Contract Defenses for Lack of Mutual Assent: Mistake, Misunderstanding and Misrepresentation

Lack of Mutual Assent: When Will Courts Not Enforce a Contract

            This presentation will focus on several instances where courts will not enforce a contract even though it satisfies the basic contract elements of offer, acceptance and consideration. We’ll highlight the three “M’s”: mistake, misunderstanding and misrepresentation.

Mistake

            “Mistake” can be a defense against enforcement of a contract when at least one party had a “belief that is not in accord with the facts” with respect to important contract terms.[1] Mistake refers to erroneous beliefs of the parties that induced them to enter into agreements, not mistakes that are relevant to the actual execution process of the agreement. For example, this defense is not relevant to the scenario whereby a party signed an agreement, thinking that she were signing a credit card receipt; though such an agreement could also be unenforceable due to lack of valid assent.

            Mistakes can be mutual, meaning that both parties shared the same mistaken assumption, or can be unilateral, meaning that only one party was under a false impression.

            Mutual mistake involves these four characteristics:

(1)  The mistake must have been made by both parties at the time the contract was made;

(2)  The mistake must involve a basic assumption on which the contract was made;

(3)  The mistake must materially affect the agreed upon exchange; and

(4)  The contract is only voidable by a party who was adversely affected by the mistake.[2]

A “basic assumption” is an assumption relating to a material fact of the agreement. The mistaken belief must materially affect the exchange to such a degree that the imbalance is so great that it would be unfair to enforce the contract.[3] For example, in Renner v. Kehl, two sellers decided to sell leases on 2,000 acres of undeveloped land near Yuma, Arizona. The sellers were approached by a buyer that wanted to lease the land to grow jojoba (ha-ho’ba), which is a shrub whose seeds produce a valuable oil, on the land. The land appeared to be perfect for commercial jojoba production. Both parties believed that there was sufficient water under the land that could sustain commercial jojoba production. After the contract was signed, the parties discovered that there was not enough water to sustain these farming activities and so the buyer wanted to void the contract. The contract was held to be voidable because both parties made the basic assumption that there would be sufficient water to sustain production. The assumption materially affected the contract because the parties only made the contract under the assumption that buyer could grow jojoba on the land.[4]

The final point provided that only the adversely affected party can avoid the contract. In the jojoba example, only the buyer could avoid the contract because he was the only party that experienced a detriment. The sellers received their money, but the buyer could not use the land.

One caveat to this rule is that the adversely affected party can only avoid the contract if he or she did not assume the risk of making the mistake. Conversely, where it is apparent from the nature of the agreement that one parties assuming a risk, the occurrence of the anticipated danger does not constitute a “mistake” and does not allow the contract to be avoided. For example, if a land purchaser knows that the title insurance company will not issue title insurance because it suspects some sort of title defect, the discovery of a defect later will not constitute a defense of mistake. The purchaser knew of the risk and assumed it. Moreover, if the parties knowingly enter into an agreement without all relevant information, they cannot avoid the contract merely because the relevant information turns out the prejudice one of the parties. For example, if a seller who has not mined his land agrees to sell it and later discovers the presence of valuable minerals beneath the land, there will be no ground upon which to void the agreement. The seller knew or should have known of his lack of knowledge and his contractual agreement to sell the property assumes the risk that he was selling something more valuable than met the eye.[5].

            Unilateral mistakes occur when only one party makes the mistake. The required elements for unilateral mistake are the same as mutual mistake, plus one of the following must exist:

(1)  the effect of the mistake is such that enforcement of the contract would be unconscionable; OR

(2)  the non-mistaken party must have had reason to know of the other party’s mistake; OR

(3)  The mistaken party’s mistake was the fault of the other party.”[6]

Unilateral mistakes often occur in construction cases where a bid was miscalculated.[7]

A contract may be “unconscionable” when the things of value exchanged are greatly disproportionate.[8] Whether terms are unconscionable is determined on a fact-driven, case-by-case basis. For example, if a contractor submits a bid that is $50,000 less than it would normally have been because the contractor made a computation error, a court may determine this to be unconscionable, making the agreement unenforceable. However, if the bid is only $5,000 less than what it would normally have been, this may not be unconscionable.[9]

Moreover, if the company receiving the bids had reason to know that the bid was unusually low because all the other bids were $50,000 more than the contractor’s bid, this would militate strongly in favor of a finding of unilateral mistake. In such a case, even a small mistake would likely render the contract unenforceable. Recall that, where the other party knew of the mistake, unconscionability or extreme unfairness in terms is not necessary.[10]

Misunderstanding

In some cases, mistakes about a contract term results in the parties being uncertain about their respective obligations under a contract. If this misunderstanding is serious enough so that the parties cannot reasonably be said to have had a “meeting of the minds,” the contract will be unenforceable.[11]

One example of this occurs when each party has attached a different meaning to the same term. For example, a famous British case rendered a contract unenforceable when a merchant booked cargo passage on the wrong ship, but that had the same name as the one he meant to book.[12]

Where parties have attached different meanings to one term, but one party is unaware of the other party’s assumption, she will be bound by that other party’s assumption.[13] For example, a buyer and a seller enter into an agreement for the exchange of chickens. The buyer believes there is only one type of chickens called “broiling chickens.” The seller knows there are two types of chickens, “stewing chickens” and “broiling chickens” and knows that the buyer wants “broiling chickens.” In this case, the seller would have to provide “broiling chickens” to the buyer, even if the seller really meant to offer stewing chickens.

Misrepresentation

            Misrepresentation are incorrect or fraudulent assertions of fact during contract negotiations that cause reliance on the part of the other party. The false statement must be intentional and must be important, or “material,” for this defense to apply.

A misrepresentation can prevent the enforcement of the contract, make the contract voidable or provide grounds for reforming the contract, as fairness requires.[14]

The mere fact that a party is deceived does not inherently void the contract due to misrepresentation[3] In Phelps v. McQuade, for example, the court held that overstating one’s wealth to secure a financing agreement to purchase jewelry did not make the contract unenforceable. The purchaser’s wealth status was not considered an essential component of the agreement and so lying about it was not a material misrepresentation.[4] In contrast, if a seller sells cubic zirconium, but represents it as diamond, there’s no question that would qualify as a material misrepresentation, as that falsehood goes directly to the nature of the item being sold.

Misrepresentations can also be innocent. That is, the party making the false assumption may not know that the assumption is false. This will cause the contract to be unenforceable if the misrepresentation causes a substantial variance between reality and what the other party believed. For example, if during a real estate transaction negotiation, one party mistakenly over represents the square footage on the parcel by a small amount, this is not necessarily grounds for the contract to be avoided. If the misrepresentation was intentional, however, and the other party relied on the statement, it is likely that the contract will be unenforceable.[15]

By allowing these defenses of mistake, misunderstanding and misrepresentation, contract law seeks to protect parties from being bound by agreements that they never meant to be bound by. These are consistent with the general contract law goals of protecting the reasonable expectations of reasonable people.