Mistake, misrepresentation, duress, and undue influence

     A party to a contract may attempt to escape from its contractual obligations by contending that its assent to the proposed bargain was induced by mistake, misrepresentation, duress, or undue influence.  Legal scholars frequently refer to these theories as devices by which courts police bargains.   A party seeking such escape in litigation may do so either by asserting the mistake, misrepresentation, duress, or undue influence as a defense to an action for breach of the contract initiated by the other party or may bring an action for rescission of the contract.  We call a contract "voidable" if it is susceptible to escape on these grounds. While the doctrines permitting escape for mistake, misrepresentation, duress, or undue influence are conceptually distinct, you will find that the facts of some contract disputes may legitimately be characterized as invoking more than one of these doctrines. The lawyer seeking escape for her client should consider whether more than one of the doctrines might yield the desired result.

A.  Mistake

     Parties to a contract may make different kinds of mistakes, only some of which justify escape from the contract. 

     1.  In assenting to a bargain, one party may be serious and the other, unbeknowst to the first, may be joking.  Problem.Dispute.T-Shirts and Leonard v. Pepsico describe two actual recent disputes of this sort.  This type of dispute is typically analyzed by asking whether or not a contract was formed in the first place rather than asking whether the contract is voidable for mistake.  Where Party A is joking and Party B is not, the common law provides that the contract is formed unless Party B knew or had reason to know that Party A was joking.  Comment c to R.2d Contracts 18 states this rule another way:  "If one party is deceived and has no reason to know of the joke, the law takes the joker at his word."  Of course, if both parties are joking, no contract is formed.   Supplementary reading:  Farnsworth 3.7. 

     2.  The parties may attach a different meaning to the terms of their bargain, each mistakenly thinking that the other attaches the same meaning to those terms.  The law permits escape in some of these cases, often referred to as cases of misunderstanding. Raffles v. Wichelhaus is the classic decision. R.2d Contracts 20 is the modern formulation.  Once again, the traditional doctrine asks whether such a misunderstanding prevented the formation of the contract.  Supplementary reading: Farnsworth 7.9. 

     3.  The parties may have erred in transcribing their agreement into writing or other tangible form (e.g. an electronic record), such as by transposing numbers in stating an amount to be paid.  This kind of error is frequently referred to as an error in integration.  When such an error is proven, a court will correct the error through "reformation" of the writing.  Obviously, recourse to the court will not be necessary unless one party disputes the existence of the error.   Supplementary reading: Farnsworth 7.5. 

     4.   One or both of the parties may have entered into a bargain at least partially based upon a belief that is not in accord with the facts.  This type of mistake, sometimes referred to as a mistaken assumption, is "unilateral" if only one of the parties is mistaken and "mutual" if both parties share the mistaken assumption.  Whether or not a contract entered on the basis of mistaken assumption may be avoided depends upon several factors, including the nature of the mistake, its affect upon the value of the bargain, and the risks assumed by the parties.  Sherwood v. Walker is the classic case on mutual mistake, important primarily because of its contribution to contract lore.   The Sherwood formulation of the rule on mutual mistake has generally been abandoned.   R.2d Contracts 151 - 154 offer the modern formulation of the rules on both mutual and unilateral mistake.  The Knudsen, Donovan, and Drennan cases illustrate application of the modern rules.  In Knudsen, like many litigated cases involving mistake, the purchaser of real property discovers facts after the purchase that might have discouraged the purchase or lowered the price of the property had the facts been known prior to finalization of the bargain.  In Donovan, a car dealer seeks escape from a contract to sell a Jaguar for a price $10,000 less than it had intended to advertise.  In Drennan, a case more notable for its application of promissory estoppel to the subcontractor bidding process, a subcontractor seeks to avoid responsibility for a miscalculated bid.  Another common case involving mistake is the case of an injured tort victim who discovers different or more serious  injury after signing a contract releasing the tortfeasor or insurance company of further liability.  See Problem.Dispute.Settlement of Tort Claim (Part A). 

     R.2d Contracts 266, entitled "Existing Impracticability or Frustration" (not reproduced in these materials), offers a further refinement that does not seem to have attracted much attention in the case law.  That section provides that in some instances of mistake no contractual duty arises in the first instance, hence there is no need for rescission and no prima facie case of breach.   In an introductory note, the Reporter for R.2d Contracts explains the difference between a mistake permitting rescission and a mistake where no contractual duty even arises: 

"Underlying §266 is the notion of unexpected extreme hardship, either through impracticability of performance or frustration of purpose, and the legal consequence is that no duty to render performance arises. Underlying §152 is the notion of an unexpected material imbalance in the exchange, and the legal consequence is merely that the contract is voidable by the party adversely affected." (Emphasis added.) 

Supplementary reading: Farnsworth 9.2-9.4. 

     5.  Perhaps the most common type of mistake is remorse in disguise:  a party decides that entering the contract was a bad idea, an error in judgment, because the bargain turns out to be less valuable or less prudent than expected.   The law affords no relief for a mistake of this kind.  All contracts are gambles of a sort and the gambler is stuck with the results of the wager.  The trial and appellate courts in Bond Drug Co. of Illinois disagreed about whether the mistake in that case was a mistake in assumption about underlying facts (see item 4, above) or whether the mistake was one of judgment. 

B.  Misrepresentation

     Words or conduct of one party that misrepresent facts (e.g. "this car has never been in an accident") or conceal facts, or the failure of one party to disclose facts known to her, may induce the other to enter a contract based on incorrect assumptions.  Justifiable reliance upon a misrepresentation, or upon beliefs uncorrected because of concealment or non-disclosure, may in some cases permit the party who is misled to avoid the contract.  Avoidance because of misrepresentation is therefore closely akin to avoidance because of mistake, the only difference being the cause of the erroneous assumption.  But the common law rules governing avoidance for misrepresentation differ some from those relating to avoidance for mistake not caused by misrepresentation, in part to reflect the different degrees of culpability that can be associated with a misrepresentation (the misrepresentation may have been intentional, reckless, negligent, or innocent) and in part because of reluctance to sanction silence in the same way that the law sanctions words or conduct.  R.2d Contracts 159-169 present one formulation of the common law rules on misrepresentation. 

     Most of those rules govern what is often referred to as "fraud in the inducement," that is, misrepresentation that induces a party to enter a contract that he might otherwise not have entered but for the misrepresentation.  In contrast, R.2d Contracts 163 governs what is often referred to as "fraud in factum," where, because of a misrepresentation, one party does not even understand that he is entering a contract or does not understand one or more essential terms of the contract.  Illustrations 2-4 of the R.2d Contracts 163 offer examples of fraud in factum.  In contrast to fraud in the inducement (where the resulting contract is voidable), no contract is even formed where there has been fraud in factum.   The remaining discussion of misrepresentation concerns fraud in the inducement.  

     Fraud is a subset of misrepresentation.   Misrepresentation (or concealment) that induces assent of the other party is fraudulent when the party making the representation (or concealing a fact) intends the representation to induce assent by the other party and knows the representation to be untrue (or the concealed fact to be true).   Also see R.2d Contracts 162, which captures some variations on the knowledge requirement (also referred to as the "scienter" requirement). 

     Termites infest the common law of fraud.  Quill v. Newberry is one illustration that demonstrates the most common difficulty in a fraud case: how to prove the state of mind of the person alleged to have committed the fraud.  It may also add to your anxiety about buying a home.  

     Many cases also permit avoidance of a contract for negligent misrepresentation (the maker of the misrepresentation did not know but, in the exercise of reasonable care, should have known that the representation was untrue) and some cases permit avoidance of a contract for an innocent misrepresentation (the maker neither knew nor should have known the representation to be untrue).  Negligent misrepresentation or innocent misrepresentation, like fraud, are subsets of misrepresentation, and each of the three subsets collectively constitute "fraud in the inducement."  R.2d Contracts164(1) and 162(2) take an approach on negligent and innocent misrepresentation that differs from the common law in many jurisdictions; those sections do not distinguish between negligent and innocent misrepresentation but focus instead on whether the misrepresentation was material.  In other words, in cases of non-fraudulent misrepresentation, the Restatement approach examines the effect of the misrepresentation on the recipient rather than the culpability of the party making the misrepresentation. 

     Deciding when non-disclosure of known facts is actionable has given the courts greater difficulty, both because of a western philosophical disposition against compulsion of speech or other behavior (like the "good samaritan" problem in torts) and because it is difficult to decide which of many facts within a party's knowledge ought to be disclosed.  Green Acres v. First Union National Bank of Florida discusses the modern fate in Florida of the ancient doctrine of "caveat emptor" ("let the buyer beware").  The case law elsewhere takes a wide variety of positions.  R.2d Contracts 161 is one formulation. 

     Legislatures in some states have responded to the issue of non-disclosure with statutes itemizing required disclosures.  For example, the seller's compliance with the Georgia mandated Seller Disclosure Form referred to in Quill v. Newberry at least eliminated from that case the question of whether non-disclosure was actionable.  Legislation in California mandates extensive disclosures upon the transfer of residential real property, both by the transferor (Cal. Civ. Code 1102 et. seq.) and by certain real estate brokers and salespersons (Cal. Civ. Code 2079 et. seq).  Problem.Planning.Residential real estate disclosure asks you to struggle with the issue of non-disclosure and consider formulation of a legislative solution. 

     In lieu of avoiding a contract on the ground of misrepresentation, an aggrieved party may choose to live with the contract (sometimes referred to as "affirming the contract") but seek tort damages in an action often referred to as an action for deceit but sometimes also called an action for fraud or an action for misrepresentation.  For example, the disappointed home buyer in Quill v. Newberry might have liked the home enough to keep it; instead of seeking to rescind his contract of purchase, he might instead have sued the seller for tort damages (both damages that would compensate for the cost of repairing the home and, if malice be shown, for punitive damages).  In some instances, such as instances of non-disclosure, courts are less likely to grant tort relief than they are to exercise their equitable jurisdiction to permit rescission of a contract.  

     On occasion a party to a contract makes her promise or promises without any intention of performing.  This is a misrepresentation of intention rather than a misrepresentation of facts and is sometimes referred to as promissory fraud.  See Lazar v. Superior Court.  Promissory fraud is a tort, and punitive damages are available if the aggrieved party can demonstrate malice.  As a consequence, facts permitting, lawyers pleading breach of contract on behalf of a client may also plead promissory fraud and ask for punitive damages, thereby attempting to enhance the settlement value of the lawsuit.  Is this a legitimate litigation tactic or is it too convenient a way to circumvent the prohibition of punitive damages for breach of contract?  (We see later, in Freeman & Mills, Inc. v. Belcher Oil Co., that punitive damages are generally not available as a remedy for breach of contract.)

     Supplementary reading:  Farnsworth 4.10-4.15.

C. Duress

     Virtually every contract is the product of some duress, that is, virtually every contract is a choice made under some degree of compulsion. Consider your frequent contracts to buy groceries formed at the check-out counter of your grocery store. Certainly you would prefer to be given your groceries free, but of course you must pay for them.  The cashier's prompt for you to pay a designated amount is simply a polite way of saying that if you want to eat the food that the store carries you must pay the store money.  But in a capitalistic culture, we are surely not offended by the notion that there is a price for almost everything.  Accordingly it is no surprise that our legal system does not allow one to avoid the contract to purchase groceries with the plea that payment was extorted by an implicit threat of starvation. 

     At the same time we would have no difficulty agreeing that a contract forced upon us by threat of physical harm (the proverbial gun to the head) should be avoidable by the victim of the threat.  Indeed the earliest instances of avoidance on the grounds of duress involved threats of physical harm. 

     Drawing a principled and workable line between these two extremes is the challenge.  R.2d Contracts 175 and 176 respond to the challenge with a list of "improper threats," a few of which are deemed improper only if the resulting exchange is not on fair terms.  The list concludes with an open ended invitation to judicial discretion: " . . . the resulting exchange is not on fair terms and . . . what is threatened is otherwise a use of power for illegitimate ends."   In order to avoid the contract, the party threatened must also demonstrate that the threat induced assent to the contract and that the victim of the threat had no reasonable alternative but to assent.   Many of the modern cases involve an attempt to avoid a particularly unfavorable settlement agreement.  Austin Instrument, Inc. v. Loral Corporation, involving the modification of contract to supply parts to contractor who needed the parts to fulfill a contract to supply equipment to the navy, and Totem Marine Tug & Barge, Inc. v. Alyeska Pipeline Service Co., involving the settlement of contract claim for transporting goods to be used in construction of the Alaska pipeline, are useful illustrations that also survey the common law of duress.   

     Supplementary reading:  Farnsworth 4.16-4.19.

D. Undue influence

     Short of duress, one party (the victim) may complain that his or her manifestation of assent to a contract was induced through the improper persuasion of another in whom the victim placed special trust and confidence.  See R.2d Contracts 177.  Improper persuasion may result from one or more of several factors such as constant pressure on the victim, an apparent need for the victim to decide quickly, unavailability to the victim of independent advice, and weakness or infirmity of the victim.  Relationships creating special trust and confidence (often referred to as creating a fiduciary duty) include husband and wife, attorney and client, doctor or mental health counselor and patient.   We consider one example in Smith v. Ellison, in which a daughter convinced her elderly mother to convey interests in real property to the daughter.   

     Supplementary reading:   Farnsworth 7.4 - 7.5.