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Legal Memorandum: Third-party Beneficiary and Void Contracts

Issue: Under federal law in the Third Circuit, may a purported third-party beneficiary of a arbitration contract continue to press for his or her benefits under the contract notwithstanding the fact that the contract has been declared void ab initio?

Area of Law: Alternative Dispute Resolution, Business Organizations & Contracts, Litigation & Procedure
Keywords: Rights of third-party beneficiary; Contract void ab Initio; Limitations imposed by the law
Jurisdiction: Federal
Cited Cases: 923 F.2d 1062; 311 F.3d 237
Cited Statutes: Restatement (Second) of Contracts § 309
Date: 03/01/2005

Section 309 of the Contracts Restatement provides that a contract that is void ab initio presents a complete defense against any alleged beneficiary to the contract.  Subsection (1) states:  “A promise creates no duty to a beneficiary unless a contract is formed between the promisor and the promisee; and if a contract is voidable or unenforceable at the time of its formation [i.e., void ab initio] the right of any beneficiary is subject to the infirmity.”  Restatement (Second) of Contracts § 309 (1979) (emphasis added).  Comment (a) to this section makes clear that “the right of an intended beneficiary is created by contract, and in the absence of contract there is no such right.  Moreover, where there is a contract, the beneficiary’s right is subject to any limitations imposed by the law.”  Id., cmt. a (emphasis added). 

In O’Leary v. Liberty Mut. Ins. Co., 923 F.2d 1062 (3d Cir. 1991), the court evaluated the interplay between the exclusivity of Pennsylvania’s workers’ compensation statute and an arbitration agreement contained in an insurance contract.  The plaintiff filed an action in federal district court to compel arbitration under the insurance contract.  The district court denied the request.  On appeal, the Third Circuit held:

Generally, when presented with a petition to compel arbitration of an underinsured motorist claim, a court is limited to determining whether the policy contains an agreement to arbitrate and whether the dispute falls within the ambit of the arbitration clause. Once these […]

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