Third Party Beneficiary Clause: Everything You Need to Know
A third party beneficiary clause determines if a non-contractual party has any rights to enforce the contract's terms. 3 min read
A third party beneficiary clause determines if a non-contractual party has any rights to enforce the contract's terms. Sometimes, beneficiaries are named, and other times, they receive rewards by chance.
An Overview of the Third Party Beneficiary Clause
A third party beneficiary clause may prescribe rights to a third party. In a few instances, the clause grants those rights. The clause has to be present for the beneficiary to be treated as an intended beneficiary.
When contractual parties include this clause, they intend for a third party to benefit in some way. If a contract doesn't include the clause and a third party still benefits, the beneficiary is “incidental” instead of “intended.”
When granting rights in a contract, the drafter should consider the specific rights being granted and if the contractual parties can change the contract without the consent of the third party.
About Third Party Beneficiaries
As the name implies, a beneficiary is a person who receives some type of benefit. In all contracts, the two primary parties who are involved are known as the promisee and the promisor. When a third party is able to benefit, that's where a third party beneficiary comes in. This beneficiary isn't a contractual party but still benefits from the agreement.
For example, this may be a person who receives an inheritance due to being named in someone else's will. A person who receives a payout from someone else's insurance policy is also a beneficiary.
Some situations give third-party beneficiaries legal rights to enforce a contract and get a share of proceeds.
For the clause to be enforceable, it has to be irreversible. The following criteria can accomplish that:
- Evidence exists that the third party was aware of the clause intended to benefit him or her.
- The third party receives the contract.
- The third party receives hints that he or she may benefit from the contract.
- The third party believes it must fulfill some burdensome obligations in exchange for receiving benefits.
If a promisor fails to pay a third party beneficiary, a promisee can bring suit against it for “specific performance” of the agreement. However, the promisee can only bring suit if the third party beneficiary hasn't already sued.
As an example, consider the following scenario:
Robert plans to purchase a new automobile for his son, Everett, as a birthday gift. Robert enters into a contract with an auto dealer, and he puts down a $10,000 down payment and signs financing paperwork. Everett isn't a contractual party, but, because he knows he's going to get a brand new car, he sells his old car.
On the agreed-upon date, the auto dealer doesn't deliver the car. Robert finds out the new car was never ordered. In this case, Everett could show he knew about the benefit he would receive from the contract and if he relied on that belief when he sold his old car. Since he knew about the new car, he's a third party beneficiary with a right to enforce the agreement against the auto dealer.
Intended or Incidental Beneficiaries
Third party beneficiaries may be intended or incidental. Intended beneficiaries receive direct benefits from the agreement outlined in a contract. Somewhere in the contract, an intended beneficiary is typically named. Someone who's an intended beneficiary has the same rights to sue for breach of contract as one of the primary contractual parties.
A person who is an incidental beneficiary isn't specifically named in the agreement but may still benefit from the contract. Incidental beneficiaries don't hold any contractual rights. Instead, they may receive a reward simply by chance.
If an intended beneficiary chooses to sue for rewards or damages, he or she has to prove their status as an intended beneficiary. It's easy enough to identify someone as an intended beneficiary if his or her name appears somewhere in the contract. That means there was an intention or promise of a benefit to that person.
Because contract law can be complex, it may be in your best interest to consult with an expert in the field so that you fully understand the terms and conditions you're agreeing to before you sign a contract.
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