Deed of Novation

What Is a Deed of Novation?

A Deed of Novation is a legal document used to transfer both the rights and obligations of a contract from one party to another. In simple terms, it allows a new party to step into the shoes of an existing party and take over a contract. The original party is then released from their contractual duties, and the new party takes their place.

This arrangement is different from an assignment. With an assignment, only the benefits of a contract (like the right to receive payment) are transferred. The burdens (the duty to do the work) usually stay with the original party. A novation transfers everything. It creates a new contract that replaces the old one, effectively extinguishing the original agreement and establishing a new one between the incoming party and the remaining party.

For Australian businesses and tradespeople, this document is essential when selling a business, restructuring a company, or changing subcontractors. Because it creates a new contract, all three parties must agree to the change. The outgoing party, the incoming party, and the other party to the original contract (the counterparty) must all sign the deed.

Why use a deed instead of an agreement?

In Australia, a deed is a distinct legal instrument that binds parties even without "consideration". Consideration is a legal term for something of value exchanged between parties, like money. Standard contracts require consideration to be valid. If one party is walking away from a contract without receiving a direct payment, they need a deed to make that release binding.

Furthermore, deeds provide longer limitation periods for legal action. In New South Wales, for example, you generally have 12 years to take action on a deed compared to 6 years for a standard contract. This extended window provides extra security for the parties involved.

When to Use This Document

There are several practical scenarios where Australian business owners and tradespeople will need a Deed of Novation. The common thread is that the work or contract must continue, but the entity responsible for it needs to change.

Selling a business with existing contracts

If you sell your plumbing business, you likely have outstanding contracts with clients or suppliers. You cannot simply walk away from these, and your buyer cannot automatically take them over. You need a novation to transfer the contract obligations to the new owner. This ensures the client continues to get service, and you are legally released from future liability once the sale is complete.

Construction and property sales

In the construction industry, this situation happens frequently. A homeowner signs a building contract. Before the house is finished, the homeowner sells the property to a new buyer. The builder still needs to finish the job, and the new buyer wants the house finished according to the original plans.

Here, the builder, the old owner, and the new owner sign a Deed of Novation. This replaces the old owner with the new owner in the building contract. The builder continues working, now for the new owner, and the old owner is released from the obligation to pay the builder.

Corporate restructuring

Companies often change their structure for tax or asset protection reasons. If a company operating a contract decides to move its operations to a related entity, they can novate the contract. This transfers the contract from the old entity to the new entity without disrupting the business relationship with the client or supplier.

Changing subcontractors

Sometimes a head contractor needs to replace a specific subcontractor, perhaps due to capacity issues or insolvency. If the client has a direct relationship or interest in that specific subcontractor, a novation might be used to bring a new subcontractor onto the project formally.

Key Sections and Required Elements

To be legally effective in Australia, a Deed of Novation must contain specific components. Vague or missing clauses can lead to disputes about liability and performance.

Identification of parties and the original contract

The document must clearly identify the three parties involved. These are usually defined as the Transferor (the outgoing party), the Transferee (the incoming party), and the Counterparty (the remaining party).

You must also explicitly identify the original contract. This includes the title of the contract, the date it was signed, and the names of the original parties. A clause must state that the Transferee agrees to perform the obligations under the original contract as if they were the original party. This language is crucial to show the intention to create a new agreement.

Release of the outgoing party

The primary goal for the Transferor is to be released from liability. The deed must contain a clear release clause. This clause states that the Counterparty releases the Transferor from all liabilities arising from the date of novation.

It is vital to distinguish between "Pre-Novation Liabilities" and "Post-Novation Liabilities". Generally, the Transferor remains liable for things that went wrong before the transfer date. The release usually only covers future obligations. However, the parties can negotiate to have the Transferee indemnify the Transferor for past issues as well. If the release is vague, the Transferor risks being pulled back into disputes over defects that occurred before they left.

Undertakings and representations

The Counterparty needs assurance that the new party can actually do the job. The deed should include warranties from the Transferee regarding their capacity and resources.

Common warranties include statements that the Transferee has the financial resources to complete the project, the necessary licenses (such as a QBCC or NSW Fair Trading license for trades), and that they are not insolvent. These protect the Counterparty from taking on a party that cannot perform.

Governing law and jurisdiction

Because laws regarding limitation periods and stamp duty vary by state, the deed must specify which state or territory laws govern the document. For instance, a deed governed by NSW law will have a 12-year limitation period, whereas other states may differ up to 15 years. This clause provides certainty on where legal disputes would be settled.

How to Write a Deed of Novation (Step by Step)

Drafting a Deed of Novation requires precision. While you can use a Deed of Novation template, you must tailor it to the specific situation.

Step 1: Gather the original contract

Before drafting, review the original contract. Check for any clauses that prohibit novation or require specific consent procedures. Some contracts contain restrictions on assignment or novation that you must follow. You also need the exact details of the original contract to reference them correctly in the deed.

Step 2: Define the effective date

The deed must state the "Novation Date" or "Effective Date". This is the day the new party takes over. Ideally, this date aligns with a settlement date for a business sale or a specific milestone in a project. All liability switches at this moment.

Step 3: Draft the release and assumption clauses

Write the clause where the Transferor is released. Use clear language like "The Counterparty releases the Transferor from all obligations under the Contract from the Novation Date."

Simultaneously, draft the assumption clause where the Transferee steps in. This should read that the Transferee "assumes and agrees to perform all obligations" of the Transferor.

Step 4: Address prior liabilities

Decide what happens to issues that arose before the switch. If the Transferor wants to be fully washed of the project, the Transferee should agree to indemnify them for past defects. If this is not agreed upon, the Transferor keeps the risk for past work. This is a key negotiation point.

Step 5: Ensure correct execution

How you sign the document is just as important as what is written inside. In Australia, execution requirements are strict.

If a party is a company, you must follow the Corporations Act 2001 (Cth) s 127. This usually means two directors must sign, or one director and one company secretary. If the company has a sole director/sole secretary structure, that one person can sign.

If a party is an individual, they must sign in the presence of a witness. The witness must be an adult who is not a party to the deed. In Queensland and Western Australia, witnessing requirements are particularly strict for deeds. In NSW and Victoria, electronic witnessing laws have relaxed, but having a witness is still best practice to avoid validity challenges.

Step 6: Stamp duty checks

While most jurisdictions have abolished stamp duty on standard business contracts, novating certain documents like leases or intellectual property agreements can attract duty. Check with your state revenue office (like Revenue NSW or the State Revenue Office Victoria) to see if your specific transaction is liable.

Common Mistakes to Avoid

Mistakes in a Deed of Novation can leave you liable for a contract you thought you left behind.

Confusing novation with assignment

The most frequent error is trying to use an assignment to transfer burdens. Under Australian law, you cannot assign the duty to perform work without the consent of the other party. If you try to use a Deed of Assignment to swap a builder, the assignment is likely void regarding the obligations. The original builder remains liable. Always use a novation if you want to transfer both rights and obligations.

Failing to get the counterparty's signature

All three parties must sign. Some businesses try to save time by only getting the Transferor and Transferee to sign. This is ineffective. The Counterparty is the one agreeing to release the outgoing party. Without their signature, the original contract remains in force between the original parties.

Ignoring employee obligations

A novation transfers a contract, but it does not automatically transfer the employees working on that contract. If you are selling a business or a contract, you must consider the transfer of employees. This often involves consulting with employees regarding the transfer of their employment under the Fair Work Act. Failing to manage employee transitions can lead to unfair dismissal claims or redundancy payments.

Overlooking Australian Consumer Law (ACL)

If the original contract is a "small business contract" (meeting the financial thresholds or employee count under the Competition and Consumer Act 2010), the Deed of Novation must not contain unfair terms. If the new terms significantly alter the rights of the small business to their detriment without valid reason, the clause could be void.

Poor record-keeping

Retain the original contract and the Deed of Novation together. If a dispute arises five years down the track, you will need to prove the chain of authority. Losing the deed makes it difficult to prove the incoming party accepted the liability.

Legal Considerations (AU)

Using a Deed of Novation in Australia requires attention to specific state and federal laws.

Corporations Act 2001 (Cth)

When a company is a party, proper execution is non-negotiable. Relying on a director who is not authorised to sign deeds without a proper board resolution can lead to the company claiming the deed is invalid. Always verify the company's current officeholder details via the ASIC register before drafting to ensure the names and titles of the signatories are correct.

Privacy Act 1988 (Cth)

Novating a contract often involves transferring client data. If the original contract involves personal information (like customer names, addresses, or financial details), the Transferor must comply with Australian Privacy Principle (APP) 6. This principle governs the use and disclosure of personal information. You cannot simply hand over client lists to the new party unless the original contract allowed for it, or you have consent from the individuals.

Personal Property Securities Act 2009 (PPSA)

If the contract involves the sale of goods on credit or involves leasing equipment, the PPSA may be relevant. A novation could trigger the need to update financing registrations on the Personal Property Securities Register. If the incoming party is taking over assets subject to a security interest, the registration may need to be amended to reflect the new grantor.

GST and Tax implications

The Australian Taxation Office (ATO) views a novation as a supply. This means there may be GST implications. If the release of the old party is provided for a payment (like as part of a business sale), GST may apply to that payment. If it is a "supply of going concern," GST might not apply if the specific requirements are met. You should consult with an accountant to determine how the novation affects your BAS obligations.

Guarantees and Indemnities

Often, the Counterparty will be hesitant to release a reliable party for an unknown one. A common practice in Australian industry is for the Counterparty to demand a Deed of Guarantee and Indemnity from the Incoming Party. This ensures that if the Incoming Party fails to perform, the Counterparty has a direct remedy for their loss, separate from the contract itself.

Work Health and Safety (WHS)

If you are novating a construction contract, WHS laws are critical. The new party must ensure they hold the necessary licenses and insurance policies. In many states, contractors must have specific Home Building Compensation Fund (HBCF) insurance or equivalent. The novation should stipulate that the incoming party provides evidence of this insurance before the effective date.

Frequently Asked Questions (preview)

Does a Deed of Novation need to be stamped?

In many Australian states, stamp duty is no longer applicable to standard commercial agreements. However, transactions involving land transfers or leases may still attract duty. You should check with the relevant state revenue office, such as Revenue NSW or the SRO (Victoria), to confirm.

Can I novate a contract without the other party agreeing?

No. A novation requires the consent of all three parties. The Counterparty must agree to release the original party and accept the new party. Without their consent, the original contract remains in place.

What is the difference between an accord and satisfaction and a novation?

While both resolve disputes or change agreements, an accord and satisfaction usually involves an agreement to accept different performance to settle a debt. A novation is a complete substitution of a new party or a new contract, extinguishing the old one entirely.

Is a Deed of Novation valid if signed electronically?

Yes, in most cases. Following changes to Electronic Transactions Acts during the COVID-19 pandemic, electronic execution is widely accepted. However, the document must clearly state that it is executed as a deed. For companies, the electronic platform must satisfy the Corporations Act requirements regarding witnessing and authority.

Who keeps the original signed Deed of Novation?

Usually, each party keeps an original signed copy. Alternatively, one party holds the original and provides certified copies to the others. In an increasingly digital world, a "PDF copy" containing the electronic signatures of all parties is often treated as the original, provided the execution clause was drafted correctly.