Novation of Contract: Everything You Need to Know
Novation of contract is what happens when a new contract is substituted for an old one. 3 min read updated on January 01, 2024
Novation of contract is what happens when a new contract is substituted for an old one. There are three types of novation of contracts, with specific circumstances called for and outlined for each one. They're known as the following:
About a Novation of Contract
Under a novation of contract, the new agreement voids the old contract. Therefore, the rights and obligations spelled out in the old agreement are extinguished. The agreement between various parties affects the nature of the individual transaction.
In another instance, the new contracting party replaces the original contracting party, so the old contracting party is excused. The original party who gets replaced also gives up all rights it holds against the other original contracting party. It's required for all three parties — the party who's transferring rights, the party whose rights are being transferred, and the counterparty — to sign a novation contract.
It may be necessary to have a novation agreement due to contractual and/or legal restrictions on the assignment of contractual obligations or rights. Mergers and acquisitions in the corporate world often involve a large number of novation of contracts.
A novation typically comes up when a new individual takes on an obligation to pay that was originally incurred by another contractual party. In the event of novation, the original debtor is completely released from the obligation, and this obligation is transferred to another party.
A novation may also occur when the original contractual parties continue their obligation to each other, but they form a new agreement in place of the old contract. This is a common method for rescheduling loans.
The Various Kinds of Novations
There are different ways to make a novation of contract, and each method is distinct.
- In the first type, there's no intervention of another party. Instead, a debtor contracts a new agreement with the creditor and is liberated from the original contract. There's no official name for this novation of contract, so in general, it's simply called a novation.
- The second type of novation of contract involves the entrance of a new debtor. This new debtor takes the place of the former debtor, and the creditor accepts this intervention. The original debtor is then discharged from the debt. The new debtor who enters the picture is called the expromissor. This type of novation of contract is called an expromissio.
- The third type of novation of contract involves a new creditor taking the place of the original creditor. The debtor is discharged by the old creditor, who orders that the new creditor contracts the debtor's obligation. This novation of contract is called a delegation.
Common law dictates that a mere agreement to substitute something in lieu of the original contract isn't legally binding. The agreement must be executed and accepted as satisfactory for it to be valid. There can be no action on the new contract, and the contract cannot be used as a bar to the original demand.
However, when an agreement is entered into by deed, the deed itself gives a cause of action. The act of giving such a deed may be satisfactory for a simple contract debt.
The general, the accepted rule is that if an individual is indebted to another party by simple agreement, that individual cannot present the creditor with a promissory note of the same sum, with no new considerations, that satisfies the original debt unless the creditor agrees to accept these terms. If the individual transfers the note, he or she can't sue on the original contract if the note is no longer in his or her possession.
Contracts can be very complicated, and this includes original agreements and novations. To help you better understand all of the complex legal language, you may wish to consult with an expert in contract law. It's important that you don't sign on the dotted line until and unless you fully comprehend what you're agreeing to.
You should also know when a novation of contract is necessary and how the change will personally affect you. Again, when novations occur, you should understand all the changes that will take place under the new agreement terms to better protect your legal and financial interests.
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