Maximising costs recovery in contractual disputes

In some cases, this can result in a significant shortfall and which may effectively reduce any damages award made. A recent High Court decision underlines the importance of careful drafting of contractual  terms to ensure that parties can recover the higher level of indemnity costs when suing under contracts, as well as the need to plead claims carefully and appropriately so that costs recovery is maximised wherever possible.

Background

Where costs orders are made by the Courts in civil proceedings, the amount of costs payable by the unsuccessful party will be assessed by the Court (whether by summary or detailed assessment) on either the ‘standard basis’ or  the ‘indemnity basis’. The Civil Procedure Rules (CPR) explain the circumstances in which such costs awards will be made.

Standard basis

Where costs are awarded on the standard basis, the Court will only allow costs which are proportionate to the matters in issue. Costs which are disproportionate in amount, even if reasonably incurred, will be disallowed or reduced. Any doubts arising as to whether costs were reasonably and proportionately incurred, or are reasonable or  proportionate in amount, will be resolved in favour of the paying party.

As an example, if the successful party to a claim had incurred £30,000 in legal costs, only around £20,000 of that would typically be recoverable from the unsuccessful party on the standard basis, with there being a £10,000 shortfall.

Costs are most commonly assessed on the standard basis, unless there are reasons to persuade the Court to exercise its discretion to order indemnity costs. Commonly this discretion is exercised to penalise a party for unreasonable conduct. However, the discretion also arises where a contract between the parties makes provision for indemnity costs to be payable.

Indemnity basis

Where costs are assessed on the indemnity basis, any doubt  arising as to whether costs have been incurred reasonably or are reasonable in amount, is resolved in favour of the receiving party. Furthermore, there is no automatic proportionality requirement, unlike for standard basis.

Costs awarded on indemnity basis can be considerably higher in amount than on the standard basis. The purpose of the indemnity basis is to financially compensate the receiving party as full extent as possible of the legal costs and expenses incurred. This can often be as much as 90% of the successful party’s legal costs.

The High Court decision

In the recent case of Criterion Buildings Ltd v McKinsey & Company Inc (United Kingdom) [2021] EWHC 314 (Ch), the High Court was required to determine the basis on which costs should be assessed after allowing a claim by the landlord against its tenants for the payment of arrears of service charges under various lease and supplemental lease agreements.

The landlord argued that costs should be ordered on indemnity basis because (1) the terms of the lease documentation included a clause in which the tenant covenanted to pay expenses “properly incurred” by the landlord, and (2) of the conduct of the tenants during litigation in taking the matter out of the norm.

The Court ordered costs to be assessed on indemnity basis for the following reasons:

• The wording of the relevant terms, despite not expressly containing the word ‘indemnity’, was more consistent with an indemnity costs award than a standard award. The Court noted that it was required, when exercising discretion as to the basis of assessment under the CPR, to do so in a way which corresponds more closely with any contractual obligations agreed by parties.
• Previous case law regarding the term ‘proper costs’ was overruled and is no longer good law following the introduction of the CPR. It was noted that no ‘improper cost’ can have been reasonably incurred, and yet the assessment of costs on the indemnity basis is restricted to costs which have been not unreasonably incurred.

Conclusion

In overruling previous case law in this area, it would appear that the Courts may now be more inclined to award costs on the indemnity basis where there is contractual basis for it, even in the absence of reference to “indemnity” costs in the contract, and even where there has been no improper or unreasonable conduct by the paying party in the litigation.

Great care should be taken when drafting contractual documents to ensure that the maximum costs recovery can be made in the event of litigation, to reduce any shortfall. Moreover, claimants and their representatives should ensure that claims are properly pleaded to set out claims for indemnity costs wherever possible.

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