Understanding Governing Law and Jurisdiction Clauses in Commercial Contracts

Commercial contracts are the backbone of any business relationship, setting out the rights and responsibilities of each party. Yet, one aspect that is often overlooked, especially by startups and small business owners, is the significance of governing law and jurisdiction clauses. These clauses may seem like mere legal formalities, but they can have a profound impact on how disputes are resolved, what laws will be applied, and where proceedings will take place if matters turn sour.

Understanding these clauses is essential for business owners, entrepreneurs, and individuals navigating the complexities of modern commerce. This guide explores why governing law and jurisdiction clauses matter and offers practical guidance on how to approach them in your commercial contracts.

What are Governing Law and Jurisdiction Clauses?

Governing Law Clause:

A governing law clause specifies which country’s or region’s laws will govern the interpretation and enforcement of the contract. For example, an agreement between a London tech startup and an international supplier might state that the contract is governed by the laws of England and Wales.

Jurisdiction Clause:

A jurisdiction clause determines which court or dispute resolution forum will have the authority to hear any disputes arising from the contract. In the UAE for example, a contract may be governed by the laws of England and Wales, but subject to the jurisdiction of the Dubai International Financial Centre (DIFC) court. This means that any dispute arising under or in relation to the contract would be heard by the judges of the DIFC court, applying English law.

While these clauses often appear together, they serve distinct functions and should be carefully considered as part of any risk management strategy.

Why Are Governing Law and Jurisdiction Clauses Important?

1. Clarity and Predictability

Choosing a governing law provides certainty about which rules will apply if a dispute occurs. This helps to avoid confusion or arguments later about whose law should be used, reducing both legal costs and business risk. If, for example, you are a UK-based business, you may prefer English law, which is widely respected for its commercial fairness and predictability.

2. Consistency in Dispute Resolution

If each party assumes their own country’s laws apply, this can create costly, time-consuming legal battles before even addressing the substantive dispute. A clear clause eliminates this ambiguity.

3. Practicality and Convenience

Jurisdiction clauses help avoid legal wrangling over where disputes must be resolved. Without this clarity, each side may start proceedings in different countries, leading to duplicated effort and increased costs. By agreeing upfront to a particular court—for example, “the courts of England and Wales have exclusive jurisdiction”—you reduce logistical headaches and uncertainty.

4. Enforcement and Recovery of Awards

Choosing the right jurisdiction is crucial for enforcing awards and recovering amounts granted by a court or arbitration. Jurisdictions differ widely in their rules and procedures for recognising and enforcing judgments or arbitral awards. Opting for a jurisdiction with a reliable and efficient legal system can significantly reduce the risks of non-compliance or delays in recovery. It's also essential to consider where your counterparty's assets are located. For instance, securing a favorable judgment in the UAE courts may prove futile if your counterparty’s assets (such as money held in the company's bank account) are located in China, as enforcing a judgment granted by the UK courts in China could result in costly and time-consuming delays.

5. Risk Management

Some legal systems favour one party over the other or may not recognise certain types of agreements. By specifying the law and court, you can avoid surprises that might arise from unfamiliar or unfavourable legal systems.

Common Approaches to Governing Law and Jurisdiction

1. Exclusive Jurisdiction

The parties specify that only the courts of a particular country or region can hear disputes (e.g., "The courts of England and Wales shall have exclusive jurisdiction"). This is the most straightforward and reduces forum-shopping.

2. Non-Exclusive Jurisdiction

The contract allows for disputes to be settled in more than one forum, giving flexibility if you do business internationally but at the risk of increased complexity.

3. Arbitration and Alternative Dispute Resolution

Some contracts refer disputes to arbitration rather than courts. If you choose this route, the seat of arbitration and applicable rules must be clearly specified.

Considerations When Choosing Governing Law and Jurisdiction

• Familiarity: Choose a law and forum familiar to your legal advisors and accessible for your business.

• Enforceability: Ensure that a judgement in the chosen jurisdiction can be enforced easily where the other party’s assets are located.

• Neutrality: For truly international relationships, parties sometimes pick a neutral jurisdiction, such as English law, because of its reputation.

• Costs: Consider the cost and convenience of litigating or arbitrating in the chosen forum.

• Local Requirements: Some countries may have mandatory laws that override your contractual choice.

Risks of Ignoring or Misunderstanding These Clauses

• Unexpected Legal Battles: If not specified, each party might try to argue for their home forum, leading to parallel proceedings or race-to-court situations.

• Unfavourable Laws: Courts might apply laws that are less favourable to your business, impacting the contractual outcome.

• Enforcement Issues: Winning in court is of little value if you cannot enforce the judgement in the relevant jurisdiction.

• Damage to Relationships and Reputation: Messy disputes can sour business relationships and damage your brand's reputation.

Practical Steps for Business Owners and Entrepreneurs

1. Never Accept Boilerplate Clauses Blindly

Legal templates often have standard clauses that may not align with your interests. Always review them and consider the implications for your particular transaction.

2. Get Legal Advice Early

Engage a lawyer with cross-border experience when dealing with international contracts or unfamiliar jurisdictions. The cost is often small compared to the risk of protracted disputes.

3. Consider Your Partner’s Location and Assets

Think about where your counterparty is based and where their assets are located. Is it practical to enforce a judgement there?

4. Consistency Across Agreements

If you have multiple related contracts (e.g., a supply agreement and a separate licencing agreement), use consistent governing law and jurisdiction clauses to avoid conflicting obligations or multiple proceedings.

5. Keep a Record

Maintain a register of your contracts and their governing law/jurisdiction clauses. This helps with risk assessment and future negotiations.

Frequently Asked Questions

What happens if there is no governing law or jurisdiction clause?

Courts will use conflict of law rules to decide, which can lead to unpredictable and expensive battles before the real issues are even discussed.

Can I choose any law or jurisdiction I like?

Subject to public policy and mandatory local laws, parties generally have broad freedom to select governing law and jurisdiction. However, the effectiveness of enforcement in the chosen country remains a key consideration.

Are English law and courts a good choice for international contracts?

English law is widely respected in international commerce for its neutrality and support for contractual freedom. However, the right choice depends on your specific business needs.

Final Thoughts

Governing law and jurisdiction clauses are not mere technicalities; they underpin the certainty and stability of commercial relationships. Ignoring them puts your business at risk of unnecessary legal complications and expense.

Business owners, entrepreneurs, and founders should treat these clauses as strategic elements in every contract and seek professional advice tailored to their needs.  ____________________________

This material is provided for general information only. It should not be relied upon for the provision of or as a substitute for legal or other professional advice.