Articles Posted in Contract Law

A couple of years ago the Indiana Business Law Blog posted an article about two different Indiana statutes of limitations for breach of contract:

  • A six-year statute of limitations at Ind. Code § 34‑11‑2‑9, which applies to “promissory notes, bills of exchange, or other written contracts for the payment of money”
  • A ten-year statute of limitations at Ind. Code § 34‑11‑2‑11, which applies to “contracts in writing other than those for the payment of money”

More specifically, we considered whether a contract that for the payment of money that also includes other types of obligations is subject to the six-year or the ten-year statute of limitations.  An old Indiana Supreme Court case, Yarlott v. Brown, 192 Ind. 648, 138 N.E. 17 (Ind. 1923), held that a mortgage which also included the obligation to repay the underlying loan was subject to the statute of limitations for contracts “other than those for the payment of money” because, unlike notes and bills of exchange, a mortgage includes provisions in addition to an obligation to pay money.  However, a more recent Indiana Court of Appeals case, Aigner v. Cass School Tp. of Porter County, 577 N.E.2d 983 (Ind. Ct. App. 1991) held that a teacher’s contract was subject to the six-year statute of limitations, even though a teacher’s contract also contains provisions other than an obligation to pay money.

Since we posted that article, there have been at least two other cases addressing the same issue.

Folkening v. Van Petten

In Folkening v. Van Petten, 22 N.E.3d 818 (Ind. Ct. App. 2014), the court was presented the question of which statute of limitation applied to a settlement agreement that required Folkening to pay Van Petter $175,000 in exchange for stock in a company and to either satisfy the mortgage on a certain piece of real estate or to convey the property to Van Petten.  Folkening failed to pay the $175,000 and neither satisfied the mortgage nor conveyed the property.  The court held that the settlement agreement was a contract other than for the payment of money and, accordingly, that the applicable statute of limitations was ten years, not six.  The court held that,

[Contracts subject to the six-year statute of limitations] are strictly agreements to pay money to another party; they are not agreements to pay money in exchange for something else, such as goods, services, real property, or stock shares such as those at issue here.

Even so, one might argue that Van Petten’s two claims were subject to different statutes of limitations, that the breach of the obligation to pay $175,000 was subject to the six-year statute and the breach of the obligation to convey the property was subject to the ten-year.  However, the Court of Appeals answered held that both claims were subject to the ten-year statute of limitations.  In doing so, the court explained that the substance of the contract, not the nature of the claim, controls the selection of the applicable statute of limitations.  Even so, one should not overlook the fact that Folkening was a 2:1 decision, with Judge Riley, who would have applied the six-year statute of limitations, dissenting.

Pecan Shoppe of Whitestown v. SJC, Inc.

Just last week, in Pecan Shoppe of Whitestown v. SJC, Inc., No. 06A05-1504-PL-177, 2016 Ind. App. Unpub. LEXIS 24 (Ct. App. Jan. 14, 2016) the court of appeals decided a case dealing with an asset purchase agreement for, among other things, certain real estate.  The agreement contained a provision that required the buyer to make additional payments, above and beyond the original purchase price, if certain conditions were satisfied after the sale closed.  The conditions were satisfied, but the buyer failed to make the additional payment, and the seller sued.  The litigants were at odds regarding the date on which the statute of limitations began to run.  Under the seller’s theory, the lawsuit was filed within the six-year statute of limitations, and under the buyer’s theory it was not.  However, even under the buyer’s theory the lawsuit was filed within the ten-year statute of limitations.  Apparently, however, the question of the applicable statute of limitation was not presented to the court of appeals because the court simply held that the lawsuit was barred because it was not filed within the six-year statute of limitations.  The court did not even mention the possibility that the applicable statute of limitations might be ten years, not six.

So what is the answer?

So what is the correct statute of limitations for breach of a written contract to pay money that also includes other substantive provisions, such as service contracts and purchase agreements?  Yarlott answers the question for mortgages, but what about other types of agreements? [1]   We now have at least three relatively recent opinions from the Court of Appeals, Aigner, Folkening, and Pecan Shoppe, addressing breaches of contract that, as far as we can tell, are indistinguishable for the purpose of selecting the applicable statute of limitations.  One of them – Folkening – applies the ten-year statute of limitations; the other two apply the six-year statute.  However Pecan Shoppe can be disregarded for two reasons:  First, the Court of Appeals did not actually decide the question, and, second, it is an unpublished decision that cannot be cited as precedent.  At the moment, it appears to us that Folkening and Aigner cannot be reconciled and that only one of them can be correct. Which one?  That remains to be seen.

MS

[1]There is at least older Court of Appeals case, Lewis v. Davis, 114 Ind. App. 715, 55 N.E.2d 119 (1944), that is consistent with Yarlott, but, like Yarlott, it deals with a mortgage that contains an obligation to pay and sheds no new light on other types of contracts, such as purchase agreements and service contracts.

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This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.

The last post in our series on mechanics’ liens addresses a situation in which mechanics’ liens are not available. For certain types of projects, the Indiana Mechanic’s Lien Statute permits the owner and principal contactor to enter into an agreement or stipulation that prohibits liens that arise from a particular contract.

There are essentially two categories of projects that are eligible for no-lien agreements. The first category includes “class 2 structures” (as defined at Indiana Code section 22-12-1-5), which encompasses single- and double-unit residential structures and some related projects. The second encompasses construction owned by certain types of utilities, including public utilities, municipal utilities, and rural membership utilities. The details of the projects that are eligible for no-lien agreements can be found at Indiana Code 32-28-3-1(3).

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[Note: This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.]

We’ve been examining the role of mechanics’ liens in construction contacts, including the way they reallocate credit risk among contractors and the owner of a construction project. The Indiana Mechanics’ Lien Statute includes another remedy for subcontractors who do not get paid, entirely apart from a mechanic’s lien against the real property where the construction takes place. The statute does not give a name to the remedy, but it’s often called a personal liability notice or PLN.

To see how it works, let’s go back to the hypothetical example of our last article. Assume you are a subcontractor with a $15,000 claim against the general contractor, a claim the GC disputes. Now let’s assume that the deadline for filing a sworn statement and notice of intention to hold a mechanic’s lien has already slipped by. Are you out of luck?

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[Note: This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.]

So far we’ve looked at the basics of subcontracting and allocation of credit risk, how a mechanic’s lien changes things by reallocating credit risk, and how a contractor, subcontractor, supplier, or worker goes about acquiring a mechanic’s lien. Now we’ll discuss how to enforce a lien once you have it. Assume you are a subcontractor with a claim against the general contractor, or GC, for $15,000. The GC has withheld that amount from your fees, accusing you of not finishing your work on schedule. The general contractor says it incurred $15,000 in additional labor charges because its workers had to wait around with nothing else to do until your work was completed. You blame the general contractor for the delay and additional expense, and you have recorded a sworn statement and notice of intention to hold a mechanic’s lien in the amount of $15,000. A copy of it has been sent to the owner.

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[Note: This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.]

In the first article in this series, we discussed the basics of credit risks associated with subcontracting in an area other than construction. In the second, we examined how a mechanic’s lien reallocates those credit risks for construction contracts. In this one, we explain how a contractor or subcontactor goes about acquiring a mechanic’s lien. For a change of pace, we’ll do it in a question-and-answer format.

Some caveats: First, mechanic’s lien requirement vary significantly from state to state. Given that this is the Indiana Business Law Blog, we’ll answer the questions based on Indiana law. Also note that the Indiana Mechanic’s Lien Statute is filled with complicated, cumbersome, even archaic language that can be difficult for even lawyers to parse, so we’ll try to give answers that are more easily understood. However, that also means we may leave out some details, making the answers a bit imprecise in some circumstances. As always, this blog is not legal advice and you should not rely on it as a substitute for legal advice.

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[Note: This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.]

In part 1 of this series, we discussed a hypothetical situation with a company that hired an ad agency, with the ad agency subcontracting some work to a production company and purchasing advertising time on a television station. The production company bore the ad agency’s credit risk because its contract was with the ad agency, and when the ad agency went out of business the production company faced the possibility of not being paid. In contrast, the television station did not bear the ad agency’s credit risk because its contract with directly with the ad agency’s client. The ad agency’s client faced the possibility of having to pay for the television air time twice – once to the ad agency and a second time directly to the television station when the ad agency failed to pay for the air time on the client’s behalf.

Now let’s look at the credit risks associated with a construction project in which the owner of a construction project hires a general contractor to complete the entire project on a time-and-materials basis, which means that the price paid by the owner is equal to the amount the general contractor pays for the labor (i.e., the “time”) and materials required to do the construction, plus a markup to cover overhead and profit. The general contractor does some of the work with its own employees and subcontracts some of the work, including the installation of the electrical wiring, to another contractor.

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[Note: This one of a series of six posts regarding mechanics’ liens:

Part 1. The basics of credit risk and subcontracting.

Part 2. Reallocating risk in construction projects.

Part 3. Acquiring a lien.

Part 4. Enforcing a lien.

Part 5. Personal liability notices.

Part 6. No-lien agreements.]

This starts a short series of blog articles discussing mechanics’ liens and their cousins, notices of personal liability, concepts that arise in the context of construction contracts and similar agreements. To understand what’s special about construction contracts, you need to understand a bit about how contract law, subcontracting, and credit risk work in other settings. So let’s review the basics.

Imagine your company signs an advertising agency agreement, hiring the ad agency to create a television advertising campaign for your business. The ad agency comes up with the ideas for the commercials, hires a production company to produce them, and purchases advertising time on your behalf from local television stations. The contract to produce the commercial is between the ad agency and the production company, but the contract with the television station is between the television station and your company, signed by the ad agency as your company’s agent, as it is authorized to do by the ad agency agreement.

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iStock_000007946595Small.jpgOn December 12, 2008, Layne and Anita Dellamuth bought flooring materials and installation services from Carpets Unlimited. The Dellamuths made a downpayment that left a balance of a little more than $23,000. Carpets Unlimited subcontracted the installation services to Jared Keeton, who performed that work later the same month, but apparently not to the liking of the Dellamuths because a dispute arose between them and Keeton about the quality of the installation. In addition, the Dellamuths objected to additional charges that Keeton added to the amount owed. In February 2009 Carpets Unlimited corrected the work at no additional cost to the Dellamuths.

By August 2011 the Dellamuths still had not paid Carpets Unlimited the remaining $23,000. Carpets Unlimited sent the Dellamuths a letter and invoice, demanding payment, by certified mail, which the Dellamuths signed for on August 27. Another letter and invoice, sent on June 26, 2012, was returned unclaimed. In August the same year, Carpets Unlimited sued the Dellamuths, and the trial court granted Carpets Unlimited’s motion for summary judgment. The Dellamuths appealed, and today the Indiana Court of Appeals affirmed the trial court’s decision.

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iStock_000025338621Small.jpgI remember a story told by a business owner who had been involved in the negotiation of a very complicated contract, with both sides represented by high-priced lawyers. In one particularly brutal negotiating session, the lawyers argued at length about a particular provision, with one side saying it should be a warranty and the other side saying it should be a covenant. At long last, they reached some sort of agreement, and everyone took a break for dinner. The business owner related that, as he rode down the elevator with his lawyer, he asked, “What’s the difference between a covenant and a warranty?” The answer: “Not much.” And that is not too far from the truth. But it would be a very different story if the question had been, “What is the difference between a covenant and a condition?”

The importance of the distinction between a covenant and a condition was driven home by a 2010 decision from the Ninth Circuit Court of Appeals. The decision received a great deal of attention at the time, and I used it as an assignment in the law school class I was teaching on contract drafting. Even though the decision has been thoroughly discussed from every angle, it still serves as a useful reminder to lawyers not to be careless with license agreements and to pay particularly close attention when drafting conditions.

The case was MDY Industries v. Blizzard Entertainment, and it dealt with a license agreement for the popular online role-playing game, World of Warcraft, or WoW. The license agreement prohibited the licensee from using bots to simulate people playing WoW. There was no question that the licensee had violated that term of the agreement. The question was whether the provision was a covenant or a condition.

A covenant is a promise by a party to a contract to do something or not to do something. If the promise is broken, the breaching party is liable to the other party for monetary damages — usually the amount of money required to put the non-breaching party in the same situation it would have occupied if the covenant had not been broken.

In contrast, a condition is a fact that must exist (or not exist) before another substantive provision of a contract takes effect. In the context of a license agreement, the other substantive provision is the license itself. If the conditions to a license are not satisfied, the license is void. And if the license is void, the breaching party will probably be liable for infringement of the underlying intellectual property — in this case, the copyright to the software.

So the question before the Ninth Circuit was whether the crucial contract provision was a promise by the licensee not to use bots or a condition on the grant of the license itself. If the former, the licensee would be liable for monetary damages, which would amount to relatively little. However, if the prohibition on using bots was a condition to the license, the licensee would be liable for copyright infringement, including statutory damages that could greatly exceed the damages owed for breach of contract.

In analyzing the provision, the Ninth Circuit noted that the folowing language was under a heading, “Limitations on Your Use of the Service.”

You agree that you will not . . . create or use cheats, bots, “mods,” and/or hacks, or any other third-party software designed to modify the World of Warcraft experience . . .

First the court disregarded the heading, using the common rule of contract interpretation that headings are for convenience only and are not part of the actual language of the contract. Once that was done, the court noted that there was nothing else about the language to connect the prohibition on bots to the scope of the license or the effectiveness of the grant of the license. Instead, the provision was written merely as an ordinary agreement, or a promise. If the copyright owner’s real intent when the license agreement was drafted was to restrict the scope of the license, it could easily have done so by designating the prohibition as a condition to the license. The resolution of the case, or at least part of the case, turned on that subtle, technical drafting issue.

So if you are ever in a contract negotiation and your lawyer is arguing with the other side that a provision should be a covenant instead of a warranty, or vice versa, you might want to take a break and, outside the negotiating room, ask your lawyer if it is really worth the time to argue about it. However, if your lawyer is arguing with the other lawyer about a covenant versus a condition, you can be fairly certain it really is worth the time.
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iStock_000030882778Small.jpgLast year we wrote about a decision of the Indiana Court of Appeals, Fisher v. Heyman, that addressed the amount of damages owed to the seller of a condominium after the buyers refused to go through with the sale unless the seller corrected a minor electrical problem. See “Anticipatory Breach and Damage Mitigation: A Minefield for Real Estate Sellers?” Today the Indiana Supreme Court overruled the decision of the Court of Appeals.

The case began with a purchase agreement for a condo between Gayle Fisher, the seller, and Michael and Noel Heyman, the buyers. The purchase agreement permitted the buyers to have the condo inspected and to terminate the agreement if the inspection revealed major defects. The inspection report showed that some electical outlets and lights did not work. The Heymans informed Fisher that they would terminate the contract unless Fisher corrected the problem by a specified date. Fisher did not meet the deadline, and the Heymans refused to go through with the purchase. However, shortly after the deadline passed, Fisher had an electrician repair the problems, for which the electrician charged her $117. By then, however, the Heymans had found another property and refused to purchase Fisher’s condo. Fisher put the condo back on the market, but the best offer she received was $75,000 less than the price that the Heymans had agreed to pay. In the meantime, she incurred additional expenses that raised her damages to over $90,000.

The buyers argued that they believed the electrical problem was a major defect that allowed them to back out of the deal. However, the trial court and the Court of Appeals disagreed with the buyers, holding that the demand for repairs was an anticipatory breach, a concept we discussed in our previous blog post. The Supreme Court decision changes nothing about that aspect of the Court of Appeals decision. Both the Court of Appeals and the Supreme Court held that trial court did not err by finding that the electrical problems were not a “major defect” and that the buyers breached the purchase agreement by making a demand that they were not entitled to make. The difference between the two opinions is how to analyze the seller’s duty to mitigate damages.

When one party breaches a contract, the other party is entitled to damages sufficient to put the non-breaching party in the same position it would have occupied had the contract been performed. However, the non-breaching party must use reasonable efforts to mitigate the damages. This case illustrates the concept nicely. The original purchase price was $315,000. Sometime later, Fisher received, but rejected, an offer of $240,000. Ultimately, she sold the condo for $180,000. The trial court found (and the Supreme Court affirmed) that Fisher acted unreasonably when she rejected the offer of $240,000. Accordingly, the most she could recover was the difference between $315,000 and $240,000, not the difference between $315,000 and $180,000. The question, however, is whether the doctrine of mitigation of damages required Fisher to comply with the Heymans’ demand to have the electrical problem fixed. If so, she would be able to recover only $117, the amount it cost her to fix the electrical problems. Last year, the Court of Appeals said yes.

Today, the Supreme Court said no, agreeing with Judge Cale Bradford of the Court of Appeals. In his dissenting opinion, Judge Bradford reasoned that the doctrine of mitigation of damages does not require the non-breaching party to accede to a demand that creates a breach. The Supreme Court agreed with that reasoning and elaborated that, just as a non-breaching party may not put itself in a better position than it would have been had the contract been performed as agreed, neither can the breaching party. Here, the buyers agreed to pay $315,000 for a condo that had minor electrical problems (if tripped ground fault interrupters and burnt out light bulbs can be considered “problems”), and the seller was not obligated to sell them a condo with no electrical problems for the same price. Result: The Heymans owed Fisher not $117, but more than $90,000.

Setting aside the legal arguments, the Supreme Court decision avoids some very practical, real-world issues that would have been posed by the Court of Appeals decision. Had that decision stood, the law in Indiana would have allowed a party to a contract to continue to make additional demands on the other side, confident that the worst thing that could happen is that it would be required to pay the incremental cost of the demand. Conversely, the party on the receiving end of those demands would be forced to choose between acceding to them or being satisfied with the incremental cost of the demand, regardless of the magnitude of its actual damages.

A simple example: Imagine a musician who agrees to perform at a concert for $20,000. The organizer of the concert has already incurred another $30,000 in expenses and sold $100,000 worth of tickets. At the last minute, the musician refuses to go on stage unless he is paid an additional $10,000. The organizer would be forced to choose between paying the additional $10,000 or suffering a loss of $80,000, while being able to recover no more than $10,000. Surely that is not how mitigation of damages is supposed to work.

[Note: In discussing the example of the last paragraph, this post originally mentioned a loss of $130,000 rather than $80,000, but that’s not the way damages are calculated. The organizer’s damages would be the cost of refunding the price of the tickets ($100,000) less the $20,000 that the organizer originally promised the musician. The $30,000 in expenses would have been incurred even if the concert proceeded, giving the organizer a profit of $50,000. If the musician breached, the organizer would have to refund the price of the tickets, leaving the organizer with a $30,000 loss. To put the organizer in the same position it would have occupied had the contract not been breached — i.e., with a $50,000 profit — the musician would owe the organizer $80,000.]
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