Understanding The Concept of Economic Duress In Contract Law
Definition of Economic Duress
Economic duress is part of the chapter of the common law of contracts that relates to subjective assent and mutual assent. In other words, situations in which two parties objectively agree to something, even though one might not subjectively agree to it. While there are many kinds of duress that can affect a contract, economic duress is the most common. To be further specific, economic duress is when one party knows that the other party is in a difficult financial spot and takes advantage of this when entering into a contract.
The following will show you 3 elements that need to be present for a contract to be voidable because of economic duress:
- Improper threat, such as criminal prosecution, employment termination, bad-faith use of civil process, and taking personal property.
- The threat actually induces the victim to enter into the contract.
- The victim has no reasonable alternative and any informed observer would agree.
A good example is when a manufacturer needs emergency insurance in order to ship out goods. A third party offers this insurance but at an incredibly high price. The third party is engaging in economic duress for the sake of saying that you had "no other option". Essentially , you know your shipment will not go out because of an insurance issue unless a third party helps. Therefore, even though you are being offered a terrible deal, you feel you have no other option but to accept. If you can show this in a court, then you should be able to void the contract.
A situation like this is an excellent example of economic duress, because it illustrates the other way to exit a contract that was formed by economic duress. If you are being threatened with bad faith civil action (such as foreclosure) and you pay the amount in question to prevent foreclosure, then you can claim economic duress. In this case, the contract should be voidable. It is important to note that duress is generally caused by a person or entity taking your right to exercise free will without properly informing you of the situation at hand.
The Legal Elements of Economic Duress
Establishing a claim of economic duress requires that the plaintiff demonstrate either an improper threat or a wrongful act. Economic duress can be part of a fraud case, but often involves itself with duress involving an existing contract (in other words contractual duress). When dealing with an existing contract, the threat of a breach or a refusal to sign or implement the contract can lead to the demand for a settlement. The demand for the settlement can be the wrongful action to form the duress into extortion.
There does not have to be a signed, written contract for the duress to be invoked. A verbal contract, or a verbal promise is enough to show that the threat of a breach of the promise or contract was used to extract a ‘settlement’ in return for not doing as you promised.
The touchstone for duress lies in the requirement of a lack of meaningful choice. If the person facing the extortionary demand truly had a meaningful choice to reject the demand, even at the risk of losing the threatened benefit, then there is a lack of duress. However, if the choice is getting what you want, but at a cost, then it is possible to argue that loss of business is better than a bad deal.
The courts have defined what constitutes duress in three distinct categories. The first category will apply when one party attempts to abuse its position of actual or apparent authority to get something it wants from the other. The second category is when one party threatens to use its position inappropriately in order to get something it would not be entitled to without the threat. The third category has more to do with coercive economic pressure.
The Case Law
Included down below are a few of the most significant cases on the issue of economic duress:
Huyton SA v Peter Cremer GmbH and Company [1999] 1 WLR 1406
Facts: The plaintiff shipped palm oil from Nigeria to the defendant in Germany. The defendant in Germany delayed payment for the first shipment until the plaintiff increased its price for the second shipment.
Outcome: The Court of Appeal held that there was no economic duress as the plaintiff had freely entered into the contract for the sale of the palm oil and should be bound by the agreed price.
Pao On v Lau Yiu Long ([1980] 2 All ER 659
Facts: Pao On purchased shares in a group of companies. The consideration for the sale was the issue of shares in a second group of companies to Lau and his family. The Lau’s threatened to withhold the shares unless the first group of companies indemnified them against certain claims. A second indemnity was later entered into.
Outcome: The Privy Council found that the plaintiffs had no real choice but to agree to the indemnities. The first indemnity was supported by consideration as it was part of the agreement for the sale of the shares. The second indemnity in favour of Lam was also valid, as an identified person could be named a party to a contract for consideration and that such a contract would be enforceable.
Cine Bes Filmcilik v United International Pictures [2003] 1 WLR 1907
Facts: United was granted the right to exhibit and distribute Turkeys films in Turkey. Hollywood producers applied to the court to prevent United from exhibiting the films unless United received the consent of the Hollywood producers. Cine Bes subsequently acquired the right to exhibit the films in Turkey. Subsequently, United and Cine Bes entered into a joint venture agreement to share profits from the exhibition of the films in Turkey.
Outcome: The Court of Appeal found that the threat to terminate the licence agreement amounted to economic duress. The issue was not whether an otherwise lawful act was done, but whether it was done unconscionably; by illegitimate means, to achieve a demand which in the circumstances should not have been granted. The party committing the illegal threat also could have avoided economic duress, but there was none. The threat did not amount to duress or intimidation as the licensing agreement did not threaten or hold Cine Bes in fear of violence or unlawful action. The agreement was entered into against the background of commercial pressure. However, it met the test and obligation imposed by the House of Lords in Atlas Express Ltd v Kafco [1989] 2 WLR 855, where the victim has no practical choice other than to accede to the threat.
Exceptions and Limitations on The Doctrine
Economic duress is a doctrine that provides an avenue of relief for parties to a contract who were forced into the agreement by unlawful or fraudulent conduct of the other party. However, there are notable exceptions to the requirements for imposition of economic duress, and specific legal limitations that can act as a bar to the recovery sought by a party claiming economic duress.
One statutory limitation on the imposition of economic duress requires the threatened party to withdraw from the contract within a reasonable amount of time to defeat a defence that the contract was ratified despite coercion.
The courts have imposed a limit on the duration of economic duress by requiring that the threatened party withdraw from the agreement within a reasonable time after the compulsion has been removed. For example, in Boulton v. Junes, the Supreme Court of Canada stated that there is a "Well-established principle of law that a party who has had a contract imposed on him under duress must act promptly, and put an end to the contract, on removing the duress . . . In the case of illegal or fraudulent conduct, if the person suffering therefrom continues for any considerable time in the employment of the wrongdoer, he thereby accepts the wrong. The question when he may be said to waive the compulsion depends on the circumstances of each case. I think generally he must, at least, take steps to extricate himself as soon as he has become aware of his rights."
This common law limitation can act as a defence to allegations of imposed economic duress where the circumstances surrounding the threat have not changed, however the threatened party has not withdrawn from the contract within a reasonable amount of time after the compulsion or coercion has been removed. In ToCor Energy Inc. v. Perpetual Energy Inc., 2011 ABQB 547, the Alberta Court of Queen’s Bench (the "Court") found that the economic duress alleged by ToCor Energy Inc. ("ToCor") did not meet the common law test for economic duress, as ToCor did not act promptly on the removal of economic compulsion.
Even if the requirements for economic duress are met, a defence arises where the party claiming economic duress has not taken reasonable steps to counteract the economic harm created by the unlawful threat.
In Seeley International Pty Ltd v. Waas Fixed Constructions and Engineering Services Pty Ltd, the New South Wales Supreme Court considered the reasonable steps prong of the test and found that the defendant did not take reasonable steps to alleviate the economic hardship allegedly caused by ToCor.
The Court noted that although "parties cannot choose the consequences of a threat of economic harm", in most cases, the threat will create a decision to be made by the threatened party which can mean that they will be "faced with a choice [between two courses of action] which are economically unattractive. . . It may be the lesser of two evils or it may be an attempt to mitigate the economic harm … but custody of the threat of economic injury still remains with the party culpable of improper pressure." As such, a party who claims economic duress and has a decision to make between two alternatives, should not be able to later complain that the economic injury caused by that decision is sufficient basis to award damages.
In Seeley, the doctrine of economic duress was not applied as a defence to the contract at issue, as the Court concluded that ToCor did not take reasonable steps to mitigate its losses. In the event that ToCor had taken reasonable steps, those steps need not have been successful to defeat a claim that the contract was made under economic duress. However, if the steps taken to avoid the economic harm were reasonable, that would have been sufficient to preclude ToCor from obtaining relief for economic duress.
Impact of Economic Duress On Contracts
When a contract is rescinded based on economic duress, the contract is treated as nonexistent, and parties to such a contract are returned to their pre-contractual positions. In essence, a contract that is subject to economic duress is void from the beginning, and therefore may be treated as if it had never been entered into.
The affected party and the party exerting duress have the right to agree upon remedies in order to mitigate the damages incurred because of the exercise of duress. Rescission is the primary remedy available for a party faced with the effects of economic duress. Rescission involves the annulment of a contract and returning the affected party to its previous condition. When a contract is entered into under duress, both contracting parties have the option to agree upon a different result. However, if the party claiming economic duress does not want this to result in modified performance of the terms of the original contract, the party may rescind the contract entirely . Rescission may have to take place through the court system, as the duressor may not be willing to rescind the contract. If this is the case, the affected party has the right to bring a cause of action in order to recover for any resulting harm. Such a cause of action is known as a suit for declaration of rescission and forfeiture. This procedure ideally takes place in an expedited manner, requiring notice only to the duressor.
When a duressed party elects to pursue contract rescission, a court generally places both parties back into their original positions prior to the formation of the void contract. This entails recognizing that the duressed party never entered the contract in the first place. Courts usually find that the misrepresented or unpaid portion of the contract should not be awarded to the party that caused the duress. When a contract to purchase land is rescinded because of duress, a court will order an eviction on the land. The court will also entitle the duressing party to reimbursement of anything that was transferred prior to entering the contract.
Preventing Further Economic Duress and Best Practices
A significant portion of contract litigation is derived from pre-litigation posturing and failed negotiations. There are several ways in which parties can implement strategies to avoid claims of duress, and a few simple practices can make a significant difference.
Typically, when one party tries to get favorable terms by using duress, the other party may have evidence in the form of documentation or other communications that show that the terms were forced upon them under threat of financial harm or other pressure. Thus, keeping good records of communications can support a party’s case that they did not accept terms under these types of pressure.
Further, both parties to a contract would be wise to examine any contracts they are proposing to ensure they are where they want to be in the event that the parties have to negotiate or renegotiate the contract in the event of a disagreement. For example, presenting a one-sided contract (that benefits one party) or non-negotiable terms grievously disadvantages the other side and can lead to the sense of duress.
In the modification context, addendums should be in the contract for future improvements and should be enforced. This way, parties cannot come back later and say that they did not have an agreement to do certain things.
Companies should also familiarize themselves with the current standards regarding economic duress and know how to recognize it so as to avoid the circumstance altogether and draft the best possible contract for their businesses.
Contract Law and Economic Duress in International Contracts
Economic duress in international contracts must be handled carefully. The parties from different countries may have quite different concepts of what constitutes economic duress. The following are some examples of how different jurisdictions in the world handle economic duress in their contract law for private law purposes.
Article 1(2) of the UNIDROIT Principles of International Commercial Contracts 2010 defines duress as:
"An act performed in order to preserve the life or health of, or avoid injury to, a person deliberately causing it by an act of one or more persons constitutes duress only if the conditions set out in Article 9.1.2 are fulfilled."
Article 9.1.2 is the conditions that must be fulfilled in order for economic duress to exist.
"1. The threat of an act to be carried out by the threatened party or by a third person induces the threatened party to act against [his/her] interest in consenting.
2. The threat constitutes an illegitimate act.
3. The threat was made with the intention of causing a hardship to the threatened party or of obtaining a benefit for the party making the threat or for another person."
The most commonly used definition of duress in common law countries is the doctrine of "economic duress". In the doctrine of economic duress , for a party to be released from contractual obligations, it must show that there was (1) the presence of pressure exerted unlawfully (either through actual or threatened violence, imprisonment or criminal prosecution or through wrongful threats to sue or wrongful deprivation of goods) by a party having some illegal or unlawful pressure in the matter; and (2) that the pressure resulted in a practical benefit for the threatening party.
On the other hand, civil law jurisdictions, such as European Provisions on the Unification of Private Law, take a different approach. For economic duress to exist there must be (1) a grave and imminent peril; (2) a necessity to save a person from peril; and (3) that the necessary act would not otherwise have been done.