Warranties and representations are some of the most important provisions in any agreement; in fact they are fundamental. To recap a prior post, a ‘warranty’ is a promise that a statement is true, and a ‘representation’ is a statement of fact which applies to the past or present and is intended to induce its recipient to act. The remedies for breach of either are different, and the recipient will want to receive both in any contract to ensure maximum enforcement rights.

A breach of a ‘representation’, or more correctly a ‘misrepresentation’ (representations are not promises and cannot be breached), can be innocent, negligent, or fraudulent. All misrepresentations must be material, meaning that a misrepresentation must pertain to an important part of the agreement and bargain. If a misrepresentation is innocent or negligent, the standard remedies are avoidance and restitution. Avoidance, which is the same as rescission, simply means the unwinding of an agreement, as if it had never occurred. Restitution means that each party returns to the other all that it has received, and the agreement becomes null. If a breach is fraudulent, meaning it was perpetrated knowingly and with intent to defraud, the injured party has a choice of remedies. The first choice is restitution, as with the breaches discussed above, the other choice is to retain the benefits of the agreement and seek damages in fraudulent misrepresentation, which may include punitive damages (monetary punishment).

With fraudulent misrepresentation the damages calculation used in Texas, and a majority of states, is the benefit of the bargain measure of damages. This simply means that the damages are calculated as if the breaching party had performed as promised. The number is obtained by subtractive the actual value received from the value of the benefit as represented. So, if an item was purchased for $5k, with a promised value of $10k, and in fact turns out to be worth $3k, the benefit of the bargain measure would mean the proper damages would be $7k, not $5k (the amount paid). The formula is: value as promised-actual value=damages.

The other measure of damages used by a minority of states is the out of pocket measure. This simply means that the actual value is subtracted from the amount paid. In the above example the amount paid was $5k-actual value $3k=damages in the amount of $2k. You can see that the benefit of the bargain measure provides a greater recovery for the plaintiff, and most would agree it is the more fair measure because the buyer relied on the promise that the value of the bargain was much greater than the amount being spent, otherwise the buyer would not have entered the transaction. Punitive damages are also available and should be sought in most cases. The measure for this type of damages is the amount which a court or jury would consider just and sufficient to compensate the victim for other than financial injury, deter further wrongdoing by the defendant, and affirm the public policy of deterring civil wrongdoing.

A breach of warranty will have the standard measure of damages which is the benefit of the bargain described above. The highest potential recovery will dictate the damages sought, which are likely to be benefit of the bargain for breaches of warranty, and benefit of the bargain to include punitive damages for fraudulent misrepresentations. Innocent and negligent misrepresentations will cause a contract to be unwound, avoided and restitution paid to the injured party so the parties end up as though the contract in dispute had never existed.

There are seven concepts within in the language of contract drafting. These concepts must be understood in order to be properly expressed in a document so that a commonly understood meaning may be assigned to the document’s provisions by all signatories. This commonality of intent is necessary so that potential disputes are avoided as to the meaning, intent, or potential ambiguity which is not evident at the time of drafting. It is common practice that attorneys who do not know and have never studied the concepts of contract drafting will engage in drafting documents which will not be interpreted in the same manner by other parties, or courts. Contract drafting is a particularized niche which should not be entrusted to dilettantes, equally as much as litigation should be left to knowledgeable litigators.

The seven contract concepts are:
1. Representations
2. Warranties
3. Covenants
4. Rights
5. Conditions
6. Discretionary Authority
7. Declarations

These concepts will all be discussed in future posts, in pairs, and only two will be reviewed here. Representations and warranties typically go together because they cover the same ground and can be worded the same way. A representation is a statement of a past or present FACT, made as of a moment in time which is made in order to induce a party to act. This is not a promise but a statement. A warranty is a promise that the statement is true, and implies the indemnification of the other party in the event that this promise turns out to be false.

An example of a ‘representation’ within a contract would be: “The Mazda is five years and two months old, it has no known mechanical problems.” A representation can only apply to past or present facts, not to the state of future facts. Additionally, it must induce the other party to act or rely on that representation, AND that reliance must be reasonable. Therefore, if a mechanic inspects the vehicle and informs the buyer of mechanical problems, reliance by the buyer on that representation would not be reasonable, and a cause of action for misrepresentation would not lie, however, an action for breach of warranty may exist. There are three types of misrepresentations, innocent, negligent, and fraudulent, which imply a different determination of damages, these are to be discussed in another post.

A warranty is a promise of the truth of a statement, and it is irrelevant if the maker of the warranty knew that the warranty was false when made; the maker will still owe damages to the other party. “The Mazda is five years and two months old” is a warranty, which can be a promise about anything pertaining to the contract, and the determination of its breach is determined as of the time when it was made, not as of the time when the truthfulness or falsity of the warranty was discovered. Therefore, if the sale of the hypothetical car sale is not consummated for another three months, the car will not be “five years and two months old,” as stated in the bill of sale, however, no action for breach of warranty, or misrepresentation will exist because the statement was true when made. Most parties will seek that both representations and warranties are made by the maker, while the maker will seek to limit his/her obligation to one or the other to limit potential liability. The maker may but is certainly discouraged from making warranties about future facts. Breach of a warranty also contains its own measure of damages.

This question is common in today’s lagging economy where the expense of the regulations, benefits, and paperwork of hiring employees may be cost prohibitive to many small to medium sized businesses. The answer is usually relatively simple, and one that also requires a solid contract to finalize. Without a contract, and in the event of a dispute and potential litigation, the judge or jury will decide, and even with a contract, independent contractor status is sometimes imposed and withdrawn by a court of law, as the facts of the relationship may dictate. However, a written agreement will go a long way towards memorializing the parties’ intent. The employer is not required to provide any benefits to an independent contractor, and is not responsible for any tax obligations, such as withholding. The employer merely must provide a 1099 form at the end of each tax year to the worker who files his or her own taxes.

Texas law presumes the relationship between a worker and the employer to be that of ‘employee and employer’, and the burden of proving independent contractor status is on the employer. The main issue in this determination is control. How much control over day to day activities does the hiring entity exercise over a particular worker? In the Texas Workers’ Compensation Act an independent contractor is defined as “a person who contracts to perform work or provide a service for the benefit of another and who ordinarily:

1. acts as the employer of any employee of the contractor by paying wages, directing activities, and performing other similar functions characteristic of an employer-employee relationship;

2. is free to determine the manner in which the work or service is performed, including the hours of labor of or method of payment to any employee;

3. is required to furnish or to have employees, if any, furnish necessary tools, supplies, or materials to perform the work or service; and

4. possesses the skills required for the specific work or service.”

An important point to add is that ‘non-compete’ clauses in any hiring relationship will strongly indicate employee status for the worker. In addition, the employer should have no interest in how the independent contractor allocates his time. By the same token, the employer should have no interest in the contractor’s right to hire his own helpers and provide his own tools. Finally, the more long-term, continuous, and exclusive the relationship is, the more likely it is to be considered employment.

The IRS uses its own eleven-part test based on common law and various criteria of its own making, which should be discussed with your federal tax preparer if necessary.

This office regularly drafts independent contractor agreements to ensure that the hiring relationship is understood by all parties from the get go. All forms of compensation should be clearly stated in writing, as should all duties and obligations of each party. Nobody wants to have this dispute after the work is completed or ongoing, at a significant cost and time expenditure.

There is a common misconception that contracts are made up of legalese boilerplate which is of little use to the modern style of doing business, and only needed in case of litigation between the parties. Some people, particularly in some cultures, consider contracts as a limitation of their business model because it nails down the relationship between the parties and creates an inflexible modality through which the current of the transaction must flow. Others simply don’t see the expense of obtaining a custom agreement drafted for their transaction as worth the cost.

Aside from the potential deductibility of the legal costs pertaining to a transaction and of course the hope that the completed agreement will in the long run save both parties considerable time, stress and expense, a contract suited to modern business should not consist of esoteric legalese that no one but an attorney can understand. The modern trend is to use ‘plain English’, and this term has a specific meaning which is that a contract should be drafted in a clear and modern style which will allow all parties to read and understand the mutual obligations contained therein without the assistance of a legal counselor. The typical form of such agreements will contain easy to follow organization, small paragraphs, short sentences, and precise language that comports with modern usage. In the event of litigation, a court will use the ‘plain meaning’ rule of construction; which dictates that what a contract states, is what was intended to be written down and is the full and complete expression of the parties’ wishes. The court will not attempt to interpret an agreement unless it is ambiguous in its usage of words, or ambiguous as to the situation of the dispute involved. What this means to the parties is that if an agreement is clear on its face, then it can be relatively easily predicted as to how a court would rule, and in most cases litigation may be avoided. At most, mediation would be employed to resolve any open dispute.

As to the concern that an agreement is inflexible and will only box one or both of the parties into a corner, one should not give it any thought whatsoever for the following reasons. Firstly, a competent attorney should be able to structure any agreement precisely as the parties wish it to be; meaning as flexible or as rigid as agreed upon during negotiations. If the parties foresee that some wiggle room may be necessary in the future regarding some area or provision, precise word choice will allow that space to broaden or narrow as necessary without the need to amend or revise the agreement. If the parties fail to have the attorney insert the wiggle room necessary to conduct the transaction as needed by the parties, this issue can be easily resolved at a minimum of expense by creating a simple amendment which will cancel out some prior part of the original agreement and replace it with a new term or terms as desired. This amendment is signed by both parties and attached to the full agreement, at which point it becomes effective as if the original provisions which were revised or replaced never existed. Please contact The Law Office of Bruce Belenky, PPLC regarding any questions you may have about contracts and the drafting process. Different fee structures are available as the client may find most convenient, with either flat fee or hourly arrangements.

With the advent of social technology, most entreuperneurs are appropriately concerned about privacy, anonymity, and asset protection when forming and managing their respective businesses. Few people who do not obtain the counsel of an attorney properly handle the legal issues incidental to the proper protection of their hard-earned accounts. Technology allows persistent parties to discover the full ownership of any entity whose existence was filed with the state, and other tools permit the discovery of the financial condition and assets of such entity, allowing the prospect of harassment and litigation to loom over the company relentlessly. The goal of anonymity and asset protection is to make the discovery of such information as difficult and costly as legally possible. The routes to this end-goal are many, and only a consultation with a knowledgeable attorney will permit a customized plan-which will fit your goals and budget-as to how to accomplish this; however, some general advice will follow. Please do remember, that total anonymity and total asset protection is not possible, and any advisor who promises such is not being honest with you.

The first task of forming a legal entity separate from its owner(s) and making the entity anonymous, entails the filing of proper documentation with the state which does not name the actual owner(s), because such documents become public upon filing. The formation forms will seek three items: the initial forming party, initial member(s), and the agent for the company to receive legal and government documents. Two of those can name your legal counsel or you may use a postal box with an actual address, not a P.O. Box. The initial member category may be satisfied by means of a clever maneuver such as naming the attorney and having the attorney transfer all interest in the new company to you immeditely thereafter. However, within one year of formation you will be required to file documents about your company with the Texas Comptroller, which will require you to disclose all members of the company. This demand can be effectively circumvented by one of two ways: the transfer of the ownership interest back to the attorney for the purposes of filing the franchise forms, and immediately retransferring the interest back again, this procedure being repeated each year thereafter, or the creation and use of a trust, without naming the trustee (company owner) in the public form, but actually naming the attorney as outside legal counsel for the trust. Of course, DBA certificates should be obtained from the state and county governments for all companies.

Alternatively, a two company structure can be used (plus a trust), with the second company being formed any time during the first year of the first company’s operation. The second company would have a management agreement with the first, as well as have the owner’s interest in the first company transferred into it. Additionally of note is that the second company may be a series LLC, which allows maximum flexibility with asset and interest ownership, as well as better asset protection than a regular LLC (series LLCs will be covered in a separate article). The second company should function as a holding company, and merely hold all assets split up into separate compartments within the company called ‘series’ by either asset or owner or any other way the owner wishes. This leaves the first company to do business with the public and hold a minimum amount of assets necessary to carry on day-to-day operations with a strong level of anonymity and asset protection, while bearing the entirety of the risk. The second company should have one series without assets, which would be the member and manager of the first company (eg.: The XYZ company, LLC-Series D), and would be the company that is named as the member/manager of the first company on any forms required by government. Finally, a trust may be created to manage the second company for a very substantial anonymity and protection package, because trust documents are private and are not filed with the state.

Please do not attempt any of the above strategies on your own due to the fact that careful and detailed planning and document drafting is required to properly impliment these and other asset protection/anonymity plans.

The drawbacks of franchising are numerous. Some of these may be global, in that at times the business model is so poor that the initial success of a business was a stroke of timing luck or marketing or the individual personality of the owner, and simply cannot be replicated in other locations with other owners, which may lead to a large percentage of failures, and lost investments. Many franchise opportunities are simply money making schemes for the parent company, in that it will always make some form of profit, even if the business goes belly up within a short time, and if it doesn’t, all the better. Some companies offer negligible support and/or may charge too much for products provided to the franchisee, or as franchise fees.

If the parent company is reputable, and has a reasonably long history of success, the fault could lie with the franchisee. Some operators are simply unable to manage a business, due to lack of experience and/or education, and no amount of home office support will save them.

The other major problem with franchising is micro-management. In general, although a franchisee is considered the owner for tax purposes, the parent company will almost always continue to exercise a substantial degree of control over the business and how it is run. There are usually terms in the franchise agreement which specifically circumscribe the autonomy of the ‘owner’ and his/her business judgment. Some of the provisions may relate to the internal/external appearance of the business, marketing, the product line, the supply line, pricing requirements, monthly minimums, and so on. Such strict limitations may be non-negotiable, and may produce a pernicious effect on resulting profits or lack thereof. If some particular product fails to sell at the franchisee’s location, but he is required to purchase x amount of that product each month, this may be lucrative for the parent company, but not so great for the franchisee. A successful business model in one circumstance or location may not work in another.

With a franchise license from a reputable company, the franchisee should receive numerous benefits which may increase the chance of success; however, the lost autonomy to quickly react to market conditions and adjust the business model accordingly may negatively affect the franchisee’s quality of life and perceived right of control, not to mention precipitate the failure of a very substantial investment of time and money. No investor without the requisite experience, knowledge base, disposable income, and a complete understanding of the potential ramifications resulting from obtaining a franchise license, should enter into such an agreement.