Third-Party Beneficiaries

Along with assignments and delegations, the topic of third party-beneficiaries ranks among the areas of Contract Law that my students most ask for me to clarify. This post will provide a basis for understanding how best to analyze a question implicating this topic.

The basis behind third-party beneficiaries is to allow non-parties to a contract, rights in connection with the contract. A typical third party beneficiary question will contain the following characters: X (the promisee) contracts with Y (the promisor). Further Y promises that rather than performing directly for the benefit of X, Y will perform for the benefit of Z (the third-party beneficiary).

With the above in mind, it's important to determine who qualifies as a third-party beneficiary entitled to rights under the contract. Only intended beneficiaries have rights (as opposed to incidental beneficiaries), so an initial determination should be made as to whether the third-party beneficiary is intended or incidental. An intended beneficiary is either identified in the contract (in our example, the contract b/w X and Y), receives performance directly from the promisor (Y), or has some relationship with the promisee (X) to indicate intent to benefit.

Let's now assume that one of the above requirements has been satisfied, so that Z is an intended third-party beneficiary. Even if you've made that determination, you should not assume that Z has acquired rights. You must first determine whether Z's rights have vested. Vesting of rights occurs when the third-party beneficiary manifests assent to a promise in the manner requested by the parties to the contract (X and Y), brings suit to enforce the contract, or materially changes position in justifiable reliance on the promise.

If you've determined that the third-party beneficiary is intended, and you've determined that the rights have vested, then the third-party beneficiary is entitled enforce his rights to the contract. But whom can he sue to enforce those rights?

The third party beneficiary can sue the promisor on the contract. The promisor, however, can assert any defense against the third-party beneficiary that the promisor has against the promisse. In addition, the third-party beneficiary can sue the promisee. This will depend upon whether the third-party beneficiary was a creditor beneficiary (a person to whom a debt is owed by the promisee), or a donee beneficiary (a person the promisee intends to benefit gratuitously.) A creditor beneficiary can sue the promisee on the existing obligation between them. A donee beneficiary, on the other hand, has no right to sue the promisee unless grounds for detrimental reliance exist.