New York Law Review

Tag: rescission

  • Admiral Ins. Co. v. Joy Contractors, Inc., 19 N.Y.3d 448 (2012): Rescission Based on Insured’s Misrepresentation Affects Additional Insureds

    Admiral Ins. Co. v. Joy Contractors, Inc., 19 N.Y.3d 448 (2012)

    An insurer’s claim for rescission of an insurance policy based on the named insured’s material misrepresentations in the underwriting process can affect the coverage of additional insureds under the same policy.

    Summary

    This case concerns an insurance coverage dispute arising from a crane collapse during the construction of a high-rise condominium. Admiral Insurance sought a declaration of no coverage based on alleged misrepresentations by the named insured, Joy Contractors, in its underwriting submission and a residential construction exclusion. The New York Court of Appeals held that if the policy is rescinded due to the named insured’s misrepresentations, additional insureds also lose coverage. The court also found that a factual dispute existed as to whether the building was “mixed-use” or purely residential, requiring further investigation.

    Facts

    Joy Contractors, Inc., was the structural concrete contractor for a high-rise condominium. A tower crane collapsed during construction, causing multiple deaths, injuries, and property damage. Joy carried a CGL policy with Lincoln General and an excess policy with Admiral. Admiral received notice of the accident and sent reservation-of-rights letters, raising concerns about coverage based on a residential construction activities exclusion and alleged inaccuracies in Joy’s underwriting submission. Joy had represented it specialized in drywall and did not perform exterior work or work above two stories, which Admiral claimed was false.

    Procedural History

    Admiral filed suit seeking a declaration of no coverage. The Supreme Court denied Admiral’s motion for summary judgment on the residential construction exclusion and dismissed causes of action against Reliance and the owners/developers related to Joy’s alleged misrepresentations. The Appellate Division modified, declaring the residential construction activities exclusion inapplicable, and otherwise affirmed. The Court of Appeals granted leave to appeal.

    Issue(s)

    1. Whether the residential construction activities exclusion in the excess policy applies to preclude coverage.

    2. Whether Admiral’s causes of action seeking relief based on Joy’s alleged false statements in its underwriting submission are precluded against additional insureds.

    3. Whether the LLC exclusion in the CGL policy precludes coverage of those owners/developers that are limited liability companies.

    Holding

    1. No, because there is a material issue of fact as to whether the building was residential or “mixed-use.”

    2. No, because if the excess policy is rescinded due to Joy’s misrepresentations, the additional insureds cannot enforce a policy that is deemed never to have existed.

    3. No, because the language of the LLC exclusion is ambiguous and should be construed in favor of the owners/developers.

    Court’s Reasoning

    Regarding the residential construction activities exclusion, the Court of Appeals found that the Appellate Division erred in disregarding the affidavit of Admiral’s engineering expert based on a lack of personal knowledge. The court also noted that conflicting evidence regarding the nature of the building’s construction required factual findings, making summary judgment inappropriate. The court emphasized that the key question was what the defendants were actually building, as evidenced by contracts and other documentation. (See e.g. Bovis Lend Lease LMB, Inc. v Royal Surplus Lines Ins. Co., 27 AD3d 84, 94 [2005]).

    Concerning Joy’s alleged misrepresentations, the Court distinguished prior cases such as Morgan v Greater N.Y. Taxpayers Mut. Ins. Assn., 305 NY 243 (1953), and Greaves v Public Serv. Mut. Ins. Co., 5 NY2d 120 (1959), where the insurers did not seek rescission. The court emphasized that if Admiral’s allegations are true, it evaluated and priced the risk based on interior drywall installation, not the risk of exterior construction with a tower crane. The court reasoned that additional insureds must exist in addition to something – namely, named insureds in a valid existing policy. The court stated, “[A]dditional’ insureds, by definition, must exist in addition, to something’, namely, the named insureds in a valid existing policy.” Thus, the causes of action for rescission, reformation, and declarations based on fraud/misrepresentation are properly interposed against Reliance and the owners/developers.

    Finally, the Court agreed with the Supreme Court that the LLC exclusion was ambiguous and should be construed against the insurer. The court reviewed and dismissed other arguments raised by the defendants.

  • Executive Risk Indemnity Inc. v. Pepper Hamilton LLP, 2010 NY Slip Op 00310 (2010): Prior Knowledge Exclusion in Insurance Policies

    Executive Risk Indemnity Inc. v. Pepper Hamilton LLP, 2010 NY Slip Op 00310 (2010)

    An insurance policy’s prior knowledge exclusion bars coverage when the insured knew of acts, errors, or omissions prior to the policy’s effective date that could reasonably be foreseen as the basis of a claim.

    Summary

    This case concerns whether excess insurers must indemnify the law firm Pepper Hamilton for malpractice claims. The New York Court of Appeals held that Executive Risk and Twin City were entitled to summary judgment based on the policies’ prior knowledge exclusions, as the firm knew of potential claims before the policies’ effective dates. The court also held that Continental Casualty was not entitled to summary judgment on its rescission claim because it failed to prove materiality and bad faith. The law firm’s knowledge of its client’s fraudulent activities triggered the prior knowledge exclusion, negating the insurers’ obligation to indemnify.

    Facts

    Pepper Hamilton represented Student Finance Corporation (SFC). In March 2002, the firm learned that SFC was involved in securities fraud by misrepresenting its default rate. Despite this knowledge, Pepper Hamilton prepared private placement memoranda for SFC and did not disclose this information when applying for insurance coverage with Executive Risk and Twin City in October 2002. SFC later faced bankruptcy, leading to lawsuits against Pepper Hamilton for, among other claims, professional malpractice. The insurers denied coverage, citing prior knowledge exclusions.

    Procedural History

    Executive Risk sued Pepper Hamilton, seeking a declaration that it had no duty to indemnify. Pepper Hamilton counterclaimed and brought third-party claims against Twin City and Continental Casualty. The Supreme Court granted summary judgment to the excess insurers, finding no obligation to indemnify based on the prior knowledge exclusion and rescinding the Continental Casualty policies. The Appellate Division reversed. The Court of Appeals modified the Appellate Division order, granting summary judgment to Executive Risk and Twin City but denying it to Continental Casualty, answering the certified question in the negative.

    Issue(s)

    1. Whether the prior knowledge exclusion in the insurance policies of Executive Risk and Twin City bars coverage for Pepper Hamilton’s potential liability, given their knowledge of SFC’s fraudulent activities prior to the policy’s effective date.

    2. Whether Continental Casualty is entitled to rescind its insurance policies based on Pepper Hamilton’s failure to disclose the SFC incident during the policy renewal period.

    Holding

    1. Yes, because Pepper Hamilton knew of acts, errors, or omissions prior to the policies’ effective date that could reasonably be foreseen as the basis of a claim.

    2. No, because Continental Casualty failed to establish, as a matter of law, that Pepper Hamilton’s omission was material to the reinsurance determination and made in bad faith.

    Court’s Reasoning

    Regarding the prior knowledge exclusions, the court applied Pennsylvania law, which places the burden on the insurer to prove the applicability of any exclusions. The court cited the two-pronged test from Coregis Ins. Co. v. Baratta & Fenerty, Ltd., requiring consideration of both the insured’s subjective knowledge and the objective understanding of a reasonable attorney with that knowledge. The court found that Pepper Hamilton knew of SFC’s securities fraud before the policies’ effective dates and that a reasonable attorney would have foreseen the possibility of a lawsuit, triggering the exclusion. The court emphasized that the exclusion applied to “any act, error, omission [or] circumstance,” not just wrongful conduct by the insured.

    Regarding rescission, the court again applied Pennsylvania law, stating that rescission requires proving a false statement, materiality to the risk, knowledge of falsity, and bad faith by clear and convincing evidence. The court agreed with the Appellate Division that Continental Casualty failed to prove materiality and bad faith, finding the underwriter’s self-serving affidavit insufficient to meet the heightened burden of proof. The court stated: “Here, the self-serving affidavit of Continental Casualty’s underwriter—that Pepper Hamilton’s renewal application would have been treated differently had it disclosed the underlying circumstances which led to the denial of coverage—is insufficient to meet the insurer’s heightened burden of proof.”

  • Mercantile & General Reinsurance Co. v. Colonial Assurance Co., 82 N.Y.2d 248 (1993): Jury’s Role When Legal & Equitable Claims Overlap

    Mercantile & General Reinsurance Co. v. Colonial Assurance Co., 82 N.Y.2d 248 (1993)

    When a case involves both legal claims triable by a jury and equitable claims triable by the court, the jury’s findings on factual issues essential to the legal claim are binding, but the court independently decides all issues pertaining to the equitable claim, even if those issues overlap factually.

    Summary

    Mercantile & General Reinsurance Co. sued to rescind reinsurance contracts with Colonial and Union, alleging material misrepresentations by Spanno Corp., the insured. Spanno counterclaimed for breach of contract and tortious interference. The jury found for Spanno, but the trial court set aside the verdict and granted rescission. The Appellate Division reversed, holding the jury’s findings were binding. The New York Court of Appeals reversed, holding that the jury’s verdict on the legal claim was binding only on the issues essential to that claim, while the judge was free to decide the equitable rescission claim de novo.

    Facts

    Spanno Corp. guaranteed the residual value of capital equipment and obtained insurance from Colonial and Union. Colonial and Union then reinsured these risks with Mercantile & General. Mercantile & General sought to rescind the reinsurance contracts, claiming Spanno made material misrepresentations inducing the agreements. Spanno counterclaimed, alleging it was a third-party beneficiary of the reinsurance contracts and sought damages for breach of contract and tortious interference due to nonpayments to its customers.

    Procedural History

    The Supreme Court treated Mercantile & General’s rescission claim as an equitable defense to Spanno’s legal counterclaim and deemed the jury’s verdict advisory. The jury found no material misrepresentations and awarded Spanno damages. The Supreme Court set aside the verdict on Spanno’s counterclaims and granted rescission. The Appellate Division reversed, holding the jury’s finding on misrepresentation was dispositive. The Court of Appeals then reversed the Appellate Division.

    Issue(s)

    Whether the jury’s finding of no material misrepresentation in Spanno’s breach of contract claim precluded the trial court from finding material misrepresentation in Mercantile & General’s equitable rescission claim.

    Holding

    No, because under CPLR 4101, when legal and equitable claims are joined, the jury decides the legal claims, and the court decides the equitable claims, even if factual issues overlap. The jury’s finding of a valid contract did not preclude the court from determining whether that contract should be rescinded due to misrepresentation.

    Court’s Reasoning

    The court reasoned that Mercantile & General’s rescission action constituted an equitable defense and counterclaim to Spanno’s breach of contract claim. Under CPLR 4101, the jury decides the facts necessary for the legal claim (breach of contract), while the court decides all issues related to the equitable claim (rescission). The court stated that a finding of material misrepresentation is not inconsistent with the existence of a facially valid contract. The “very essence of a rescission action is to set aside a contract that is otherwise valid and binding.” The jury’s finding of a valid contract merely necessitated that the court then proceed to the rescission issue, but it did not bind the court’s determination. The court emphasized that it was free to decide the rescission claim de novo, as the jury’s verdict on misrepresentation was merely advisory. The court found sufficient evidence to support the trial court’s decision granting rescission of the contract.

  • Najjar Industries, Inc. v. City of New York, 74 N.Y.2d 943 (1989): Consequences of Choosing a Rescission Theory

    Najjar Industries, Inc. v. City of New York, 74 N.Y.2d 943 (1989)

    A party that elects to pursue a claim for rescission and quantum meruit damages in a contract dispute, and secures a jury verdict on that basis, cannot later argue on appeal that it should have been allowed to pursue a breach of contract claim for compensatory damages.

    Summary

    Najjar Industries contracted with New York City to construct an air pollution device. Disputes arose, and Najjar eventually sued the city. Critically, Najjar chose to present its case to the jury as a claim for rescission of the contract, seeking damages under a quantum meruit theory (reasonable value of services). The jury found the city breached the contract and that Najjar properly rescinded. After an initial damages award was overturned, a second trial limited to damages resulted in a much smaller award. On appeal, Najjar argued it should have been allowed to pursue a traditional breach of contract claim. The Court of Appeals held that Najjar was bound by its initial choice of legal theory.

    Facts

    Najjar Industries contracted with the City of New York to build an air pollution device for a fixed price of $5,119,000. The contract stipulated work would begin January 5, 1973, and finish by July 8, 1975. Delays occurred, and Najjar stopped working around November 1976, with the job unfinished. By then, Najjar had received $4,176,553 from the city.

    Procedural History

    Najjar sued the City, including a breach of contract claim. At trial, Najjar pursued a rescission theory, seeking quantum meruit damages. The jury found for Najjar, awarding $2,088,795.26. The Appellate Division affirmed the jury’s findings on breach and rescission, but ordered a new trial on damages. On retrial, Najjar received a much smaller judgment of $121,745.44, which the Appellate Division affirmed. Leave to appeal to the Court of Appeals was denied. This appeal was taken as of right from the first Appellate Division order.

    Issue(s)

    Whether, in an action to recover for the defendant-owner’s material breach of a construction contract, after a remand for a trial solely on damages, the Appellate Division properly restricted the plaintiff to proving damages on a quantum meruit basis, or whether it should have permitted proof and recovery of compensatory (contract) damages.

    Holding

    No, because Najjar chose to try the case to the jury on a theory of rescission entitling it to quantum meruit damages, with the jury charge and verdict premised on this theory. Najjar could not later argue that it should have been permitted to pursue an alternate theory alleged in the complaint.

    Court’s Reasoning

    The Court of Appeals emphasized that Najjar made a deliberate choice to present its case as a rescission claim entitling it to quantum meruit damages. The jury was instructed on this basis, and Najjar did not object. The court relied on the principle that a party cannot pursue one legal theory at trial and then argue on appeal that a different theory should have been applied. The Court stated, “Having itself deliberately chosen to try its case to the jury on a theory of rescission entitling it to quantum meruit damages, with the charge and verdict premised on this theory, plaintiff cannot now be heard to complain that it should be permitted to pursue the alternate theory alleged in the complaint.” This highlights the importance of making strategic choices at trial and adhering to those choices on appeal. The court cited Martin v. City of Cohoes, 37 N.Y.2d 162, further reinforcing the principle that parties are bound by the legal theories they advance at trial.

  • Hadden v. Consolidated Edison Co., 34 N.Y.2d 88 (1974): Revocation of Pension Benefits After Retirement

    Hadden v. Consolidated Edison Co., 34 N.Y.2d 88 (1974)

    An employer may not unilaterally revoke an employee’s pension benefits after retirement based on misconduct discovered post-retirement unless the pension plan explicitly authorizes such revocation, or the employer’s waiver of the right to discharge the employee prior to retirement was induced by the employee’s fraudulent misrepresentations.

    Summary

    Gerald Hadden, a former vice-president at Consolidated Edison, retired and began receiving pension payments. After his retirement, Con Edison discovered that Hadden had engaged in misconduct during his employment, including accepting bribes from contractors. Con Edison then terminated Hadden’s pension. The New York Court of Appeals held that the company could not revoke the pension based on the pension plan’s terms or a “failure of consideration” argument. However, the court found that if Hadden fraudulently misrepresented his involvement to induce the company to allow him to retire instead of being discharged (which would have forfeited his pension), Con Edison could rescind the retirement agreement and terminate the pension. The court reversed the grant of summary judgment and remanded the case for a trial on the misrepresentation issue.

    Facts

    Gerald Hadden worked for Consolidated Edison for 35 years, rising to the position of vice president. In 1967, Hadden attended a meeting where bribery was discussed. Later, Con Edison’s chairman, Charles Luce, learned of Hadden’s participation and confronted him. Luce informed Hadden that he would be fired if he did not retire. Hadden then elected for early optional retirement and began receiving pension payments in February 1968. In 1969, Hadden testified in a federal trial under immunity, admitting to accepting cash and other benefits from Con Edison contractors during his employment. Upon learning of this testimony, Con Edison terminated Hadden’s pension benefits.

    Procedural History

    Hadden sued Con Edison to compel the resumption of pension payments. The trial court granted partial summary judgment to both parties, ordering Con Edison to reinstate Hadden’s pension and ordering Hadden to repay improperly received funds. The Appellate Division affirmed this order. The Court of Appeals granted Con Edison leave to appeal the portion of the order reinstating Hadden’s pension.

    Issue(s)

    1. Whether Con Edison’s board of trustees was authorized under the pension plan to terminate Hadden’s benefits after retirement based on misconduct discovered post-retirement.
    2. Whether Hadden’s misconduct constituted a “failure of consideration” that excused Con Edison from paying pension benefits.
    3. Whether Con Edison was entitled to rescind its agreement to allow Hadden to retire if that agreement was induced by Hadden’s fraudulent misrepresentations about his involvement in the underlying misconduct.

    Holding

    1. No, because the pension plan did not expressly authorize termination of benefits after retirement for cause and the board’s interpretation was an unauthorized modification of the plan.
    2. No, because Hadden substantially performed his obligations over 37 years of service, and terminating his pension would constitute a forfeiture and unjust enrichment for Con Edison.
    3. Yes, because a waiver induced by fraudulent misrepresentation is not binding, and the company would be entitled to rescind its agreement to allow Hadden to retire rather than be discharged.

    Court’s Reasoning

    The court reasoned that Con Edison’s action must be authorized by the pension contract. While the plan stated employees discharged for cause would not be entitled to pension rights, it was silent on post-retirement terminations. The board’s attempt to interpret the plan to allow for post-retirement termination was deemed an unauthorized modification because it retroactively affected Hadden’s benefits. The court rejected the “failure of consideration” argument because Hadden provided 37 years of service, and the company received the substantial benefit of that performance. Terminating the pension at this stage would create a forfeiture. However, the court found merit in Con Edison’s argument that it should be able to rescind the agreement allowing Hadden to retire if it was induced by fraudulent misrepresentations. The court stated, “Depending upon the nature of the agreement and the nature of Hadden’s representations, if any, the defendant Con Edison may be entitled to rescind its agreement to waive its right to discharge Hadden before he exercised his retirement option and thereby to legitimately terminate the plaintiff’s pension payments”. Because there were unresolved factual issues regarding the alleged misrepresentations, the court reversed the summary judgment and remanded for trial. The court emphasized that its conclusion did “not flow ipso facto from the discovery of dishonesty postretirement, or from plaintiff’s bare concealment of this dishonesty, but rather from the intimate connection between the facts surrounding plaintiff’s retirement and the postretirement discoveries.”

  • Preston v. The Equitable Life Assurance Society, 12 N.Y.2d 367 (1963): Insurer’s Duty to Notify Assignee of Policy Rescission & Premium Due

    12 N.Y.2d 367 (1963)

    An insurer’s attempted rescission of a life insurance policy without notice to the assignee is void, and the insurer cannot then claim a lapse in coverage due to non-payment of premiums when it also failed to notify the assignee of premiums due.

    Summary

    This case concerns the rights of a trust and its remaindermen against an insurer after the insurer attempted to rescind a life insurance policy assigned to the trust, without notifying the trustee. The insurer then claimed the policy lapsed due to non-payment of premiums. The New York Court of Appeals held that the insurer’s rescission was void due to the lack of notice to the trustee, and the insurer could not claim the policy lapsed because it also failed to notify the trustee of the premiums due. The insurer’s actions prevented the trustee from keeping the policy in force.

    Facts

    Bruce Preston obtained a life insurance policy from Equitable and subsequently assigned it to himself and William Schrauth as trustees of a trust established by his mother’s will. The trust’s income was payable to Preston, with the corpus to be transferred to him if he survived 10 years after the testatrix’s death; otherwise, it would go to other remaindermen. Preston had embezzled trust funds, and the policy assignment was intended to secure repayment. Equitable acknowledged the assignment. Equitable later served Preston alone with a notice of rescission based on alleged misrepresentations in his application, tendering back the premiums paid. Preston initially refused but later acquiesced, and Equitable refunded the premiums without notifying Schrauth, falsely claiming the policy was lost based on Preston’s affidavit. Schrauth, unaware of the rescission or the non-payment of premiums, filed a claim after Preston’s death.

    Procedural History

    Schrauth, as trustee, brought a claim against Equitable in an accounting proceeding in Surrogate’s Court. The Surrogate initially ruled in favor of the trustee, finding the rescission void. On reargument, Equitable argued the policy had lapsed for non-payment of premiums. The Surrogate again ruled for the trustee. The Appellate Division reversed, holding that the policy had lapsed regardless of the rescission’s validity because of failure to pay the premium.

    Issue(s)

    Whether an insurer can claim a life insurance policy has lapsed for non-payment of premiums when the insurer attempted to rescind the policy without notice to the assignee, and also failed to provide the assignee with notice of the premiums due?

    Holding

    No, because the insurer’s attempted rescission without notice to the assignee was void, and the insurer cannot rely on a default in premium payments when its own actions (the attempted rescission and failure to provide notice of premiums due) contributed to the non-payment.

    Court’s Reasoning

    The court reasoned that Equitable’s attempt to rescind the policy without notifying Schrauth, the assignee, was a breach of its obligation. The court emphasized that forfeiture for non-payment of premiums is disfavored and will not be enforced absent a clear intention. The court found that the insurer’s actions caused the non-payment. The court rejected the Appellate Division’s speculation that a valid rescission would have occurred even with notice to Schrauth. The court stated that Schrauth could have resisted the rescission or pursued Preston’s liability further, had he received notice. The court cited Whitehead v. New York Life Ins. Co., noting that an insurance company cannot “depend upon a default to which its own wrongful act contributed, and but for which a lapse might not have occurred.” The court also cited Dulberg v. Equitable Life Assur. Soc., reiterating the principle that “he who prevents a thing being done cannot avail himself of the non-performance he has occasioned.” The court emphasized that Equitable considered the policy dead based on grounds unrelated to premium defaults. It concluded that Schrauth was entitled to notice of both the rescission and the premiums due, and Equitable’s failure to provide either could not be excused by speculating about what Schrauth might have done had he received proper notice. The Court specifically quotes Ruckenstein v. Metropolitan Life Ins. Co., stating “It cannot then claim a lapse for non-payment of premiums” when the company is aware of the attempt to cut off the rights of the beneficiary-owner.

  • Hecht v. Meller, 23 N.Y.2d 301 (1968): Broker’s Right to Commission After Property Destruction

    Hecht v. Meller, 23 N.Y.2d 301 (1968)

    A real estate broker is entitled to a commission when they procure a buyer who meets the seller’s requirements, even if the sale is later rescinded due to substantial property damage under a statute allowing rescission.

    Summary

    This case addresses whether a real estate broker is entitled to a commission when a property sale is rescinded because of substantial fire damage before the buyer takes title or possession, invoking a statutory privilege to rescind. The New York Court of Appeals held that the broker is indeed entitled to the commission. The court reasoned that the broker fulfilled their obligation by finding a suitable buyer, and the seller’s obligation to pay the commission is independent of the buyer’s eventual performance, unless the brokerage agreement stipulates otherwise. The statute providing the buyer with the right to rescind does not shift the responsibility for the commission from the seller to the broker.

    Facts

    Helen Hecht, a real estate broker, had an exclusive agreement with Herbert and Joyce Meller to sell their property for $75,000. Hecht found buyers, and a sale contract was signed on May 30, 1963, for $60,000, with a closing date of August 1. The contract acknowledged Hecht’s role in bringing the parties together. On July 20, before the closing and without fault of either party, the house on the property was substantially damaged by fire. The buyers rescinded the contract under Real Property Law § 240-a (later General Obligations Law § 5-1311), and the sellers returned the down payment. The sellers then refused to pay Hecht her $3,600 commission.

    Procedural History

    Hecht sued the Mellers to recover the brokerage commission. The case was submitted to the Supreme Court, Westchester County, on an agreed statement of facts. The Supreme Court ruled in favor of the broker, Hecht. The Appellate Division, Second Department, reversed the Supreme Court’s decision, finding the seller not liable for the commission. Hecht appealed to the New York Court of Appeals.

    Issue(s)

    Whether a real estate broker is entitled to commissions on the sale of real property if the purchaser asserts a statutory privilege to rescind the contract of sale because the property has been substantially destroyed by fire after the contract was executed, but before the buyer took title or possession?

    Holding

    Yes, because the broker fulfilled their contractual obligation by procuring a buyer who met the seller’s requirements, and the statute granting the buyer the right to rescind the contract does not relieve the seller of their independent obligation to pay the broker’s commission.

    Court’s Reasoning

    The court emphasized that a broker’s right to a commission arises when they produce a buyer who meets the seller’s requirements. Citing precedent like Levy v. Lacey, the court reiterated that this right is enforceable at the point of procuring an acceptable buyer, regardless of whether the sale is ultimately completed, unless the brokerage agreement specifically conditions payment on the sale’s completion. The court stated, “If from a defect in the title of the vendor, or from a refusal to consummate the contract on the part of the purchaser for any reason, in no way attributable to the broker the sale falls through, nevertheless the broker is entitled to his commissions, for the simple reason that he has performed his contract.” The court found no indication in the legislative history of Real Property Law § 240-a (later General Obligations Law § 5-1311) that the legislature intended to shift the risk of paying brokerage commissions to the broker in the event of a rescission under the statute. The court noted that the seller has the flexibility to protect themselves by including clauses in the brokerage agreement conditioning the commission on the sale’s completion or by contracting with the buyer to cover the commission in case of rescission. The court reasoned that the buyer’s decision to rescind does not reflect on the broker’s performance. The court stated, “The sellers in this case, having failed to shift the possible loss, must be deemed to have assumed the risk themselves.”

  • A.B. Leach & Co. v. Kinnear, 203 A.D. 5 (1922): Material Misrepresentation Justifies Rescission

    A.B. Leach & Co. v. Kinnear, 203 A.D. 5 (1922)

    A purchaser may rescind a contract based on a material, even innocent, misrepresentation by the seller, provided the purchaser acts promptly to rescind upon discovering the misrepresentation.

    Summary

    The plaintiff, Kinnear, bought securities from A.B. Leach & Co., relying on their agent’s representation that an application would be made to list the securities on the New York Stock Exchange. Kinnear had specified that he wanted listed securities. After the company went into receivership, Kinnear discovered no such application was ever intended. Kinnear immediately rescinded the sale, offering to return the securities and demanding his money back. The trial court dismissed the complaint, and the appellate division affirmed. The Court of Appeals reversed, holding that Kinnear had presented a prima facie case for rescission based on material misrepresentation, even if the misrepresentation was not intentionally fraudulent.

    Facts

    Kinnear, representing his company, informed A.B. Leach & Co.’s salesman, Bates, that they were only interested in purchasing listed securities due to liquidity needs. Bates recommended notes of the Island Oil and Transport Corporation, stating that application would be made to list these securities. A letter and circular from A.B. Leach & Co. reinforced this representation. Kinnear, relying on these representations, purchased the notes. Later, the company went into receivership, and Kinnear learned that no application to list the securities had ever been made, nor was it ever intended. Kinnear immediately offered to return the securities and demanded his purchase price back.

    Procedural History

    The trial court dismissed the complaint at the end of the plaintiff’s case. The Appellate Division affirmed the dismissal. The Court of Appeals reversed the lower courts’ decisions, finding that the plaintiff had established a prima facie case for rescission.

    Issue(s)

    1. Whether the representation that application would be made to list the securities was a material misrepresentation that would justify rescission of the contract.
    2. Whether an innocent (non-fraudulent) misrepresentation is sufficient to justify rescission of a contract in an action at law.

    Holding

    1. Yes, because the parties themselves made the representations material by Kinnear telling Bates that they only desired to purchase listed securities or those which were to be listed, and because listing on the stock exchange was shown to be a favorable factor from the standpoint of a purchaser.
    2. Yes, because innocent misrepresentation is sufficient to justify rescission in an action at law, just as it is in an action for rescission in equity.

    Court’s Reasoning

    The court reasoned that the representation regarding the listing of the securities was material because Kinnear explicitly stated his preference for listed securities, and evidence indicated that listing on the New York Stock Exchange adds value and credibility to a security. The court emphasized that “the parties themselves made the representations material because Kinn told Bates that they only desired to purchase listed securities or those which were to be listed.” The court found that the materiality of the misrepresentation was a question for the jury.

    Regarding the remedy, the court clarified that an action at law for rescission is appropriate when the plaintiff seeks only the return of money and requires no equitable relief. Importantly, the court held that “It is not necessary in order that a contract may be rescinded for fraud or misrepresentation that the party making the misrepresentation should have known that it was false. Innocent misrepresentation is sufficient, and this rule applies to actions at law based upon rescission as well as to actions for rescission in equity.” The court distinguished between actions for rescission (where innocent misrepresentation suffices) and actions for damages based on fraud and deceit (where willful and fraudulent misrepresentation must be proven). The court noted that the plaintiff had presented sufficient evidence to warrant a trial on the merits, even though they did not definitively prove their case. The court stated: “We do not say that the plaintiff proved its case, entitling it to payment; we do say that a prima facie case had been made out requiring a determination of the issues and of the facts.”