Businessman Beware:

California Supreme Court Decides Verbal Side Agreements May Be Part Of Written Contract

By John Patton

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People who enter into written contracts usually want to achieve clarity as to their rights and obligations. In a decision with far-reaching consequences for businesses and consumers, and practically anyone who enters into a written contract, the California Supreme Court just issued a decision that overrules a line of cases more than 75 years old, and permits a party to claim that the true agreement differs from the written agreement.

In Riverisland Cold Storage, Inc. v. Fresno-Madera Production Credit Association (Jan., 2013), the Court held that a borrower has the right to prove that side promises were fraudulently made to obtain a loan, even when those side promises directly contradict the terms of the loan documents. Prior to Riverisland, case law was uncertain whether a signing party would be allowed to prove that the writing was not the true agreement. Parties relying on the written terms frequently asserted what is known as the “parol evidence rule” to defeat lawsuits at early stages. The term “parol” has nothing to do with prison sentences. Rather, it is Latin in origin, and means “word of mouth,” as opposed to written. The parol evidence rule generally holds that where the parties contemplate that their agreement is completely set forth in a written contract, the courts will not permit claims that contradictory promises were made outside the “four corners” of that contract.

But as with most rules, there are exceptions to the parol evidence rule, and one is the “fraud exception,” which allows proof that the contract was obtained by fraud. Until Riverisland, the courts’ application of this exception had been far from consistent. The effect of Riverisland is to permit a party to prove that the contract contains unwritten promises that vary from the written terms, where it is claimed that the contract was procured by fraud.

Thus, it is probable that no written contract is “ironclad” when fraud is claimed. Of course, this does not mean that the party relying on the written terms won’t prevail, or be able to prove that no side promises were made. It means that when disputes arise, the issue will likely be decided by proof at trial rather than by motion at the outset of the lawsuit, as had frequently been the case before Riverisland.

What takeaway is there for people who want to ensure that the written terms of a contract control the rights and obligations of the parties? Here are some general practical suggestions:

  1. Be careful about using form or pre-prepared contracts, especially if they may not fit the specifics of the situation. It may be better to start from scratch than trying to adapt pre-prepared terms to a specific situation.
  2. Make sure that the terms are clear, legible, and understandable. Sometimes too much legalese or boilerplate can actually make the writing less clear.
  3. Cover every important term that should be in the writing, so it is plainly spelled out in the contract what each side can expect as to their rights and obligations as to each such term.
  4. Include a clause that confirms that there are no side agreements and that the written terms are the only terms. The clause should also state that all prior negotiations are canceled, and the agreement is the final and only agreement on the contract subjects.
  5. Include a clause requiring any changes or amendments to be stated in a writing signed by all parties to be effective.
  6. Where feasible, have the contract reviewed and explained by an attorney for each side, before it is signed, and have the parties acknowledge in the contract that such a review was done prior to signing, and that the contract was a product of negotiation, and attorney review for each side.

While doing these things does not guarantee that a party will not later claim that there were promises made that are different from the writing, it will greatly increase the chances that the written document will be upheld, and should decrease the chances of a lawsuit on that basis. And it should be noted that even if such a claim is made, in order to prevail, the claimant likely must still prove the elements of fraud in order to recover, including that the other party acted with fraudulent intent, and that the claimant reasonably relied on the alleged unwritten promise (which may be hard to prove if the contract appears to be clear and complete).

The real takeaway from Riverisland is that clarity is even more important than it ever was in the world of contracts.

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John H. Patton, a partner at Patton & Sullivan, specializes in business and real estate law at the trial and appellate levels. He is also co-counsel of record in CRV v. United States.

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