The Requirement to be Fair in Contracts

by Russ Mitchell

When you enter an agreement with someone in which each of you takes on certain duties of performance, a written contract helps both parties specifically state what they are required to do to fulfill their obligations.  This is a great advantage of a written contract and helps reduce ambiguities and uncertainties.  However, in Utah and many other jurisdictions, in addition to those clauses or covenants expressly written in a contract, there is an implied covenant between the parties that they will act in good faith toward each other and deal fairly with each other in fulfilling their responsibilities under the contract.  This implied covenant has been developed over the years as different cases have been decided by the Utah Supreme Court and Utah Court of Appeals and is known as the covenant of good faith and fair dealing.

This implied covenant of good faith and fair dealing cannot change the actual written terms of any of the clauses of a written contract, and a court cannot use it to negate or ignore a specific written term of agreement between the parties.  However, many times a contract will include language which purports to give a decision to one party at its “sole discretion” or with its “complete discretion.”  If the contract includes such a clause, sometimes a person may mistakenly believe that he has an unfettered right to make his decision without any regard to how it might impact the other party.  In fact, some have chosen to exercise their discretion in order to create the most negative impact on the other party as possible.

Utah appellate courts have held that when a party exercises its “sole discretion,” it must do so according to specific terms and standards set forth in the contract.  If there are no such specific criteria or standards as to how to exercise its discretion, the party exercising its “sole discretion” cannot decide to make a decision that harms the other party and keeps it from being able to receive its benefit under the contract.  In other words, sole discretion should be viewed as sole “reasonable” discretion.

In a recent Utah Court of Appeals decision, Markham v. Bradley, 2007 UT App 379, 173 P.3d 865, the Court of Appeals determined that the sellers under a standard Real Estate Purchase Contract had breached the implied covenant of good faith and fair dealing when they improperly rejected the buyers’ financial information received as part of their seller financing agreement.  In addition, the sellers had decided not to sell to the buyers even though the buyers had obtained other financing and were able to close on time.  The court determined that the sellers had breached the implied covenant of good faith and fair dealing by not properly evaluating the financial documents provided by the buyers.  Therefore, the sellers’ rejection of the buyers’ financial documents was not done in good faith.  The court ruled that the sellers were obligated to complete the sale of the property to the buyers.

For parties entering contracts regarding leases, purchase of property, or other contracts where there are a variety of different duties and obligations for each party to perform, the parties need to remember that a court can evaluate whether the parties are treating each other fairly and, if a party tries to take advantage of the other party in a way that shows an action in bad faith where its discretion is involved, there is a good chance that a court will not look favorably on the party acting in bad faith.

This article is not intended to be legal advice.  Receipt of this information does not create an attorney-client relationship.

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