What is Misrepresentation in Contract Law?
Before a contract is formed, statements can be made by one party to induce the other to enter into the contract.
Statements can be made during sales pitches, casual conversations and formal meetings. It doesn't matter when, where or how they're made.
And they may be made in contracts themselves. They can begin with the words, "The [party name] represents: ...".
There are legal consequences when representations or statements are made to induce a business to enter a contract, and they're false.
The misrepresentation misleads a party into signing the contract, when they otherwise might not have.
They give rise to legal claims for rescission of the contract and damages.
Elements of Misrepresentation
The law of misrepresentation operates when:
- a pre-contractual statement of fact is made
- to a party intending to enter a contract, and
- the statement is relied on to enter the contract, and
- the statement is false.
The misrepresentation doesn't even need to be made by the person benefiting from it.
Representations become misrepresentations when they're false. There are 3 types of misrepresentation:
- innocent misrepresentation
- negligent misrepresentation, and
- fraudulent misrepresentation
The meaning and effect of a statement or conduct is interpreted by the circumstances in which the misrepresentation was made. Those circumstances will include the course of the negotiations and any representations made before the contract was finalised.
If a person making a representation realises that it is false, they are under a legal duty to correct the mistake or misunderstanding, and inform their counterpart. They can also modify or withdraw a prior representation at any time before it is relied on.
Representations can be found in advertisements, sales literature, material published on a website stating capabilities of software, products or services.
If the statement isn't correct, it may be an actionable misrepresentation.
Forms of Misrepresentation
The misrepresentation will usually be in words, written or spoken. But other forms of communication will be sufficient to amount to a misrepresentation.
In precontractual discussions, statements might be:
- made verbally
- communicated with gestures
- in the terms of draft contracts, which end up being signed, or
- statements that have no legal effect or consequence.
In written contracts, the more important statements made prior to the contract are - or should be - written into the contract. These will be the warranties and conditions.
In agreements made verbally:
- precontractual statements will be classified as:
- a condition of the contract, a warranty or an innominate terms and form part of the contract, or
- a representation, and not form part of the contract
- whether it is a term of the contract or a representation is decided by reference to the relative importance of the term to the parties in the context of the contract.
Conduct of can also amount to a misrepresentation. For example, production of promotional material can amount to a misrepresentation by conduct.
A series of misrepresentations may have cumulative effect. The effect of a series of continuing representations made throughout months of negotiations might lead to an overwhelming misleading impression of a state of affairs, and make it an actionable misrepresentation.
Nature of the Representation
Not all precontractual representations have legal consequence if they are false.
Words which are used might include sales talk (aka 'puffery') or laudatory words in respect of the goods or services such as:
- "Best pies in the UK" or
- "Finest after-sales service this side of Newcastle".
These sorts of statements are vague, not specific and lack any specific contractual meaning and not actionable in law.
But they may be statements of fact, which are able to be verified. They are actionable, because they to induce the other party to enter into the agreement.
Type of Statement
Statements of Fact
The representation must be a statement of fact, which relates to an existing or past event.
Statements of Future Intentions
Statements of future conduct or intention can amount to statements of fact, because they frequently contain implied representations with regard to the present state of affairs, or the knowledge of the person making the representation.
So where the person never had an intention he claims to have had, it will a misrepresentation as an exception to the rule.
Here's an example:
Statements were made by company directors that money to be raised to buy assets for a business to improve its profitability.
In fact, the money invested was used to pay the company’s debts.
The directors never intended to acquire the assets for the business. It was said in the course of judgment:
A misrepresentation as to the state of a man's mind is, therefore, a misstatement of fact.
The real purpose of raising the money for the business was not as stated before the contract was signed. The statement induced the investor to invest his money.
The directors had lied about their intentions, and were liable for fraudulent misrepresentation.
Statements of Opinion
Statements of opinion don't qualify unless the maker of the statement knows that their expressed opinion:
- is false or
- if they have special knowledge, and in a better position to know the true facts regarding the subject matter.
In Smith v Land and House Property Corporation (1884) a vendor lied about the tenant being ‘most desirable’. He knew it wasn't true. It was held that there was a misrepresentation of fact as the vendor was in a position to know the true facts.
In contrast, an owner of a farm stated that he believed it would hold 2,000 sheep, even though it was not a sheep farm. It was held to be a statement of opinion, and therefore there was no misrepresentation of fact.
Can silence be a misrepresentation?
The general rule is that silence will not amount to a misrepresentation. There is no duty to disclose facts which would affect the other party’s decision to enter into the contract.
This general rule has exceptions, such as:
- Half truths: Where a statement is true, but does not reveal the whole truth which therefore makes the statement misleading, it will probably be a misrepresentation
- Change of circumstances: Where a statement is true when made, but due to a change of circumstances or lapse of time it becomes false, there is a duty on the maker of the statement to correct it. Failure to do so will amount to a misrepresentation.
- Contracts uberrimae fidei (of the utmost good faith, such as contracts of insurance): Where a party is in a strong position to know the truth, there is a duty to disclose all material facts.
The most common type of contract in this class are contracts of insurance.
- Fiduciary relationship: Where a fiduciary relationship exists between the parties, there is a particular duty to disclose all material facts upon the fiduciary to discharge their fiduciary duties to their principal.
- Active concealment: This involves going beyond remaining silent and involves concealment of a defect, such as painting over a cracked wall to hide the defect.
In the law of misrepresentation, the representation can be express or implied, ambiguous and state the literal truth - and still be misleading in the relevant sense.
Once made for the purpose of an intended transaction, the effect of the misrepresentation will continue until the transaction is completed or abandoned or the representation ceases to be operative on the mind of receiver of the representation.
Essential Element: Inducement
Just because a false statement has been made is not enough to succeed in a claim for misrepresentation.
The false statement must have induced the other party to enter into the contract.
There are four conditions which need to be satisfied in order for there to have been an inducement:
- Material statement: There will only be an inducement if the statement made is material. It must represent a fact upon which a party decides to enter into the contract.
It does not have to be the sole inducement: it is enough if it is one of the inducements.
- Known to the Claimant: There can't be an inducement unless the misrepresentation made was known to the claimant.
In Horsfall v Thomas (1862), the active concealment of a defect in a gun was held to be a misrepresentation, but the buyer did not inspect the gun - so he was not to know about the misrepresentation, therefore it did not induce the buyer to enter the contract.
- Intended to be acted upon by the defendant: The statement made must be intended by the making it to be acted upon by the other party.
- Actually acted upon: If the claimant relies upon the misrepresentation when entering into the contract, this will amount to an inducement, even where the claimant did not take advantage of an offer to check the statement made.
There can be no inducement when a person:
- relies upon their own judgement, or
- made their own investigations to ascertain the true state of affairs.
The overall effect of the misrepresentation is assessed as a whole, throughout the precontractual period, which includes documents and the conduct of the person making the misrepresentation.
Different Types of Misrepresentation
Precontractual misrepresentations come in 3 types. Each of them are different causes of action.
1. Innocent Misrepresentation
The pre-contractual statement was false, but the maker of the statement wasn’t negligent in making the statement.
The maker of the statement must reasonably believe that what was stated to be true. Then, the statement will be regarded as ‘wholly innocent’.
Rescission can be claimed as a remedy for innocent misrepresentation where:
the statement has become a term of the contract
the contract has been performed, according to s 1 of the Misrepresentation Act 1967, and
common law tests are satisfied.
The remedy of rescission entitles the affected party to an indemnity (or court orders to a similar effect) to restore them to the position they were in before the contract was made (known as restituio in integrum).
2. Negligent misrepresentation
Traditionally, damages could only be claimed for fraudulent misrepresentation. Not negligent misrepresentation. Only the remedy of rescission was available.
Section 2(1) of the Misrepresentation Act 1967 changed that. It introduced the availability of damages as a remedy for negligent misrepresentation. Also, a court has a discretion to refuse the remedy of rescission and award damages instead.
The Misrepresentation Act 1967 enables statutory damages for negligent misrepresentation:
Where a person has entered into a contract after a misrepresentation has been made to him by another party thereto and as a result thereof he has suffered loss, then, if the person making the misrepresentation would be liable to damages in respect thereof had the misrepresentation been made fraudulently, that person shall be so liable notwithstanding that the misrepresentation was not made fraudulently, unless he proves that he had reasonable grounds to believe and did believe up to the time the contract was made that the facts represented were true.
The burden of proving that there was no negligence falls on the maker of the statement.
Further, in Hedley Byrne and Co v Heller and Partners Ltd (1994), the law of negligence (which is a different cause of action to negligent misrepresentation) was extended. Negligent statements which cause loss became actionable.
The duty of care owed must arise from a "special relationship", that is to say, where one party has special knowledge about the subject matter, that person can reasonably assume that the other party will rely on the statement.
3. Fraudulent Misrepresentation
What constitutes Fraud?
When a false statement is made:
- knowingly, or
- without belief in its truth, or
- recklessly, careless as to whether it be true or false.
The first two obviously amount to fraud.
For the purpose of making a reckless statement, there is no need to prove dishonesty or fraud: only that the statement was made without caring whether the statement was true or not.
There's no reason in principle why a fraudulent misrepresentation can't also be a negligent misrepresentation, provided the facts of the case satisfy the test for each cause of action.
Consequences of Misrepresentation
The primary remedy for misrepresentation is rescission, which places the parties in the position they would have been in, if the contract had not been made. The effect of the contract is reversed.
Damages are not available for innocent misrepresentation. A higher scale of recovery of damages is available for fraudulent misrepresentation, because of the deceit involved by the person inducing the other contracting party to enter the contract in the first place.
A series of bars apply to obtain misrepresentation, where a party would be prevented from rescinding the contract. These are usually referred to as bars to rescission.
Damages for negligent and fraudulent misrepresentation are calculated in accordance with the usual law of damages. When coupled with rescission, an award of damages is designed to put the party in the position they would have been, had the misrepresentation not been made. Damages for not calculated on the basis that the misrepresentation was true.
In an assessment of damages, the claimant bears the burden of proof on the balance of probabilities to show:
Those principles apply to reduce the amount of compensation which may be awarded.
The defendant bears the burden of proof to show that the claimant has not mitigated its loss.
Difference between a representation and a term of a contract
In negotiations which lead to an oral contract, there can be some doubt whether something said or communicated was intended to be a representation or a term of the contract. (If it is a term of the contract, the false statement will lead to a breach of contract, rather than a claim for misrepresentation).
Firstly, it’s a question of law (and decided by a judge), and not fact whether a statement made before a contract is a representation or a term of the contract.
There are a series of factors at work to decide whether it's a misrepresentation or a term of contract:
- challenges to verify: whether the receiver of the statement challenges the person making it, to check the accuracy of the statement.
The challenge ordinarily gives weight to its credibility and importance to the person relying on it.
The request to verify the truth of the statement may involve third parties, such as an independent valuer, surveyor, architect, depending on the facts of the case
- effect of the statement: a statement designed to prevent the receiver from discovering a flaw in the subject matter of the agreement
- importance of the statement: when a statement is made which is of significant importance to the claimant, such as a special requirement or performance capability
- written agreements: the parties have reached in an oral agreement and the term is later reduced to written form. Statements incorporated into the written version are likely to be terms of the contract. Those not includes are probably representations
- skill and expertise: where one party has a technical expertise or special knowledge on the subject matter of the contract and the other party does not.
In contrast, where the expertise levels are about equal or the receiver of the statement has a greater knowledge, the statement is more likely to be a representation.
Misrepresentation in contract law is a cause of action geared to address misleading statements, whether innocent, negligent or made by fraudulent intention.