁶⁰

This case also illustrates that the recipient must pay the value of the use from the time when the party received the object, rather than from the time when the contract is terminated. The new wording of the heading of § 347 BGB could cast some doubt on this rule: ‘Benefits and expenditure after termination’ (emphasis added). As, since 2002, all BGB headings are official and form part of the statute, this could be taken to exclude any obligation to compensate for use (or to recover for expenditure made) before termination became effective. Apparently, however, this was not what was intended. A recent judgment by the Bundesgerichtshof allows for a different reading, namely that the new § 347 BGB is applicable exclusively to all benefits drawn and all expenditure made after termination, but can apply next to other provisions for benefits drawn and expenditure made between receipt of the object and termination.⁶¹

If this reading of the new § 347 BGB is ultimately adopted, it would imply another change. Under the old law, an innocent party was liable only for any use which it had actually made. If, for instance, the innocent party had obtained possession of a property under the contract which it subsequently terminated, it would have had to give up any rent it had collected from letting the property to a third party (after deducting reasonable expenses), §§ 327 sent. 2 (old version), 818 para. 1 BGB. But if the innocent party made no use of the property, it would not have been charged for having failed to use this opportunity prior to the contract being terminated.

The new § 347 BGB provides: ‘If, contrary to the rules of proper management, the debtor has failed to derive benefits even though it would have been possible to do so, he must compensate the creditor for their value.’ Therefore, if the heading of § 347 BGB is indeed interpreted as suggested above, the provision applies to all benefits which the recipient should have derived from the time of receipt (rather than the time of termination). The possible harshness of this is mitigated by sent. 2, whereby a party who terminates a contract in exercise of a statutory right (namely, for breach of contract) ‘must display with regard to the benefits only the standard of care which he usually takes in his own affairs’. So, once again, the troublesome concept of diligentia quam in suis is used to relax rules on termination of contract—with the effect that in many cases, an innocent party will be able to plead that its failure to derive benefits corresponded with its own standard of care.

This different standard of care also marks the only distinction which the new § 347 BGB draws between rights of the innocent party and those of a party in breach. This marks a clear difference with English law, where the party in breach is not allowed to recover at all for such benefits in kind.⁶² Similar claims were rejected in both Sumpter v Hedges and in Bolton v Mahadeva.⁶³ Both cases concerned construction contracts which were either only partially completed (Sumpter) or where the work was deficient (Bolton). The defendants terminated the contracts, and the claimants were denied any claim for quantum meruit. Under German law, the defendants would have been liable in both cases.⁶⁴

However, the benefit must be of a kind that was bargained for. In one leading pre-2002 case (case no. 1),⁶⁵ the claimant took a lease of the defendant’s agricultural property and erected a massive building without permission from the defendant, who then terminated the lease. The claimant sued the defendant for the value of the building. The building had been erected not in performance but in violation of the lease contract, and did therefore not fall under § 346 BGB. In addition, the Bundesgerichtshof disallowed the claim under the rules of unjustified enrichment, arguing that the building was imposed on the defendant against his will, and that the building could be put to commercial use only by incurring considerable additional expense. Rather than paying for the value of the enrichment, the defendant was entitled to remove the building or, if this was unreasonable because of the costs involved, to require the claimant to remove the building. The case also illustrates that subjective devaluation can be used as a defence in termination of contract cases only if it concerns a benefit which the recipient had not bargained for.

The previous law had a special provision on interest in § 347, according to which any money received was to be paid back with interest (at the statutory rate of 4 per cent, unless provided otherwise), accrued from the date of receipt.

The provision was dropped in the 2002 reform. This does not mean that interest is no longer due. Rather, interest forms part of, and follows the same rules, as the return of other benefits, including the above-mentioned rules on liability for benefits which the recipient failed to derive under § 347 BGB. The result is that a party who has terminated a contract on account of the other party’s breach can refuse to pay interest on the ground that it did not gain any interest on the money received. The party in breach, on the other hand, will normally (and even more so in commercial situations) be expected to have gained interest under the ‘rules of proper management’ referred to in § 347 BGB. What exactly that means and which interest rate should be used has been left to the courts to decide.

A recipient who has incurred expenditure on an object received under the contract may be entitled to recover under § 347 BGB. A number of restrictions apply to such claims.

First, the right to recover expenditure is limited to three situations, namely that (1) the recipient returns the object, or (2) compensates the other party for its value, or (3) that the duty to compensate for value is excluded under § 346 para. 3, no. 1 or 2 (situations (2) to (4) above; section 3.2.B.

Secondly, the recipient is allowed to recover only for what is called ‘necessary expenditure’ or notwendige Verwendungen, a concept borrowed from the owner/possessor model, and which will be discussed below (Chapter 5, section 3.1). If the expenditure was unnecessary, the recipient may not recover for the amount of such expenditure, only for any remaining increase in value. (See above, Chapter 1, section 5 for different measures of restitution claims.)

An example of expenditure which is unnecessary can be found in a recent case decided by the Bundesgerichtshof. The buyer had fitted a new car, priced at some €27,000, with alloy wheels, a carphone, satellite navigation, and a few other extras totalling some €5,000 before discovering various defects in the vehicle, not all of which could be remedied by the seller. The buyer eventually terminated the contract and claimed for the costs of the additional extras. These were clearly unnecessary. Under § 347 BGB, the buyer was allowed to claim from the seller only the increase in the value of the car which was due to those additional extras, which would certainly have been well below €5,000. However, the Bundesgerichtshof found a way of allowing the buyer to recover on the basis of expenditure rather than of increase in value, namely under § 437 (remedies for defective goods) in conjunction with § 284 (reimbursement for wasted expenditure), the latter being a provision of the law of general obligation which allows a claimant to claim for expenditure actually incurred as an alternative to damages. The Bundesgerichtshof held that if § 347 para. 2 was meant to override those provisions, this could apply only to any expenditure incurred after termination and therefore not to the present case. Therefore the restrictions of § 347 para. 2 will ultimately prevent recovery of expenditure only if this has been incurred after termination—at least for sales contracts, which under German law include the sale of goods, real property, and rights. The same should apply to works contracts, as § 634 BGB contains a similar reference to § 284.