Congratulations! You just entered into an agreement with another business to purchase its most valuable asset at a discount. Of course, no one anticipates any problems, but, just in case, you feel it is appropriate to draft a contract to memorialize the transaction and establish the duties and obligations of the respective parties. Your business is located in California, but the other business is in New York, so what law governs the contract? You can choose, but choose wisely, as your choice of law can greatly impact your chances for recovering attorney fees on any future dispute.
A choice of law provision in a contract dictates what law will govern disputes arising under the contract. It is a critical consideration, as different state laws can bring about different results. This is particularly true in the context of attorney fees. To discourage breaches and disputes, contracting parties often include a clause awarding the prevailing party its attorney fees and costs incurred in resolving a dispute. Depending on the nature of the dispute, such fees and costs can be substantial. But will the prevailing party actually be able to obtain a court order awarding such damages? As with most legal questions, the answer is – it depends. And it depends in large part on the law chosen to govern the contract and its attorney fees clause.
Where two similarly situated parties include a choice of law provision in their contract, California law generally favors enforcement of such choice. Nedlloyd Lines B.V. v. Sup. Ct. (1992) 3 Cal.4th 459, 464-465. But, in order to decide whether to enforce the provision and apply the law chosen by the contracting parties, courts conduct a two-part analysis. First, the court considers whether there is any reasonable basis for the parties’ selection of the particular state law governing the contract, including the state’s relationship to the parties or subject matter of the contract. ABF Capital Corp. v. Berglass (2005) 130 Cal.App.4th 825, 834. Second, the court considers whether application of the chosen state’s law might contravene any fundamental public policy of the state whose law would otherwise apply absent the choice of law provision, and which state has a materially greater interest in the matter than the chosen state. Id.
With respect to the first prong of the analysis, if one of the contracting parties resides in the state whose law was chosen to govern the dispute, such choice of law is inherently reasonable. Hughes Electronics Corp. v. Citibank Delaware (2004) 120 Cal.App.4th 251, 258. The same is true where a third party beneficiary of the contract resides in the chosen state. Berglass, supra., 130 Cal.App.4th at 834. Accordingly, it is relatively easy to meet the first prong of the analysis, at which point courts are typically determining whether there was a seemingly random choice of law that was actually a strategic decision by one party in hopes of obtaining favorable results on future, perhaps anticipated, contract disputes.
With respect to the second prong of the analysis, the court can reach a quick decision if the law of the chosen state would apply to the dispute even without the specific choice of law provision in the underlying contract. In that situation, there is no possible contravention of state policies. ABF Capital Corp., supra., 130 Cal.App.4th at 834. However, this is rarely the case. More frequently, the parties have included a choice of law provision in the contract specifically to draft around the otherwise applicable state law. In that situation, the court must analyze the effect of the application of the chosen law compared to application of the law had the parties not included a choice of law provision.
To determine the otherwise applicable law, a court will consider what state has the most significant relationship to the parties and transaction. Nedlloyd Lines B.V., supra., 3 Cal.4th at 465. In its analysis, the court considers where the parties negotiated and drafted the contract, where the contract is to be performed and the location of the parties. Rest.2d, Conflict of Laws, § 188. If the contract was performed and negotiated in the same location, that forum’s law typically applies. Id. at § 188(3). Once the court decides the state law that would be applied to the dispute absent a choice of law provision, it next looks to any conflict between that law and the contractually chosen state law.
With respect to attorney fees, California Civil Code § 1717(a) mandates reciprocal attorney fees despite contractual language to the contrary. Other state laws vary greatly. For instance, New York law strictly interprets the contractual language to avoid imposition of terms the parties did not intend to create. Oscar Gruss & Son, Inc. v. Hollander (2nd Cir. 2003) 337 F.3d 186, 199. So too does Pennsylvania law. Ribbens Intern. S.A. de C.V. v. Transport Intern. Pool, Inc. (C.D. Cal 1999) 47 F.Supp.2d 1117. Accordingly, application of different laws as to attorney fees can have a substantial impact on your case. Where there is such conflict between state laws, which state can assert a materially greater interest in having its law applied to the dispute?
In ABF Capital Corp. v. Berglass, supra., the court compared California and New York law on attorney fees and found California had a “significant interest in the issue.” At 839. However, the court declined to find that “California’s interest is materially greater than New York’s,” which was the decision set forth in ABF Capital Corp. v. Grove Properties (2005) 126 Cal.App.4th 204, 219-220. Instead, the court found both states had equal interest on the issue and the California court would have no problem applying New York law. Berglass, supra., at 839. This was an easy decision for the court because it had already determined New York law would apply in any event, such that it was “immaterial whether the application of New York law to the attorney’s fee issue would contravene a fundamental policy of California.” Id.
So, what happens when your court determines California law would otherwise apply to your dispute arising out of a contract with a foreign state law provision? Will the court find California policy on attorney fees is materially greater than that of the foreign state? Well, it depends, and the current split of authority does not provide concrete guidance. Be aware, sometimes signing a contract is just the beginning of the battle.
ABOUT THE AUTHOR: Mr. Fallon specializes in civil litigation in the areas of professional liability. He has significant experience executing litigation strategies to the benefit of his individual and corporate clients. Contact Dan at 858.263.4132 or email@example.com
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Can You Actually Recover Under Your Choice of Law?