Reading time: 4 minutes

If your business uses fixed-term contracts, you may have come across consumers who request to terminate before the contract term is up. Businesses often use termination fees to recover their losses when a customer seeks to terminate a fixed-term contract prematurely. This article will consider when consumers have the right to terminate early and when businesses may be able to charge early termination fees for early termination of a fixed-term contract.

When Are Consumers Permitted to Cancel Services?

The Australian Consumer Law states that if there is a major problem with a service or a minor problem that cannot be fixed within a reasonable time, consumers have the right to cancel a service contract when the service is:

  • provided with an unacceptable level of care and skill;
  • unfit for the purpose asked for; or
  • not deliverable within a reasonable time when there is no agreed end date.

However, a consumer cannot cancel (and must pay for) services received under a service contract that worked as expected. A consumer cannot cancel a service contract or get a refund if the problem was outside the control of the provider or if they:

  • changed their mind;
  • insisted on having a service provided in a particular way, against your advice; or
  • failed to explain their needs clearly to you.

Early Termination Fees

Early termination fees come in many forms. They can be a fixed sum payable for cancellation at any stage of the contract or a pro-rata sum which decreases as the contract end-date approaches. For an early termination fee to be valid, it must be a genuine pre-estimate of the loss you will suffer as a result of the early termination. You can calculate a genuine pre-estimate by using either your lost net profit or your wasted costs. If the fee is disproportionate to your loss and not a genuine pre-estimate it may be considered a penalty and be unenforceable.

What Are Wasted Costs?

Wasted costs consist of the:

  • fees and up-front costs for preparing or setting up the contract; and

For example, the cost of any incentives you used to get the customer to enter the contract.

  • cost of performing the service under the contract up to the date of termination. This excludes any fixed costs or overhead costs which you would incur regardless of the early termination.

You then calculate wasted costs by taking these costs and subtracting the costs you recouped.

For example, any costs you recovered through payments already received under the contract.

What Is Lost Net Profit?

Lost net profit is the unpaid amount of the contract price, less:

  • the costs you would have incurred in performing the remainder of the contract;
  • any discounts on the remainder of the contract price; and
  • the cost of any reasonable steps you took to mitigate your loss.

Note that you must take reasonable steps to mitigate your loss under law.

Therefore, if you wish to charge early termination fees, you need to ensure they are a genuine pre-estimate of cost using the guidelines above. This ensures that any early termination fees you charge are enforceable.

Are Accelerated Payments Valid?

An accelerated payment is essentially an early termination fee that requires the paying out of the remainder of a contract price. Accelerated payments are invalid because they are not a genuine pre-estimate of your costs. This is because they fail to take into account the costs you would no longer incur in performing the remainder of the contract once the consumer has cancelled.

Key Takeaways

You can charge an early termination fee if a customer cancels. However, if you charge a fee for early cancellation that is not a genuine estimate of your cost, it may be unenforceable. You can calculate a genuine pre-estimate of cost using either your wasted cost or lost net profits. If you have any questions about early termination fees, get in touch with LegalVision’s contract lawyers on 1300 544 755 or fill out the form on this page.

Webinars

Everything You Need to Know about SaaS Agreements

Thursday 7 April | 11:00 - 11:45am

Online
Understand which contracts will protect your SaaS contract from risk, and how. Register for free today.
Register Now

What to Consider When Buying a Tech or Online Business

Wednesday 13 April | 11:00 - 11:45am

Online
Learn how to get the best deal when buying a tech or online business. Register for our free webinar today.
Register Now

Corporate Governance 101: Responsibilities for New Directors

Wednesday 27 April | 11:00 - 11:45am

Online
If you are a new company director, join our free webinar to understand your legal compliance obligations. Register today.
Register Now

Rogue Directors and Business Divorces: How to Remove a Director

Thursday 28 April | 11:00 - 11:45am

Online
Removing a board director is not simple. Join our free webinar to learn how to handle rogue directors. Register today.
Register Now

Employment Essentials for Tech Businesses

Thursday 5 May | 11:00 - 11:45am

Online
Protect your tech business and your employees by understanding your employment legal obligations. Register for our free webinar today.
Register Now

How to Protect and Enforce Your Trade Mark

Wednesday 11 May | 11:00 - 11:45am

Online
Protect your business’ brand from copycats and competitors. Register for this free webinar to learn how.
Register Now

How Franchisors Can Avoid Misleading and Deceptive Conduct

Wednesday 18 May | 11:00 - 11:45am

Online
Ensure your franchise is not accused of misleading and deceptive conduct. Register for our free webinar today.
Register Now

How to Expand Your Business Into a Franchise

Thursday 26 May | 11:00 - 11:45am

Online
Drive rapid growth in your business by turning it into a franchise. To learn how, join our free webinar. Register today.
Register Now

About LegalVision: LegalVision is a commercial law firm that provides businesses with affordable and ongoing legal assistance through our industry-first membership.

By becoming a member, you'll have an experienced legal team ready to answer your questions, draft and review your contracts, and resolve your disputes. All the legal assistance your business needs, for a low monthly fee.

Learn more about our membership

Need Legal Help? Submit an Enquiry

If you would like to get in touch with our team and learn more about how our membership can help your business, fill out the form below.

Our Awards

  • 2020 Excellence in Technology & Innovation Finalist – Australasian Law Awards
  • 2020 Employer of Choice Winner – Australasian Lawyer
  • 2021 Fastest Growing Law Firm - Financial Times APAC 500
  • 2020 AFR Fast 100 List - Australian Financial Review
  • 2021 Law Firm of the Year - Australasian Law Awards
  • 2019 Most Innovative Firm - Australasian Lawyer