Third Party Beneficiary Contract Example: Everything You Need to Know
A third party beneficiary contract example involves an individual or legal entity that benefits from the execution of a contract. 3 min read updated on February 01, 2023
A third party beneficiary contract example involves an individual or legal entity that benefits from the execution of a contract. The third party, however, has no actual involvement in the contract itself. They simply stand to benefit in some way once the contract has been fulfilled.
A third-party beneficiary is an individual or legal entity that benefits from the execution of a contract. They may also have certain rights that allow them to enforce the involved parties to adhere to the terms of the contract. Simply put, third-party beneficiaries benefit from a contract but don't necessarily have to sign it. In other words, they're not bound by the terms of the contract. This party often has the right to pursue legal action against the parties that did sign the contract if they are designated as the intended third-party beneficiary. Incidental third-party beneficiaries, however, do not have access to these rights.
As the name suggests, a beneficiary receives some sort of benefit when a contract is carried out. For example, somebody that receives an inheritance because they were named in somebody else's will would be considered a beneficiary of that will. Another example may be somebody designated in the terms of an insurance policy to receive the financial assets in the event that the policy issues a payout.
Determining whether or not somebody might be able to enforce the rights of an intended third-party beneficiary involves considering when those rights vested, if at all. The term "vest" simply means that the rights have become enforceable according to the law. Generally speaking, there are three ways these rights might vest:
- The third-party beneficiary detrimentally relies on promises made by the parties involved in the contract.
- The third-party beneficiary has agreed to contract terms, as requested by one of the parties involved in the agreement.
- The third-party beneficiary has pursued legal action to enforce the contract terms.
There are two common types of an intended third-party beneficiary which occur with:
- Creditor and debtor scenarios
There are also two primary types of third-party beneficiaries:
- Intended third party beneficiaries
- Incidental third party beneficiaries
Intended beneficiaries receive the benefits of an agreement directly from the contract. They are usually specifically named somewhere within the contract itself. Intended beneficiaries have just as much right to pursue legal action in the event of a breach of contract as any of the parties that are actively involved in the execution of the contract.
Incidental beneficiaries benefit from the execution of a contract even though they have not been specifically designated as an intended beneficiary in the contract terms. It is important to note that incidental beneficiaries do not have the ability to claim any rights regarding the contract in question. Simply put, they received benefits associated with the contract by pure chance.
In the event that an intended beneficiary does decide to pursue legal action on a contract, they will have to prove that they are actually an intended beneficiary. This means that any promises made must be explicitly outlined in the contract as something that is meant to benefit the intended beneficiary. The two most common situations that involve an intended beneficiary are:
- Creditor beneficiaries
- Donee beneficiaries
Vesting of Rights
The active parties to a contract are legally bound to carry the contract out when a beneficiary's rights are vested. If either the promisee or promisor attempts to change or rescind the contract at this point are nullified. In fact, if the promisee changes their mind and offers to pay money to the promisor to prevent the execution of the contract, the third-party beneficiary has the right to pursue legal action against the promisee for interfering with their rights under the contract.
To determine if a third-party beneficiary's rights have actually vested, three questions are considered:
- Do they know about and have they come to be detrimentally reliant on the rights created by the agreement?
- Have they assented to the agreement as requested by one of the active parties?
- Have they pursued legal action to enforce the execution of the agreement?
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