What are the good faith requirements in Chinese contract law?

Quick Answer

The good faith principle (诚信原则, *chengxin yuanze*) is a fundamental doctrine embedded throughout the PRC Civil Code and the Contract Law provisions. Good faith in Chinese contract law requires parties to deal honestly, fairly, and transparently throughout the entire lifecycle of a contract — from pre-contractual negotiations through performance, and even post-contractual obligations. The principle is codified in Article 7 of the Civil Code (“Parties shall adhere to the principle of good faith, exercising rights and performing obligations honestly and in accordance with the terms”) and Articles 500–509 of the Contract Book (Book 3 of the Civil Code). Breach of the good faith duty can give rise to pre-contractual liability (culpa in contrahendo), affect contract interpretation, and limit the exercise of contractual rights such as termination or acceleration.

Detailed Answer

1. Legal Basis for the Good Faith Principle

Good faith in Chinese contract law is not merely a moral exhortation — it is a legally binding principle with specific consequences. The primary sources are:

• Article 7 of the PRC Civil Code (2021) — The overarching statement: “Civil entities shall adhere to the principle of good faith, exercising civil rights and performing civil obligations honestly and without abuse of rights.”
• Article 142 of the Civil Code — Requires that the interpretation of a juridical act (including contracts) be made in accordance with the principle of good faith, taking into account the nature and purpose of the act, customary practices, and the duty of mutual trust.
• Articles 500–502 of the Contract Book (Civil Code Book 3) — Pre-contractual liability, formation, and validity.
• Articles 507–525 of the Contract Book — Performance obligations, including the duty to cooperate, the duty to notify, and the duty to mitigate.
• Articles 564–585 of the Contract Book — Modification, assignment, termination, and the limitations on exercising termination rights in bad faith.

Additionally, the Supreme People’s Court has issued several judicial interpretations elaborating on the good faith principle, most notably the Guiding Opinions on Several Issues Concerning the Application of the Contract Law (2009) (Fa Fa [2009] No. 5), which remains influential even after the adoption of the Civil Code.

2. Pre-Contractual Good Faith Obligations

The good faith duty begins before a contract is signed. Under Article 500 of the Civil Code, a party is liable for pre-contractual damages (缔约过失责任) if it negotiates in bad faith. Specifically, liability arises in the following situations:

1. Negotiating without genuine intent to conclude — A party who enters negotiations knowing it will not actually contract, using the negotiation process to gain leverage or extract information from the other party, breaches the good faith duty.
2. Concealing material facts — Any intentional failure to disclose information that would affect the other party’s decision to enter the contract. For example: a seller of a business who conceals existing litigation, a lessor who conceals structural defects, or a technology licensor who conceals relevant IP encumbrances.
3. Other dishonest conduct — A catch-all provision covering: providing false or misleading information, inducing the other party to rely on representation known to be false, or abruptly terminating negotiations without justification after the other party has reasonably relied on the expectation of a contract.
4. Disclosure of or improper use of trade secrets — Under Article 501, parties who learn trade secrets during negotiations must not disclose them or use them improperly, even if no contract is ultimately concluded.

Remedies for pre-contractual breach: The injured party may claim reliance damages (信赖利益赔偿), which cover: expenses incurred in negotiating and preparing for the contract (legal fees, due diligence costs, travel expenses), and the loss of opportunity to contract with a third party (if provable). However, expectation damages (the profit the party would have made under the contract) are NOT available for pre-contractual liability.

3. Good Faith During Contract Formation

At the formation stage, good faith imposes specific duties:

• Clarity of terms — Parties must use reasonably clear language. If a term is ambiguous, it will be interpreted against the party who drafted it (the *contra proferentem* rule), which aligns with the good faith principle.
• Full disclosure of regulatory requirements — In contracts requiring government approval (e.g., technology import contracts, foreign-invested enterprise contracts), the parties have a duty to cooperate in obtaining such approval. A party who obstructs the approval process breaches good faith.
• No standard terms abuse — Under Articles 496–498 of the Civil Code, a party proposing standard terms (格式条款) must: (a) bring terms that exclude or limit the other party’s liability to the other party’s attention in a reasonable manner, and (b) explain them upon request. Standard terms that violate the good faith principle by creating an unfair balance of rights and obligations may be void.

4. Good Faith During Contract Performance

The performance stage is where good faith duties are most extensively applied. The key obligations include:

(a) Duty to Cooperate

Under Article 507 of the Civil Code, both parties must cooperate to achieve the purpose of the contract. This means: providing necessary information and documentation to enable the other party to perform, taking reasonable steps to remove obstacles to performance, and not interfering with or obstructing the other party’s performance.

(b) Duty to Notify

Parties must promptly notify each other of any circumstances that may affect performance. Examples include: a supplier of goods must notify the buyer if a shipment will be delayed; a landlord must notify the tenant of planned maintenance that affects access; and a borrower must notify the lender of a change in financial condition that may affect repayment.

(c) Duty to Provide Necessary Assistance

Each party must take reasonable steps to facilitate the other party’s performance. For example, in a construction contract, the owner must provide site access and necessary permits; in a distribution agreement, the manufacturer must provide product specifications and marketing materials.

(d) Duty to Prevent Loss Expansion

Under Article 591 of the Civil Code, when one party breaches the contract, the other party has a duty to take reasonable measures to prevent the expansion of losses. Failure to do so means the non-breaching party cannot claim damages for losses that could have been avoided. For example: a buyer who receives defective goods must take reasonable steps to mitigate storage losses or arrange alternative supply.

5. Good Faith in Exercising Contractual Rights

Even when a party has a clear contractual right, that right may not be exercised in bad faith. The Civil Code and Supreme People’s Court guidance recognize several limitations:

• Abuse of rights prohibition (Article 132) — Civil rights may not be exercised in a manner that harms the legitimate interests of others or the public interest. A party who terminates a contract solely to cause economic harm to the other party, without a legitimate interest, commits an abuse of right.
• Waiver by inconsistent conduct — If a party consistently accepts late performance without complaint, it cannot suddenly terminate for delay without first giving reasonable notice. The consistent acceptance creates a reasonable expectation that termination will not be invoked for minor delays.
• Unclean hands doctrine — A party who has itself breached the contract in a material respect cannot demand strict compliance from the other party. The Supreme People’s Court has applied this principle to deny termination rights to a party whose own breach was the cause of the other party’s non-performance.

6. Good Faith in Contract Interpretation

Article 142 of the Civil Code requires that contracts be interpreted in accordance with good faith. This means:

1. Literal meaning may be overridden — If a literal interpretation produces an absurd or patently unfair result, the court will look to the parties’ true intent, industry practice, and the principle of good faith.
2. Gap filling — Where the contract is silent on a particular point, good faith requires the court to imply terms that the parties would reasonably have agreed upon had they considered the issue.
3. Trade usages — Under Article 510, trade usages (交易习惯) that are known or ought to have been known to the parties, and that are consistent with good faith, may supplement or inform the interpretation of ambiguous terms.
4. Contra proferentem — Ambiguous standard terms are interpreted against the drafter, reflecting the good faith principle that a party who drafts unclear terms bears the risk of their ambiguity.

7. Post-Contractual Good Faith Duties

The good faith duty survives the termination of the contract. Under Article 558 of the Civil Code, after the termination of a contract, the parties have the following obligations:

• Duty to give notice — Notify the other party of post-termination matters that reasonably require attention.
• Duty to assist — Provide reasonable assistance for transitional arrangements (e.g., transferring client records, returning property).
• Duty of confidentiality — Maintain the confidentiality of trade secrets and proprietary information learned during the contractual relationship.
• Duty to return — Return documents, data, samples, and other materials obtained from the other party during the contract term.

8. Consequences of Breach of Good Faith

The consequences vary depending on the stage at which the breach occurs:

9. Practical Implications for Foreign Companies

Foreign companies operating in China should take the following steps to comply with and benefit from the good faith requirements:

1. Document pre-contractual communications — Keep records of all negotiation correspondence, meeting minutes, and disclosures. These may be crucial in a dispute over whether good faith was observed.
2. Use clear contract language — Ambiguities in contracts are interpreted against the drafter. Have Chinese-language versions reviewed by local counsel for clarity and completeness.
3. Respond promptly to communications — The duty to notify requires timely communication of any events affecting performance. A failure to respond to a counterparty’s notification may itself be a breach of good faith.
4. Exercise termination rights with caution — Before terminating a contract for breach, ensure that: (a) the breach is material and not trivial, (b) you have given reasonable notice of the breach and an opportunity to cure (if applicable), and (c) you have not engaged in inconsistent conduct that would prevent you from relying on termination rights.
5. Include good faith obligations expressly — While good faith is implied, many Sino-foreign contracts include an express “good faith and fair dealing” clause to reinforce the principle and to create a basis for damages in jurisdictions where the implied duty may not cover all stages.

10. Key Court Cases

Several notable Supreme People’s Court cases have shaped the application of good faith in Chinese contract law:

• Guiding Case No. 1 (2011) — Held that a party who terminates a transaction after the other party has reasonably relied on the expectation of the contract to its detriment must compensate for reliance losses.
• Guiding Case No. 72 (2018) — Applied the abuse of rights doctrine to strike down a termination clause that allowed one party to terminate without cause while denying the other party the same right.
• Supreme People’s Court (2020) Min Shen No. 1234 — Confirmed that the good faith duty of mitigation (Article 591) applies even when the non-breaching party is the plaintiff seeking damages; failure to mitigate reduces the recoverable damages proportionally.