26th March 2020

COVID-19 enables to release from the duty to provide compensation for breach of a contract

Due to the current situation and the constraints it entails, one of the parties may not be able to fulfil its contractual obligations and the other party may suffer damage as a result. Normally, the injured party is entitled to compensation. However, coronavirus changes the usual rules of the game in this case, and subject to certain conditions, the debtor may be released from this duty.

This is because provision 2913 (2) of the Civil Code provides that if the debtor proves that it was prevented from fulfilling its contractual duty due to an extraordinary, unforeseeable and insurmountable obstacle created independently of its will, it may be released from the duty to provide compensation (damages). The COVID-19 pandemic and the restrictions imposed by the authorities can certainly constitute such an extraordinary, unforeseeable and insurmountable obstacle. Indeed, the state of emergency for the entire territory of the Czech Republic has been declared for the first time in history.

Nevertheless, this provision cannot be invoked in any case. It will depend heavily on the specific contract and whether the parties have not agreed to be liable for damages by way of exclusion from the statute. It is also not possible to be released from the duty to pay compensation, if the obstacle arose when the debtor already was in default of performing its contractual duties. Time plays an important role, too. The Civil Code lays down a duty to notify and anyone, who breaches its contractual obligation (or suspects that it will breach it) must inform the other party without undue delay.

It should also be stressed that the parties are obliged to do everything in their power to fulfil their obligations. It will therefore be necessary to demonstrate that the contractual obligation cannot be fulfilled. A number of reasons comes in mind in the current situation: many establishments and business had to shut down temporarily due to the Government resolutions, employees can get ill or quarantined.

Aforesaid will apply to the contacts concluded between Czech entities. As for contracts with an international element, it is necessary to examine, which law governs the contractual relationship. However, if the contract was governed by the UN Convention on Contracts for the International Sale of Goods (CISG), similar rules would apply. This is because provision 2913 (2) of the Civil Code was modelled after Article 79 of the CISG.

Finally, a few words about the contractual penalty. In general, the reasons for failure to fulfil the contractual obligations are irrelevant in case of a contractual penalty, and the debtor cannot be exempted from the duty to pay it. However, this rule is disposable, and the parties may agree that in the event of force majeure (which a pandemic is) the debtor will not have to pay the contractual penalty. Again, this will depend on the specific contract. Likewise, it is important to point out that, if a contractual penalty has been stipulated, the creditor is not entitled to compensation for damage resulting from the breach of the duty, which is subject to the contractual penalty, unless the parties have agreed otherwise.

Given the circumstances, we would like to recommend to our clients, whose obligations might have been (even severely) affected by the consequences of the COVID-19 pandemic, to hold conference calls and try to renegotiate their contractual obligations in order to find at least an acceptable compromise. Because of the exceptional nature of the circumstances, it cannot be ruled out that the exercise of certain statutory or contractual rights, including the aforementioned contractual penalty, could be contrary to good morals.***

Anna Kameníková
PwC Legal | Attorney at Law
Andrea Lančová
PwC Legal | Junior Attorney

Members of the American Chamber of Commerce in the Czech Republic