Form, Substance and Recharactersiation

Abstract

At common law, a court may ‘recharacterise’ a contract when it is satisfied that the transaction it embodies is substantially different from the label assigned to it by the parties. This process of recharacterisation is well-established in many legal spheres including those of employment, trusts, property, taxation and secured financing. Whether a transaction should be recharacterised is routinely said to depend on its ‘substance’. Typically, this refrain is made to underscore the point that a court will not be bound by the label or form selected by the parties. However, precisely what constitutes ‘substance’ is less clear. Generally, a party seeking to recharacterise a transaction may do so on one of two grounds: first, that the transaction was a sham and hence unenforceable; or secondly, that on a true construction of the document, the transaction belongs to a category different from that identified by the parties. So expressed, these techniques engender the impression that recharacterisation – the location of ‘substance’ – is largely a matter of doctrinal analysis free from value judgment. But a closer inspection will reveal that the process is more textured and fine-grained.

This chapter examines the jurisprudence of recharacterisations in the areas of tenancy, employment, trusts and financing arrangements. It argues that the characterisation of a transaction is always a question of law informed by policy considerations. Specifically, recharacterisations are concerned with avoidances so the central question is whether and to what extent parties are legally permitted to ‘contract out’ of a statutory regime or the legal incidents of a relationship. As such, the process of recharacterisation is neither reducible to the application of narrow legal doctrines nor merely an exercise in contractual interpretation. As will be observed, English courts generally incorporate policy considerations in this discourse but are accustomed to presenting them as ancillary (rather than primary) justifications in their reasoning. Only in legislative contexts such as those protecting tenants or employees where the policy underpinnings are unambiguous is a court likely to base a decision squarely on the pursuit of the legislative goal. In other cases, they are wont to retreat to the sanctuary of rules and doctrines. On the whole, therefore, the English judicial method in this context is more formal than substantive. This predilection is not objectionable or detrimental where the relevant substantive concerns are balanced and embedded in the formal rules. But formal reasoning may descend into formalistic reasoning if the rules so harden as to eclipse important substantive concerns. This chapter contends that this risk subsists in recharacterisation cases. To minimise that risk, it is critical that judges articulate the interplay of values, policies and doctrines resulting in a particular characterisation. Similarly, courts should develop the broad techniques of recharacterisation (viz, shams and construction) more flexibly to make room for the evaluation of substantive reasons.