- 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”
Last week I posted an article about apparent authority of a member or manager of an Indiana limited liability companies to bind the LLC, usually by signing a contract on behalf of the company, including a discussion of a 2013 decision of the Indiana Court of Appeals, Cain Family Farms vs. Shrader Real Estate & Auction, addressing the common law doctrine of apparent authority and the provisions of the Indiana Business Flexibility Act that bestow apparent authority on members and managers. Under the facts presented by the record, the court held that apparent authority existed and, in particular, “Whether we consider the question of apparent authority under the common law or the
Indiana Business Flexibility Act, the outcome is the same.”
As discussed in last week’s Indiana Business Law Blog post, one can imagine situations in which the statute would establish apparent authority but the common law analysis would not, and vice versa. It seems clear that a member or manager has authority to bind a limited liability company if the Indiana Business Flexibility Act says so, even if the member or manager would not have apparent authority under the common law analysis. But what if it’s the other way around? Will an Indiana court enforce a contract signed by a member or manager on behalf of the LLC if the member or manager would have apparent authority under the common law but not under the Indiana Business Flexibility Act? Although the Cain Family Farm decision does directly address that question, the Court of Appeals appears to treat the two bases of apparent authority as independently viable, implying that Indiana courts will recognize the apparent authority of a member or manager under the common law even if apparent authority does not exist under the Indiana Business Flexibility Act.
Since I posted the article last week, I’ve corresponded with my friend John Cunningham, a New Hampshire attorney, a recognized expert on LLCs, a blogger, and co-author of Drafting Limited Liability Company Operating Agreements, my go-to reference for LLC law and operating agreements. I asked John about the question, and he pointed me to the official commentary of the Revised Uniform Limited Liability Company Act, which discusses why the RULLCA leaves the issue of apparent authority of members to the common law. See RULLCA Section 301.
After reflecting on my correspondence with John and reading the commentary to the RULLCA, I’ve come to believe that the path on which the Court of Appeals appears to have placed Indiana law is a good one. Note that question of apparent authority is irrelevant if the member or manager has actual authority to bind the company, and it cannot be used by another party to avoid a contract with a limited liability company over the LLCs objection. (If nothing else, the LLC can always ratify the contract.) The question arises only when an LLC tries to avoid a contract signed by a member or manager in the absence of actual authority, and the question is, who suffers the consequences — the LLC or the other party? Although the Indiana Business Flexibility Act creates some areas of relative certainty (which I believe is superior to the intentional silence of the RULLCA), it also denies apparent authority under some circumstances in which the other party to the contract reasonably believes, based on the conduct of the LLC, that the member or manager is acting within his or her authority.
In my personal view, it is better public policy to err on the side of enforcing contracts in those situations by maintaining the common law doctrine as a viable basis for apparent authority, independent of the statutory basis. First, the LLC is in the best position to control the actions of its members or managers, and the operating agreement can provide a remedy when one of them misbehaves. Second, the LLC is also in the best position to control its own actions and to avoid conduct that cloaks its representatives with apparent authority when they lack actual authority. Third, to fail to enforce a contract that the other party entered into in good faith, based on a reasonable belief that the member or manager had authority to bind the company (or to require prospective counterparties to consult the public record before signing a contract with a limited liability company) could cause others to be overly cautious, even leery, of doing business with LLCs.
Whether Indiana courts agree with this analysis remains to be seen.
Whether a particular person has the authority to execute a contract on behalf of another person or entity is a standard question of agency law. If the principal has expressly or impliedly authorized an agent to execute contracts on behalf of the principal, the agent is said to have actual authority. However, a person who does not have actual authority can nonetheless bind the principal if that person has apparent authority.
Common Law Standard for Apparent Authority
The common law analysis of apparent authority is well established. An agent has apparent authority when a third person reasonably believes, based on the conduct of the principal, that the agent has authority. The reason for the belief need not be an actual statement by the prinicipal but can be (and usually is) found in the circumstances in which the prinicipal places the agent, but it is essential that the third party’s belief is based on the conduct of the principal; the statements or actions of the agent cannot create apparent authority. Moreover, if the third person knows that the agent has no actual authority, apparent authority does not exist.
Apparent Authority under the Indiana Business Flexibility Act
The Indiana Business Flexibility Act (Article 23-18 of the Indiana Code) contains different rules for the authority of members and managers of limited liability companies, and the rules are slightly different for LLCs formed on or before June 30, 1999 (Section 23-18-3-1), and LLCs formed after that date (Section 23-18-3-1.1).
If the LLC’s articles of organization do not provide for managers (i.e., a member-managed LLC), each member is an agent of the LLC for the purpose of the LLC’s business and affairs. Accordingly, the act of any member for those purposes, including the execution of a contract, binds the LLC, subject to the following exceptions:
- The member does not have actual authority and the person with whom the member is dealing knows that the member does not have actual authority.
- The act is not apparently for the purpose of carrying on the LLC’s business and affairs in the usual manner, unless the member has been granted actual authority by the operating agreement or by unanimous consent of the members.
- For LLCs formed after June 30, 1999, the articles of organization provide that the member does not have the authority to bind the company.
If the LLC’s articles of organizations provide for managers, a member acting solely in the capacity of a member is not an agent of the LLC and does not have authority to bind the LLC, except to the extent provided by the articles of organization. Instead, each manager is an agent of the company and has authority to bind the LLC, subject to the following exceptions:
- The manager does not have actual authority and the person with whom the manager is dealing knows that the manager does not have actual authority.
- The act is not apparently for the purpose of carrying on the LLC’s business and affairs in the usual manner, unless the manager has been granted actual authority by the operating agreement or by unanimous consent of the members..
- For LLCs formed after June 30, 1999, the articles of organization provide that the manager does not have the authority to bind the company.
Although Sections 3-1 and 3-1.1 of the Indiana Business Flexibility Act speak only of authority and agency, not of apparent authority and apparent agency, it seems clear that those sections deal with apparent authority and that actual authority of managers and members is addressed elsewhere, in Section 23-18-4-1. Indeed, the only Indiana decision to address Section 3-1.1, Cain Family Farm, L.P. vs. Schrader Real Estate & Auction Company, describes that section as a source of apparent authority and not actual authority.
Comparison of Common Law and Statutory Bases for Apparent Authority
The following table summarizes the main differences between the common law basis of apparent authority and the statutory basis.
Common law analysis of apparent authority
Apparent authority of members and managers under Indiana Business Flexibility Act
Applies to any agent of the company.
Applies only to members or managers.
Apparent authority created by conduct of the company.
Apparent authority created by the articles of organization; no other conduct necessary.
The person with whom the member or manager is dealing must have a reasonable belief that the member or manager has authority based on the company’s conduct.
As long as the person with whom the member or manager is dealing does not have actual knowledge that the member or manager lacks authority,
No exception for acts outside the usual course of business
No authority for acts outside the apparent usual way the company does business, unless the authority is granted by the operating agreement or by unanimous consent of the members.
When we’re dealing with managers of an LLC or with members in a member-managed LLC, the statute confers authority more broadly than the common law because no other conduct on the part of the LLC is necessary. However, the statutory exceptions are also broader because the common law contains no exception for acts outside the usual way the LLC does business. In addition, the statute denies authority to members of a manager-managed LLC (except to the extent the articles of organization confer authority) but the common law analysis treats the members of a manager-managed LLC no differently than any other agent. In other words, it is possible for a manager or member to have apparent authority under the statute but not under the common law, and vice versa. What happens then?
One possibility is that the statute is now the exclusive source of apparent authority for members and managers of LLCs. That would not appear to cause any problems when the statute confers apparent authority more broadly than the common law standard, but what about situations that fall into one of the broader statutory exceptions, for example when the member of a manager-managed LLC takes an action that a third party would reasonably believe, based on the conduct of the LLC, the member was authorized to take? Does the statute abrogate the common law in that situation?
It appears that it does not. In the Cain Family Farms decision mentioned above, the Court of Appeals considered the apparent authority of a member to bind a member-managed LLC. In doing so, the Court of Appeals analyzed the member’s authority under both the common law and the Indiana Business Flexibility Act. Perhaps because the Court found that apparent authority existed under both analyses, it did not expressly decide which one would control in the event of a conflict. Nonetheless, the implication seems to be that both sources of apparent authority remain viable and that the LLC will be bound by the actions of a member or manager if either the common law or the Indiana Business Flexibilty Act impute that authority to the member or manager.
Last 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.]
Last year the Indiana Court of Appeals decided a case that illustrates some of the hazards of operating a business as a general partnership. The case is Curves for Women of Angola vs. Flying Cat, LLC.
In 2001, a married couple, Dan and Lori, purchased a fitness and health franchise known as Curves for Women that they intended to operate in Angola, Indiana. The franchise agreement, which Dan and Lori both signed, contained the following affirmation:
We the undersigned principals of the corporate or partnership franchisee, do as individuals jointly and severally, with the corporation or partnership and amongst ourselves, accept and agree to all of the provisions, covenants and conditions of this agreement[.]
At no time did Dan and Lori form a corporation or limited liability company to own the franchise – not before signing the franchise agreement and not after.
Ordinarily, I leave this area of the law to the Smith Rayl Criminal Defense Division and my partner, Susan Rayl, but today (well, yesterday by the time I’m writing this) the Indiana Supreme Court issued a decision, written by Justice Stephen David, that deserves notice here, even though it has nothing to do with business law or nonprofit organizations. In Bond v. State, the Court held that the defendant’s confession was involuntary, and therefore inadmissible as evidence against him, because it was obtained through interrogation by a police officer who told the defendant, an African American from Gary, Indiana, that his race would prevent him from getting an impartial jury or a fair trial.
The officer’s interrogation strategy was to persuade the defendant that the police knew he was guilty and that the only way he could improve his situation was to confess. Over a period of three hours, the officer suggested that the defendant might be charged with a less serious crime if he confessed and told the defendant that a confession would allow him to see his children and talk to his mother. Then, about two hours into the interrogation, the officer told the defendant:
[d]on’t let twelve people who are from Schererville, Crown Point–white people, Hispanic people, other people that aren’t from Gary, from your part of the hood–judge you. Because they’re not gonna put people on there who are from your neck of the woods. You know that. They’re not gonna be the ones to decide what happens to you. You know that. I know that. Everybody knows that. All they’re gonna see is, oh, look at this, another young motherf***** who didn’t give a f***.
About an hour later, the defendant confessed.
Although both the trial court and the Court of Appeals criticized the officer’s statement, neither found it sufficiently coercive to render the confession inadmissible. In a unanimous decision filled with quotations from U.S. Supreme Court decisions, an article by the Court’s former Chief Justice, and the writings Dr. Martin Luther King, Jr., the Supreme Court disagreed.
The Court acknowledged that police are given wide latitude in interrogating suspects. Many people (including many suspects who are later charged and convicted) are surprised to learn that the police are not required to tell the truth during interrogations, and the Supreme Court specifically noted that the other interrogation tactics used in this case (suggesting that a confession might lead to a lesser charge and promising to let the defendant see his family in exchange for a confession) were acceptable. But the suggestion that the defendant could not get a fair trial because of his race went too far. Justice David wrote:
[I]n this case Bond was intentionally deceived as to the fairness of the criminal justice system itself because of the color of his skin. Regardless of the evidence held against him or the circumstances of the alleged crime, he was left with the unequivocal impression that because he was African American he would spend the rest of his life in jail. Unless he confessed. And in unfortunate days gone by, this might have been the case. But no one wants to go back to such a time or place in the courtroom, and so we will not allow even the perception of such inequality to enter the interrogation room.
For a number of reasons, the decision is likely to serve as strong precedent. For example, confession was ruled involuntary despite the fact that an hour elapsed between the officer’s racial statements and the confession itself. Moreover, the Court made it clear that it did not believe the interrogator was racially motivated, which means that defendants seeking to have similar confessions excluded from evidence will not be required to prove that police officers are themselves racists. In addition, because the officer did not expressly refer to the fact that the defendant was African American, veiled references are not likely to save an otherwise impermissible interrogation. Finally, the Court’s express approval of the other interrogation tactics means that the officer’s racial statement alone was sufficient to taint the entire interview and therefore the confession that it produced.
As Justice David wrote,
[D]espite nearly two hundred years of effort by civil rights activists, legislatures, law enforcement, courts, and others, the perception remains that racial discrimination still exists within our justice system: from police treatment to jury selection to jury verdicts and sentences. And the perception is especially common within the African-American community. It defines reality for many African Americans faced with, serving in, or incarcerated by our criminal courts, and unquestionably has roots in our nation’s tortured history of race relations. That there remains such fear or mistrust of the justice system is why all courts must remain vigilant to eradicate any last vestiges of the days in which a person’s skin color defined their access to justice.
Suppose that eight years ago, you hired a construction contractor to build an addition to your house in Indiana. Shortly after the construction was finished, you noticed that the roof shingles on the addition weren’t quite the same color as those on the rest of the house. You checked the bundle of extra shingles that the contractor left behind and compared the information on the label with the specification in the contract. Sure enough, the contractor used the wrong shingles. Not only were they the wrong color, but they were also a lower quality than the contract specifications required. Even so, you were busy at the time and never got around to calling the contractor to get him to correct the mistake. Now you have a potential buyer for the house who is threatening to back out of the deal unless you replace the shingles. You call the contractor and demand that he correct his mistake. He refuses, saying it is too late for you to complain about the problem, that you should have called him as soon as you noticed it. Are you out of luck or not?
Statutes of Limitations
The key to answering the question is to determine the applicable statute of limitations. A person who has the right to sue someone for breach of contract (or, for that matter, the right to sue for other reasons) cannot wait forever to do it. How long the person can wait is determined by the statute of limitations that applies to the particular type of claim. In Indiana, there are two different statutes that might apply to the situation described above:
- Section 34-11-2-9 of the Indiana Code provides that the statute of limitations for breach of “promissory notes, bills of exchange, and other written contracts for the payment of money” is six years.
- Section 34-11-2-11 of the Indiana Code provides that the statute of limitations for breach of written contracts other than those for the payment of money is ten years.
Which one applies?
It has been more than six years, but less than ten, since the addition to your house was finished and you noticed the problem with the shingles. Which statute applies?
Certainly your construction contract called for the payment of money, but don’t most contracts do that? Is every contract that requires payment of money subject to the six-year statute of limitations, regardless of the rest of the contract? If so, that leaves the ten-year statute of limitations to cover only those contracts that do not involve the payment of money at all. On the other hand, maybe the idea is that the six-year statute of limitation covers contracts that do not involve anything other than the payment of money.
Surprisingly, there are very few published Indiana court decisions that address the question of which written contracts are covered by the six-year statute of limitations and which are covered by the ten-year statute, even though those statutes originated in 1881. However, the Indiana Supreme Court addressed the question with respect to an earlier version of the statutes in 1923.
The Ten-Year Limitation
The case was Yarlott v. Brown (192 Ind. 648, 138 N.E. 17, for those who would like to look it up), and the question was the statute of limitations on a mortgage. (At the time, the two statutes of limitation on written contracts were 10 years and 20 years, rather than 6 years and 10 years. A lawsuit was brought more than ten years, but less than 20 years, after the loan was supposed to be repaid.) Even though people commonly refer to the loans they take out to buy their homes as “mortgages,” in reality the mortgage is actually a document that reflects the lender’s right to foreclose on the property if the loan is not repaid; the obligation to pay the loan itself is set out in another document, called a note. However, in Yarlott, even though the mortgage was accompanied by a note, the mortgage contained not only the right of the lender to foreclose; it also repeated the obligation to repay the loan. It was clear that the statute of limitations on the note itself — a written contract for the payment of money — expired after ten years. But what about the mortgage? If it had not mentioned the repayment of th loan, it would have been subject to the longer statute of limitations. Did the fact that it repeated the obligation to repay the loan move it to the shorter limitation, the one that applied to “promissory notes, bills of exchange, and other contracts for the payment of money”?
The Indiana Supreme Court said no, the 20-year statute of limitations applied to the mortgage, despite the fact that it also provided for the payment of money. The Court reasoned that
. . . a mortgage differs in essential particulars from a promissory note, bill of exchange, or other written contract for the payment of money of the same kind as notes and bills. On the other hand, many actions which may be brought on such a mortgage bear a close resemblance to actions for the collection of judgments of courts of record, which are liens on real estate, or to actions for the recovery of possession of real estate. A familiar rule of statutory construction is that, where words of specific and limited signification in a statute are followed by general words of more comprehensive import, the general words shall be construed to embrace only such things as are of like kind or class with those designated by the specific words, unless a contrary intention is clearly expressed in the statute.
The underlining in the above quotation is ours, not the court’s, but those words are the key to understanding the decision. The shorter statute of limitations applies to written contracts that are similar to promissory notes and bills of exchange.
Now what about your construction contract? Even though it involves the payment of money, a construction contract is very different from a promissory note or bill of exchange. Doesn’t that mean that the applicable statute of limitations is ten years and that you still have the right to expect the contractor to pay for the cost of replacing your shingles? Well, maybe not.
Or is it the six-year limitation?
In 1991, the Indiana Court of Appeals stated that a teacher’s contract — which is also very different from a promissory note or bill of exchange — was a contract for the payment of money and therefore subject to the statute of limitations of six years, not ten. Aigner v. Cass School Tp. of Porter County, 577 N.E.2d 983. The decision did not even mention Yarlotte v. Brown or the possibility that the period of limitations might be ten years instead of six. However, the lawsuit regarding the teacher’s contract was brought within two years, so it was not barred regardless of which statute of limitations applied.
So where does that leave your claim against your former contractor? If a teacher’s contract is subject to a six-year statute of limitations, isn’t your construction contract also subject to a six-year limitation? It certainly seems so. But if you sue the contractor, you may be able to persuade the court that the Court of Appeals decision regarding the teacher’s contract was simply wrong because it failed to follow the precedent set by the Indiana Supreme Court in Yarlott v. Brown. Alternatively, perhaps you can pesuade the court that the statement in Aigner about the six-year statute of limitations is not binding precedent because that result in that case would have been the same even if the ten-year limitation applied. Unfortunately, you might have to go all the way to the Indiana Supreme Court to get a favorable decision on either rationale.
On the other hand, the decision in Aigner has been around more than 20 years, and it has not been overturned yet. Indiana courts may continue to follow Aigner for most written contracts, narrowly applying Yarlott to those that, even though they involve the payment of money, “bear a close resemblance to actions for the collection of judgments of courts of record, which are liens on real estate, or to actions for the recovery of possession of real estate.” All we can say is that anyone with a claim for breach of a written contract that involves any payment of money is far better off to file the lawsuit within six years; to wait longer is, at best, risky.
We invite others who may be able to shed light on this question to send us a message using the contact form on this page.
July 17, 2014. Update. Today the Indiana Supreme Court reversed the decision of the Court of Appeals. Check back soon on the Indiana Business Law Blog for a discussion of the Supreme Court’s decision.
A ruling in a recent case, Fischer v. Heymann, illustrates the pitfalls one can encounter when selling real estate. By not changing a light bulb and pushing the little red button on a couple of electrical outlets, the seller lost over $90,000!
Gayle Fischer entered into a contract to sell a condominium to Michael and Noel Heymann for $315,000. The buyers could inspect the property and, if they found serious defects, cancel the sale unless she agreed to fix the problems. On February 10, 2006 the Heymanns demanded that Fischer fix some minor problems: a couple outlets weren’t working and a light bulb needed to be changed. Fischer wrote back on Feb. 13th, saying she’d respond by Feb. 28th. The Heymanns wrote back two days later, demanding a response by Feb. 18th. Fischer did not make any further replies until the 19th, when the Heymanns attempted to cancel the contract, and the lawsuit ensued, with Fischer claiming total damages of more than $94,000, including $75,000 in direct damages (which represented the difference between the agreed price of $315,000 and the best offer Fischer later received, $240,000.)
The Court of Appeals applied two standard contract principles but to reach a result that may seem surprising. First, the buyers committed an “anticipatory breach”.or “breach by repudiation,” which occurs when one party declares its intent to breach the contract. Here, the Heymanns’ refused to buy the condo unless Fischer made repairs, which the Court of Appeals held was an anticipatory breach. (The Heymanns would have had the right to cancel the contract if the defects in the condo were serious, but they weren’t.) An anticipatory breach is treated the same as an actual breach. Fischer did not need to wait until Heymanns failed to show up at the closing.
Second, once a breach has occurred (anticipatory or otherwise), the other side has an obligation to mitigate damages, or to take reasonable steps to avoid ‘piling up’ additional damages. One way of mitigating damages when a buyer backs out of a real estate purchase is to attempt to find another buyer. Here, the agreed price was $315,000. If the best price Fischer could get from another buyer was $300,000, the Heymanns would have owed her only $15,000. However, if Fischer passed up the $300,000 offer and later sold it for only $240,000, the Heymanns would still owe only $15,000 because that’s what the damages would have been if Fischer had mitigated.
Although the Court of Appeals did not describe its analysis quite this way, it essentially treated the Heymanns demand for repairs as a breach of the original purchase agreement and a new offer to buy the condo for the same price after the repairs were made, repairs which cost only $117 — the price for an electrician to make a service call to reset the ground fault interruptors and change a light bulb. Certainly, if, immediately after the Heymanns breached, a third person had offered to buy the property for the same price, less $117, mitigation of damages would have required Fischer to accept it. The Court of Appeals held that mitigation of damages required Fischer to make the repairs requested by the Heymanns. Result: The Heymanns owed Fischer $117, not $94,000!
Note that these principles apply to contracts in general, not just to real estate purchase agreements. Does it surprise you that one party can make the other party choose between accepting an amendment to the contract or collecting damages that are worth no more than the amendment? That’s effectively what happened in this case, and it surprised the Court of Appeals judge who dissented from the decision. I don’t know if Fischer’s lawyer has petitioned to transfer the case to the Indiana Supreme Court. If so, it will be interesting to see if the Supreme Court accepts the case. And if the decision stands, it will be interesting to see how later Indiana court decisions apply Fischer to other situations.
Most people understand that signing a Krad v. BP Products North America, BP wanted to build a gas station on property owned by Dr. Krad. However, BP need only a portion of Dr. Krad’s property, not all of it. With the assistance of a real estate broker, BP approached Dr. Krad with a proposal to lease part of Dr. Krad’s property, and the discussions led to a letter of intent that described the approximate size of the parcel that BP would lease. Eventually, BP gave Dr. Krad a proposed lease agreement, and Dr. Krad signed it after a review by his attorney. Although a preliminary survey had been completed, the lease agreement did not contain a legal description of the leased property. Instead, it stated that another survey would be completed within sixty days after the lease agreement was signed, and the final survey report would be attached to it as an exhibit, subject to approval by both BP and Dr. Krad. In other words, the lease agreement would not be complete until Dr. Krad signed the final survey report.
After the lease agreement was signed, BP decided it needed more land than it had anticipated and ordered a final survey of a larger piece of Dr. Krad’s property, apparently without discussing it with Dr. Krad. The final survey report, which contained a legal description of the larger piece of property, was delivered by the broker to Dr. Krad at his office. The broker interrupted Dr. Krad while he was with a patient and asked him to sign the survey report so it could be recorded. Dr. Krad signed the report without reading it and without telling his attorney or asking his attorney to review the report, assuming that the report described the piece of property that was originally discussed.
Dr. Krad knew something was amiss when the construction equipment arrived and started site preparation outside the boundaries of the parcel he assumed he had leased to BP. Eventually, Dr. Krad sued BP, asking for additional compensation for the difference between the size of the parcel he thought he had leased and the size of the property actually described in the final survey report.
Dr. Krad lost at both the trial court level and in the Indiana Court of Appeals. As the Court of Appeals wrote,
Under Indiana law, a person is presumed to understand what he signs and cannot be released from a contract due to his failure to read it. . . . Mere neglect will not relieve a party of the terms of an agreement in the absence of some excuse for the neglect, such as fraud, trickery, misrepresentation, or breach of trust or confidence.
Although the court acknowledged that the final survey report was given to Dr. Krad “somewhat abruptly,” it found that neither BP nor the broker did anything fraudulent in getting Dr. Krad to sign it. He was free to accept it or to reject it. In addtion, the court pointed out that, without a legal description, the lease agreement was an unenforceable agreement to agree, and, if Dr. Krad had refused to sign the survey report, he could have walked away from the deal or he could have pressed BP for more money.