Kent B. Scott | Babcock Scott & Babcock | December 13, 2018
If you are a business owner, a property owner, or you work in the real estate industry, you have undoubtedly signed, drafted, reviewed, or negotiated many contracts. At their most fundamental level, written contracts are nothing more than the memorialization of the parties’ agreement, and more importantly, the allocation of risk. Much of that risk shifting is often intended to limit each party’s exposure to lost time and money in the future. Considering that, and in an effort to reduce your exposure to risk, there are two key clauses that should be considered in every contract you sign: a dispute resolution clause and an attorney’s fee clause. In this article I will briefly discuss both of those clauses and how they can eliminate uncertainty in business and real estate transactions.
Dispute Resolution Clause
Unfortunately, a fact of contracting life is the inevitability of disputes, disagreements, and differing opinions. Even with existing clients or customers with whom you have a good working relationship, disputes undoubtedly arise. Knowing that such disputes are not only foreseeable, but inevitable, if you sign a written contract without any type of clause that addresses a process for resolving those disputes, then you are exposing yourself to the unnecessary risk of a lengthy and expensive legal battle. So, we must first start with the premise that every contract you sign should provide some mechanism for resolving disputes. Unfortunately, little if any time is devoted to the drafting of dispute resolution clause which is the first clause you run to when a dispute does arrive. After all, isn’t everything going to work out just as you planned them? With that in mind, an effective dispute resolution clause will typically address resolving disputes in a graduated manner from the approach you have the most control over, and is least expensive and time consuming, to the approach where you have the least control over, and is most expensive and time consuming. That framework usually follows three general categories: negotiation between the parties, then mediation, then arbitration or litigation.
Negotiation. When a dispute arises between contracting parties, the easiest, least expensive, and usually preferable method of resolving that dispute is to get the decision makers in a room together or on the phone and negotiate a solution. At this stage of a dispute, both parties have complete control over the outcome and usually have complete ability to craft whatever solution will make the most business sense for themselves or their companies. They are not beholden to a third-party decision maker (like an arbitrator or a judge) and they are not bound by any formal rules that might limit or affect their decision (like the rules of arbitration or civil procedure). So, in your dispute resolution clause it is wise to state that when a dispute arises, the parties must first make a good-faith attempt at negotiating a solution.
Mediation. If negotiations fail, then it is also wise to requires parties take the second step in your dispute resolution procedure: mediation. Mediation is nothing more than non-binding, formalized negotiations with a neutral third party. In other words, in a typical mediation, the parties mutually agree upon a third party (ideally a former judge or an experienced attorney in the applicable area of law) who will meet with the parties together and help both sides understand the pros and cons of their positions with the intent of facilitating a settlement. With few exceptions, there are usually no formal rules or other requirements of how a mediation is conducted, other than the personal preferences of the mediator. Mediation is a consensual, confidential and creative process. Nothing happens in mediation without the consent of both parties. Most mediations end successfully with the parties moving on with their lives having saved some time and money on legal fees. Investing in the resolution rather than the litigation of a commercial dispute benefits all parties. Including a contract provision that requires mediation can go a long way to reducing a lengthy and expensive legal dispute.
Arbitration. The final category of dispute resolution to address in your contract is either arbitration or litigation, both of which are generally the more time consuming, expensive, and uncertain methods to resolve disputes (though, in some cases, they may be the best option). Arbitration is more formal than mediation, but less structured than going to court (i.e., litigation). Arbitration is similar to mediation in the sense that the parties get to select who the arbitrator is and, to some extent, the parties get to choose the rules that govern the proceeding. However, Arbitration differs from mediation because typically the parties agree to vest decision making power in the arbitrator and the parties usually agree to be bound by the decision. Arbitration can be an effective method of resolving disputes, but it does take some autonomy away from the parties and it is generally a more expensive and time-consuming process than mediation.
Litigation. The other, more involved, option for resolving disputes is litigation in court. To be sure, keeping litigation as an option for dispute resolution may be a wise choice, depending on the type of contract and the parties to that agreement. But, litigation is generally the most expensive and time-consuming option. And it’s also the option where the litigants have the least amount of control over the process: you don’t pick your judge, you don’t pick the rules, and you don’t set the schedule. Nevertheless, the judicial system in the United States may provide certain benefits that you want to have available such as the option of a jury trial. So, depending on your circumstances, you may want to either keep litigation open as an option, or keep it off the table entirely.
By including a dispute resolution clause in every contract you sign, and by understanding the pros and cons of each method of resolving disputes, you can be better equipped to evaluate the risks you face with foreseeable disputes, and the risks you are comfortable with regarding the resolution of those disputes.
Attorney’s Fees Clause
In our system of jurisprudence. the “American Rule”, both parties to a lawsuit pay their own way, no matter who wins. There are reasons for this rule. For one, we as a society do not want to discourage individuals from bringing meritorious claims for fear of having to pay the other side’s attorney’s fees. Related to that is the possible benefit society may lose if the party with a meritorious claim did not bring that claim because it did not want to risk paying the other side’s attorney’s fees. Whether we agree with these reasons is a debate for another day. But whatever the reason, the rule means that a plaintiff can file a lawsuit against a defendant, which the defendant may spend tens of thousands of dollars to successfully defend, and the defendant will be required to pay all of its own attorney’s fees.
There are two exceptions to the American Rule that each party is responsible for their own attorneys’ fees. The first is the statutory exception. This exception is that a prevailing party can recover its attorney’s fees (i.e., make the losing party pay for them) if a statute allows for it. For example, Utah’s mechanic’s lien statute states that the prevailing party on any action to foreclose a mechanic’s lien is entitled to an award of the reasonable attorney’s fees it incurred to prevail in that action. There are many statutes that similarly provide for attorney’s fees, but the problem is those statutes are out of your control. In other words, your situation may or may not fall within a governing statute, which is why the second exception should be your default approach.
The second exception is that a prevailing party can recover its attorney’s fees if a contract says so. This exception is entirely within your control, which is why, if you are concerned about being liable for another party’s attorney’s fees, you should seriously consider whether every contract you sign should state that the prevailing party in any lawsuit or dispute that arises out of that contract will be entitled to be paid its attorney’s fees by the losing party. To answer that question—whether it is in your best interests to include an attorneys’ fee clause in your contract documents—we recommend that you discuss this matter with legal counsel. Cases may vary depending upon the nature of the contract relationships involved and the particular business interests of the parties.
A fact of life in the world of construction, real estate, or owning a business involves inherent risks. There are risks that you will end up in a lengthy and expensive dispute with the party you contracted with. Also, there is the risk that you will prevail in a lawsuit, but still be stuck with a legal bill that far exceeds anything you gained by prevailing in that suit. By recognizing these foreseeable risks and ensuring that every contract you sign has a dispute resolution clause and addresses attorney’s fees to address your company’s needs, you will significantly reduce your exposure to these all-too-common risks, which should help you continue to survive and thrive in an uncertain industry.
Kent Scott is a shareholder in the construction
Law firm of Babcock Scott & Babcock. He may
Be reached at firstname.lastname@example.org