In these economic times, it is not unusual to find that the party with whom you have contracted no longer exists when it comes time to sue for breach-of-contract damages. A plaintiff may legitimately feel wronged by this circumstance and may search for ways to avoid the financial pain of having entered into a contract with a party who cannot pay the damages caused by its breach. The question becomes: What can the plaintiff do to get relief? Does having an insolvent business partner justify a plaintiff’s reaching out to sue others, who were not party to the contract, under tort theories?
Indeed, an insolvent contracting party on one end of an agreement often is not the target — or not the only target — of a plaintiff’s suit. Creative plaintiffs often go after noncontracting but related parties even where those parties should technically be shielded by the law from liability. Plaintiffs looking for a solvent party to sue for the breach of a contract will sometimes go after anyone they can identify as even tangentially related to the contract by asserting claims for negligence or prima facie tort. In addition to possibly finding a deeper pocket in a noncontracting defendant, a plaintiff may find that alleging a negligence claim invokes an otherwise innocent defendant’s insurance coverage and provides the plaintiff with a settlement opportunity it would not otherwise have.
The question is, however, does the law of New Jersey really support alleging negligence or another form of tortious wrong against just any solvent or insured party when the true party in interest is no longer viable? The New Jersey Supreme Court has most recently said “no” to this question: If there is a contractual claim against an insolvent entity, liability should not extend to surrounding parties under tort theories such as negligence and prima facie tort. Under the law of New Jersey, the contracting party should be limited in its remedy to its claim for breach of contract and to collecting whatever moneys may be available from the other — albeit insolvent — contracting party.
The Court has held that a plaintiff should not be permitted to recover under theories of negligence, negligent misrepresentation, negligent breach of contract, or prima facie tort where the plaintiff’s loss amounts to only that which it would have expected to lose from a breach of the contract. This was the holding of the New Jersey Supreme Court in Saltiel v. GSI Consultants, 170 N.J. 297 (2002). In that case, the plaintiff, Jan Saltiel, was awarded a contract to provide landscaping architectural services to William Paterson University. GSI Consultants agreed by contract to provide Saltiel with turf-grass specifications for the construction of the university’s athletic fields. GSI’s specifications, however, turned out to be inaccurate, causing Saltiel to pay another contractor $350,000 to rebuild the fields. But when Saltiel sued, GSI turned out to be insolvent.
Undaunted, Saltiel went after GSI’s principal, looking for a solvent adversary by alleging negligent design and negligent misrepresentation in addition to breach of contract. The Court held, however, that these tort claims could not be used to support liability because Saltiel had a contract, and the only damages suffered by Saltiel were her lost expectancy damages under that contract; in other words, Saltiel lost only what she had hoped to gain by reason of the contract with GSI. Because she had no contract with GSI’s principal, all of her claims against the principal failed.
The Court noted that “most jurisdictions hold that a contractor’s liability for economic loss is limited to the terms of the contract.” Likewise, the Court held that, under New Jersey law, a plaintiff cannot seek to enhance the benefit of her contractual bargain simply by adding tort allegations to sue others who were not parties to the contract.
Moreover, a plaintiff cannot use tort allegations to go after the corporation’s principal on a participation theory of liability in connection with a contract. This is because the “participation theory” of liability only applies to the commission of a tort; it does not apply to extend liability on contractual claims. The Court held that “irrespective of the allegations in the complaint that sound in tort, plaintiff cannot convert basic contract claims into negligence claims in order to create a basis for the imposition of personal liability on corporate officers.” Thus, when the only damages a plaintiff has suffered are economic losses arising from the breach of the contract, the plaintiff should be limited to suing only the contracting party and only for breach. That was, after all, the bargain the plaintiff made.
Another means by which plaintiffs have tried to impose liability on noncontracting parties is what is known as the “prima facie tort.” The term “prima facie tort” simply means “a wrong has been done to me.” The New Jersey Supreme Court has held that the prima facie tort theory of liability also cannot be used as a means of extending contract liability to noncontracting parties for purely economic harm. The prima facie tort theory of liability should not be permitted to be a “catch-all” alternative basis for liability when a contracting party is left without a solvent defendant from whom it can collect its damages for breach.
The plaintiff’s efforts to do this were struck down by the Supreme Court in Richard A. Pulaski Construction Co. v. Air Frame Hangars, 195 N.J. 457, 466 (2008). There, the plaintiff also found itself without a remedy because the party with whom it had contracted was “judgment-proof” due to insolvency. The Appellate Division held that the plaintiff could try to use the prima facie tort cause of action to obtain a judgment against Air Frame Hangars’ principal and remanded the case to the trial court. The Supreme Court, however, reversed the Appellate Division, holding that a defendant’s insolvency does not give rise to a prima facie tort claim because in order for that claim to provide a basis for liability, it is necessary that the plaintiff have no other cause of action against anyone. It is not enough that the plaintiff lacks only an effective remedy against the contracting party due to insolvency. If it has a contract claim, the plaintiff is limited to seeking contract damages from the contracting party and cannot extend liability through a tort claim.
The Supreme Court in Air Frame noted that if a plaintiff wants to seek to hold the corporation’s principals liable for the corporation’s breach of contract, the only way to do that is to present and support a claim for piercing the corporate veil. Piercing the corporate veil requires a plaintiff to establish that the corporate form has been disrespected by the principals “to defeat the ends of justice, to perpetrate fraud, to accomplish a crime, or otherwise to evade the law.”
This is a high mark to reach because in reviewing a claim for piercing the corporate veil, the New Jersey courts should presume the corporate form is valid and respect its separateness from its principals unless the plaintiff has a true factual basis for establishing otherwise. The courts “abide by ‘the fundamental proposition that a corporation is a separate entity from its shareholders, and that a primary reason for incorporation is the insulation of shareholders from the liabilities of the corporate enterprise.’” The burden of proof is on the plaintiff to establish otherwise.
These recent cases illustrate two points. First, plaintiffs often will make legally invalid claims against persons who were not party to a contract simply to find a solvent target to satisfy their damage claim. And second, the appellate courts and the trial courts do not always get it right in dismissing these claims. The Supreme Court of New Jersey has spoken to these issues and, at the end of the case, a contract and the corporate form should protect noncontracting parties from liability for a breach by an insolvent entity. ■