Negligent or Fraudulent Misrepresentation in the Formation of a Contract

There is a big difference between what happens before a contract is formed, and what happens afterwards. A lot of what happens before a contract is formed can be eliminated from later consideration by the inclusion of an integration clause. As discussed in previous posts, an integration clause specifies that the contract is the final, complete, and exclusive statement of the agreement.

An integration clause works to prevent a party to a contract from asserting that the parties made additional agreements which are not included in the written contract to which the parties are bound. During negotiations, parties may discuss a whole host of issues, but only agree to certain terms. The integration clause makes sure that if the discussed issues did not make it into the contract, the parties did not agree to them and are not bound by them. In short, if the term mattered, it should be in the written contract, or there should be no contract at all.

In contrast, during negotiations a party often makes representations to the other about themselves, their products, and their capacities and the other party relies on the truth of the representation as a part of making an agreement. Those representations relate to facts that exist before the agreement is made. The fact that a contract later includes an integration clause does not alleviate a party from the obligation to be truthful during negotiations. If a party makes material misrepresentations that are reasonably relied upon to enter the contract, the contract can be undone or there may be recoverable damages, and this may be the case whether or not there is a breach of the contract.

Sometimes, parties attempt to eliminate the potential liability associated with a false, pre-contractual representation by including in the contract a waiver or disclaimer. However, such a statement does not generally work unless it is extremely specific. First, such a term cannot waive intentional conduct such as knowingly making a false statement. Second, even if the misrepresentation is negligent, the term has to specify that the one party is disclaiming they relied on the representations of the other party as a part of entering the contract. In essence, the term operates as evidence that the one party knows the other party might be wrong.

Such a term should always be a large red flag for a party considering entering into a contract. The consequences of accepting the term can be very problematic. At the very least, a party should take specific steps to make sure they, in fact, are not relying on some representation, or to make sure the information on which they are relying is, in fact, true.

On the other side, a party proposing such a term needs to consider not only the potential benefits of such a term from a liability perspective, but why such a term is defensible. Contracts communicate to the marketplace, and the communication could be damaging to a party’s reputation and business.

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