You are entitled to unilaterally terminate a contract with a Chinese company only if the conditions for rescission as agreed in the contract or under Chinese law mature. Otherwise, you can only terminate the contract with the consent of the other party.

In addition, you must follow specific steps. Otherwise, your notice to terminate the contract will likely be considered a breach of contract by the judge in the later lawsuit in China.

This post was first published in CJO GLOBAL, which is committed to providing consulting services in China-related cross-border trade risk management and debt collection.

Therefore, you need to treat rescission with caution.

1. How do Chinese judges treat contract rescission?

You must be aware that Chinese judges are unwilling to uphold any rescission claim.

On the one hand, China traditionally prioritizes harmony and, on the other hand, promoting transactions is an important judicial value among Chinese courts.

Therefore, in order to promote transactions, most judges are inclined to encourage the parties to continue the contract, rather than to terminate the transaction.

This leads to de facto extremely strict requirements to rescission claims in judicial practice.

Taking this into account, you need to be well prepared for the rescission of a contract.

2. Under what circumstances can you terminate a contract?

(1) Terminate a contract as agreed in the contract

Where the contractual conditions for rescission, if any, are satisfied, you can terminate the contract.

For example, you may agree in the contract that you can terminate the contract upon breach of the contract by the other party.

However, even if the other party breaches the contract, your rescission claim will not be necessarily upheld by a Chinese judge. Where his breach is not serious enough to render the purpose of the contract unachievable, your rescission claim will not be upheld by a Chinese court.

In order to avoid such a judgment, we suggest that you briefly describe the transaction background in the contract and explain how the defaulting party’s breach would affect you and why it would render the purpose of the contract unachievable.

By entering into such a contract, the other party acknowledges that a certain breach of the contract will lead to the frustration of the contract purpose.

This will give you a good reason to prove to the judge in court that the contract should be terminated.

(2) Terminate a contract under the Chinese law

If you settle your dispute in China and there is no other agreed applicable law, the Chinese law is most likely to be applied.

In accordance with article 563 of the Civil Code, the parties may terminate the contract under any of the following circumstances:

i. the purpose of a contract is not able to be achieved due to force majeure;
ii. prior to the expiration of the period of performance, one of the parties explicitly expresses or indicates by his act that he will not perform the principal obligation;

iii. one of the parties delays his performance of the principal obligation and still fails to perform it within a reasonable period of time after being demanded;

iv. one of the parties delays his performance of the obligation or has otherwise acted in breach of the contract, thus making it impossible for the purpose of the contract to be achieved; or

v. any other circumstance as provided by law.

In such circumstances, you can consider terminating the contract.

3. How do you terminate a contract?

If the contract agrees on steps of rescission, you need to follow the agreed steps to terminate it. If not, you need to complete the rescission in accordance with Chinese law, which stipulates the following steps.

First, you must collect evidence of the other party’s breach of the contract.

You need to lead the other party to make an express repudiation, including statements saying “I will not deliver” or “You must pay more or I will not deliver”.

Where the other party simply delays the performance of his obligation, you need to first notify the other party to deliver the goods as soon as possible and give the other party a reasonable grace period. And you are entitled to terminate the contract upon the expiry of the grace period if no reshipment is made during the period.

Where the quality of the product delivered by the other party is substandard, you need to adopt the following steps.

The first step is to inform the other party of substandard product quality and explain to him that the goods are completely unsaleable or unusable.

The second step is to give the other party a grace period to make another shipment and take back the original goods.

And the last step is to terminate the contract upon the expiry of the grace period if no reshipment is made during the period.

Then, you can notify the other party of your rescission of the contract.

The contract shall be terminated as of the date of the other party’s receipt of your rescission notice. Therefore, you need to prove that the other party has received the notice.

In addition, you can also file a lawsuit with a court or apply to an arbitral institution for arbitration and ask them to confirm the rescission of the contract.

It should be noted that you must exercise your right to terminate a contract within a certain period of time by giving notice, filing a lawsuit with a court, or other reasonable means. If you fail to exercise such right in due time, you are no longer entitled to terminate the contract.

Well, what is the period length?

You can agree on that period in the contract. If there is no such agreement in the contract, the Chinese law will fill the gap by prescribing a period of one year from the date you know or should have known the occurrence of the rescission cause.

4. What is the effect of terminating a contract?

You can agree on the effect of the contract rescission. If there is no such agreement, Chinese law will also fill in the gap by prescribing the following effects.

(1) Termination of performance

In accordance with Article 566 of the Civil Code, after a contract is terminated, where the obligations have not yet been performed, the performance shall cease。

In other words, you don’t have to pay off the remaining amount, and the other party doesn’t have to deliver the remaining goods.

(2) Restoration to the original status

In accordance with Article 566 of the Civil Code, where the obligations have already been performed, the parties may, taking into account the performance status and the nature of the contract, request restoration to the original status or other remedial measures taken, and have the right to request for compensation for losses.

Restoration to the original status often means that the other party is obliged to return what you have paid and is entitled to get back what he has delivered.

(3) Compensation for loss

In accordance with Article 566 of the Civil Code, where a contract is terminated due to a default, the party with the right to terminate the contract may request the breaching party to bear default liability, unless otherwise agreed by the parties.

Therefore, after the contract is terminated, you can still claim liquidated damages from the other party. If there is no agreement on liquidated damages, you can ask the other party for compensation for the loss.

The Cross-border Trade Dispute 101 Series (‘CTD 101 Series’) provides an introduction to China-related cross-border trade dispute, and covers the knowledge essential to cross-border trade dispute resolution and debt collection.

Photo by Ray Gerry on Unsplash

Contributors: Meng Yu 余萌

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