Assigning A Breach of Contract Claim In Illinois and The Available Defenses

Contract rights are assigned fairly often, especially in the mortgage loan and credit card contexts.  In the former mortgage scenario, it’s common for a promissory note to be assigned multiple times during the note’s lifespan.  When there’s eventually a note default, it becomes a challenge for the noteholder to trace how it came into the note’s possession.  Repeated note assignments also provide the note maker (person who signed the note) a ready-made defense to a lawsuit based on the note.  The noteholder plaintiff then has the burden of proving to the court that it has the right to sue on the note.

Because assignments are so prevalent and confusion often results as to who can enforce contract rights, it’s important from both plaintiff and defense sides to have a working knowledge of what claims can be assigned and what defenses are available to a a defendant sued by an assignee of a contract claim.

The basics: a person that has a claim against another has a “chose in action.”  Classic examples of a chose in action include a claim for money owed on a debt, a right to stock shares or a claim for damages in tort.  Black’s Law Dictionary 258 (8th ed. 2004)

Choses in action are generally assignable. An assignment transfers title to the chose in action to the assignee, who becomes the real party in interest.  The assignee of the chose in action may then sue on the claim in his or her own name.

An action brought by an assignee is subject to any defense or set-off existing before notice of the assignment is given to the defendant.  735 ILCS 5/2–403(a).  But the set-off or defense must relate specifically to the assigned claim.  It can’t pertain to something extraneous to that claim.

Example, if Company X assigns its 2015 breach of contract claim against Person Y to me and I sue Person Y, Person Y can’t raise as a defense a $1,000 claim Person Y has against Company X from a 2013 contract.  The two contracts are different and involve different underlying facts. Person Y can only defend based on the same 2015 contract Company X assigned.

Puritan Finance Corp. v. Bechstein Const. Corp. 2012 IL App(1st) 112261 illustrates what defenses a defendant has versus a contract claim assignee under the common law and under Article 9 of the UCC.

The plaintiff was the assignee of a bankrupt trucking company (the Assignor) that had previously done business with the defendant.  The Assignor was owed monies by the defendant and assigned its claim to the plaintiff, a secured creditor of the Assignor.

After the plaintiff sued, the defendant asserted defenses based on an unrelated claim it had against the Assignor before the plaintiff’s involvement.  The court granted judgment for the plaintiff after a bench trial for the full amount of its claim (about $22,000) and the defendant appealed.

Affirming the judgment for the assignee, the court first rejected the defendant’s set-off claim under Code Section 2-403(a).  Since the defendant’s set-off involved a contract that was separate from the one being sued on, the defendant couldn’t use this separate contract as a defense to the assignee’s lawsuit.

The defendant’s Article 9 defense was a closer call.  UCC Article 9 governs security interests in personal property as collateral to secure a debt.  Section 9-404(a) of the UCC (810 ILCS 5/9-404) provides that an account debtor can assert against the assignee (1) any defense he (the debtor) had against the assignor “arising from the transaction” giving rise to the assignee’s claim; and (2) any other defense the debtor has against the assignor that accrues before the debtor received notice of the assignment.

Here, the defendant argued that under paragraph (2) of 9-404, it could assert defenses that related to a separate contract between it (the defendant) and the Assignor.  The court disagreed and gave a narrow reading to Section 9-404.

It held that since the defendant didn’t and couldn’t yet file suit against the Assignor before the assignment of the contract to the assignee/plaintiff, the defendant’s claim hadn’t “accrued” within the meaning of Section 9-404.  As a result, judgment for the plaintiff was affirmed.

Afterwords:

– Where a defendant is sued by an assignee of a contract claim, it will be difficult to challenge the claim unless the defendant has claims or defenses against the assignor that are transactionally related to the assigned claim.  If the defendant’s defense relates to a separate, unrelated transaction, the defense or set-off will likely fail;

– Under Section 9-404, a defense “accrues” where the defendant actually has a viable cause of action against the assignor, such as where there has been a default in assignor’s payment obligations, instead of just a bare claim that a defendant is owed money on an unpaid invoice.

Federal Court Applies IL Tortious Interference Rules and the Statute of Frauds in Railcar Lease Dispute

trainThe Northern District of Illinois recently discussed the pleading and proof elements of tortious interference with contract and the promissory estoppel doctrine in a commercial railcar lease dispute. In Midwest Renewable Energy, LLC v. Marquis Energy-Wisconsin, LLC 2014 WL 4627921 (N.D. Ill. 2014), the plaintiff sublessor of railcars sued the sublessee for damages after the plaintiff’s lessor terminated a lease (“Master Lease”) for the same cars.  The sublessee moved for summary judgment.

Result: Motion granted.  Plaintiff’s tortious interference and promissory estoppel claims are defeated.

Q: Why?

A: After the railcar lessor terminated the Master Lease with the plaintiff and started dealing directly with the sublessee, the plaintiff sued it’s sublessee for tortious interference and promissory estoppel. Granting summary judgment for the sublessee , the Court enunciated the key tortious interference with contract elements under Illinois law.

Tortious Interference with Contract

A tortious interference with contract plaintiff must show (1) the existence of a valid and enforceable contract between the plaintiff and another, (2) the defendants’ awareness of the contract, (3) the defendants’ intentional and unjustified inducement of a breach of the contract, (4) subsequent breach of the contract caused by the defendants’ wrongful conduct, and (5) damagesIf a plaintiff fails to perform its contractual obligations, it can’t prove breach and its tortious interference claim will fail.

Here, the plaintiff’s tortious interference claim failed because it couldn’t show that its lessor breached the Master Lease. The plaintiff actually breached it by subletting it to defendant without the (Master) lessor’s knowledge and consent (the Master Lease required the lessor’s consent to any sublease or assignment) and also by failing to make several months’ of railcar lease payments.  Since the lessor was able to terminate the lease on plaintiff’s breach, the plaintiff failed to establish that the lessor breached – an essential tortious interference element.

Promissory Estoppel

Next, the Court rejected the plaintiff’s promissory estoppel count. Plaintiff predicated this claim on the defendant/sublessee’s promise to buy out plaintiff’s rights under the Master Lease.

Promissory estoppel is a doctrine under which the plaintiff may recover without the presence of a contract. To prove promissory estoppel, a plaintiff must show (1) defendant made n unambiguous promise to plaintiff, (2) plaintiff relied on such promise, (3) plaintiff’s reliance was expected and foreseeable by defendants, and (4) plaintiff relied on the promise to its detriment.  Aspirational negotiations or proposals don’t equate to a clear promise under the doctrine.

Plaintiff’s promissory estoppel claim failed because it couldn’t show a clear promise by the defendant to buy out plaintiff’s Master Lease rights. The evidence reflected that any lease buy-out talks were merely negotiations; not ironclad promises.

The promissory estoppel clam was also defeated by the statute of frauds – which requires certain contracts to be in writing.  Under Section 2A of the UCC, lease contracts for goods (like railcars) have to be in writing unless the total lease payments are less than $1,000.  810 ILCS 5/2A–201(1). Where the statute of frauds applies, to a contract, it also requires an assignment of the contract to be in writing and signed by the party being sued.

Here, since the statute of frauds applied to the Master Leases and well over $1,000 was at stake, any assignment from plaintiff to defendant of the Master Lease had to be in writing.  The Court rejected the plaintiff’s claim that several e-mail exchanges with the sublessee satisfied the statute’s writing requirement.  The Court found that since the none of the emails contained the contract parties, subject matter or price term of the supposed assignment agreement, the sporadic emails didn’t meet the writing requirement. (*5).

Take-aways: The case is post-worthy for its discussion of the key tortious interference with contract elements and how important it is for a plaintiff to show that it complied with the contract it is claiming was wrongfully interfered with. The case also provides good summary of promissory estoppel elements and cements the proposition that the statute of frauds will still apply to bar the claim if the subject matter is one that has to be in writing under the law.  Finally, this case amplifies the importance of careful lease drafting and review.  Parties to lease agreements – whether for real estate or tangible goods – should be cognizant of assignment and sublease provisions.  They almost always require the prime lessor’s knowledge and written consent.

 

 

 

 

 

Illinois Guaranty Law: Increasing Guarantor’ Risk or Changing the Terms = Discharged Guaranty

In Southern Wine and Spirits of Illinois, Inc. v. Steiner, 2014 IL App (1st) 123435, the First District outlined and applied the rules governing the interpretation and enforcement of written guaranty agreements in Illinois.

The plaintiff wine distributor purchased the assets of another distributor that had previously entered into a contract with a liquor store company; a contract personally guaranteed by the individual liquor store owners.

The year after the asset purchase, the plaintiff began supplying wine to the defendants’ liquor store on account.  But neither the plaintiff nor the purchased distributor informed the guarantors of the asset purchase.  Because of this, the guarantors had no idea that the assets of the distributor were sold to the plaintiff.  The defendants also didn’t know that the plaintiff now held the guaranty given by the liquor store owners to purchased distributor.

When the liquor store defaulted on about $20,000 worth of merchandise, the plaintiff sued under the guaranty signed by the liquor store owners.

The defendants moved to dismiss on the basis that the personal guaranty wasn’t assignable to the plaintiff since defendants didn’t know they were guaranteeing the liquor store’s contract obligations to the plaintiff.  The trial court agreed and plaintiff appealed.

Result: Trial court affirmed.

Rules/Reasoning:

In Illinois, a guaranty is simply a contract where a guarantor promises to pay the debts of a “principal” (the main debtor) to a third party creditor.

A guaranty is construed like any other contract and a guarantor is given the benefit of any doubts that may arise from the language of a guaranty.  A guarantor’s liability can’t exceed the scope of what he has agreed to accept and guaranties are strictly construed in favor of the guarantor; especially when the creditor drafted the guaranty.  ¶ 16. 

Guaranty agreements are generally not assignable but a guaranty can be assigned where the essentials of the original contract are not changed and the performance required under the guaranty isn’t materially different from what was originally contemplated

Where (1) a guarantor’s risk is increased or (2) performance is materially changed by the assignment of a guaranty or a merger involving the plaintiff-creditor, the guarantor’s obligations can be discharged. ( ¶ 18).

The Court held that because the defendants didn’t know that the guaranty was assigned to the plaintiff and because the amount owed the plaintiff fluctuated from month-to-month (in contrast to the  fixed amount the guarantors owed the original distributor), the defendants’ risk under the guaranty was materially increased by the assignment to plaintiff.

This was deemed a material change in the terms of the agreement that defendants entered into with plaintiff’s predecessor and changed defendants’ risk from known to completely unknown.  (¶¶ 21-22).

The Court also held that the trial court properly struck key parts of the plaintiff’s affidavit filed in response to defendants’ motion to dismiss.

The plaintiff filed the affidavit of its credit manager who testified that she reviewed the payment history involving the purchased distributor and the guarantors’ liquor store business.  The credit manager attached about two years’ worth of invoices and a payment ledger to her affidavit.

But the invoices didn’t  reference the prior wine distributor and only identified the guarantors’ liquor store.  The Court found that because the affidavit attachments failed to link the plaintiff directly to either the guarantor defendants or their liquor business, the plaintiff failed to lay an adequate foundation for the invoices as business records.

Take-aways:

– A guaranty agreement should specify whether or not it’s assignable and enforceable by third parties;

– Where a guaranty is assigned to a third party, the original creditor and assignee should both notify the guarantor and make it clear that the assignee creditor plans to hold the guarantor to the terms of the guaranty;

– Where an assigned or sold guaranty either changes the guarantor’s performance or materially increases his risk, for example by increasing the payment terms or frequency, the guaranty will likely not be enforceable by a third party/assignee.