Gross Unfairness in Contracts

The law allows a broad range of freedom between parties in making contracts. This range is not, however, unlimited. Some terms may be barred by statute, such as the Uniform Commercial Code no allowing sellers of goods to disclaim an expressly stated warranty of the condition of the goods. (If they say it can do something, it has to do it.)  Some terms may be considered illegal because the courts have decided public policy does not tolerate them, such as bribery agreements. (There actually have been cases in which people sued for refunds of bribe money.)  Fraud, of course, may be grounds to get out of a contract.


A less well-defined concept is when a court may refuse to enforce a contract for being unconscionable. The basic idea is that a contract term, or the procedure used to obtain the term, is so grossly unfair that the court cannot, in good conscience, allow it to be enforced. Courts can either refuse to enforce such terms or limit them to be fair. Usually, this argument is used in cases of uneven bargaining power, but a recent case decided by the Washington Supreme Court discussed it in a case involving some fairly sophisticated bargainers.


Two mental health counselors were recruited by a health care network to treat members of the network. They later sued for violations of Washington’s employment laws, arguing that the network had classified them as independent contractors instead of employees.


The contract included a clause that disputes would be arbitrated. The counselors argued that this clause was unfairly obtained and interpreted by the network, and that it conflicted with the Washington employment law. The courts ruled that several parts of the arbitration clause were unconscionable, decided that these parts could not be separated from the rest of the arbitration clause, and refused to require arbitration. Because the contract included an agreement that it would be interpreted according to California law, the case has limited value in Washington generally, but it is a good illustration of how the idea of unconscionability works.


Whether a contract is unconscionable involves looking at both whether there was unfairness or surprise in the agreement and whether the terms are unreasonably unfair. Some of the terms in the arbitration clause proved to be the result of unfairness in the bargaining, and some proved to be unfair in their content.


The first issue was whether the counselors had a reasonable chance to refuse the terms. The court decided they did. They had been sent the contract for review before signing and were educated professionals with business experience. There wasn’t anything unfair about getting their signatures. It turned out, however, that there were problems with some of the terms.


The court then looked at a the clause requiring use of the rules of the American Arbitration Association. The counselors argued that this led to unfair surprise. The problem is that the Association has more than 20 different sets of arbitration rules, none of which was identified in the contract, and it was unclear whether the contract was intended as an employment contract or a commercial one. The network, over the course of the case, switched back and forth whether it thought the employment rules or the commercial rules should be used. The court decided that because of this inconsistency, the counselors were at risk of surprise if the case was arbitrated. Instead of selecting one set of rules, which it might have, the court decided that the fairest decision was to throw out the rule-selection term altogether.


The next argument involved a requirement that arbitration be held in San Francisco. The court decided that sophisticated people like the counselors could afford to go to San Francisco for arbitration, so it decided this term was fair.


Next was a clause in the contract that arbitrators could not award punitive damages. One of the claims by the counselors was for violation of Washington’s wage law, which allows for double damages in some cases. The court looked at earlier cases interpreting the law in question and decided that it was unclear whether the doubling of damages was intended to be a remedy to the counselors or a punishment of the network. Because of its uncertainty, the court decided that it couldn’t predict how an arbitrator would apply the no-punitive-damages clause, and that as a result it wasn’t grossly unfair. Effectively, it said that if there was going to be arbitration, it would leave this issue to the arbitrator. (We’ll see at the end that there won’t be arbitration. Also, four of the court’s nine justices wrote a concurring opinion that they thought it was clear that the double-damages statute was intended to be punitive and that the no-punitive-damages clause was unfairly one-sided.)


The next issue was a clause requiring claims to be brought within six months. The Washington wage laws have a three year statute of limitations. The court decided that the California courts, in earlier cases, had ruled that arbitration agreements shortening the time to bring a claim are unconscionable. Relying on this decision, it threw out the six month limit.


Another issue was selection of the arbitrator. The arbitration clause said that a single neutral arbitrator would be used, but then said that the network would submit a list of three arbitrators from which the counselors would select one. The court said that this was simply too one-sided to let stand. There was no way the counselors could prevent the network from naming arbitrators who might not be neutral at all.


The next issue is a bit surprising. The contract includes a clause that whoever loses pays the other side’s attorney fees. That’s a common provision in contracts. Washington’s wage laws, however, do not allow awards of fees against employees in disputes. They do allow awards of fees against employers. That was probably intended to even out the balance of power between the two sides. The court decided, effectively, that the statute prohibited changing the rule to “loser pays,” but it did so in the context of unconscionability. (A statement that the change was simply outlawed would have been cleaner.)


In whole, therefore, the courts ruled that the arbitration provisions were partly unenforceable and partly enforceable. That set up the question whether the court could effectively cut out the unenforceable parts and leave the rest. One way of looking at this is to decide whether the gross unfairness infects the whole agreement. The court decided that it did. It also pointed out that the selection of which rules applied could not be cut out without gutting the rest of the arbitration clause. As a result, it decided to throw out the arbitration requirement as a whole.


It takes a lot of unfairness before a court will rule an agreement is unconscionable. When it does, however, it may come down hard on the side pushing the unfair contract. If you are being pressured to sign a questionable contract, take the time to read the fine print. Ask for explanations. Find out if you’ll be given time to take it to a lawyer for review. The less leeway you are given, the greater the potential unfairness. On the other hand, unless there is a vague or concealed provision, or the legalese is particularly confusing, or the results are grossly one-sided, it may be safer not to make the deal. Think carefully, try to get advice if you can, and if you really have to sign, consider talking to a lawyer later for an opinion whether you can challenge the contract.

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