MISREPRESENTATION
What Is a Misrepresentation?
A misrepresentation is a false statement of a material fact made by one party which
affects the other party's decision in agreeing to a contract. If misrepresentation is
discovered, the contract can be declared void. Depending on the situation, the
adversely impacted party may seek damages.
KEY TAKEAWAYS
Misrepresentations are false statements of truth that affect another party's
decision related to a contract.
Such false statements can void a contract and, in some cases, allow the other
party to seek damages.
Misrepresentation is a basis of contract breach in transactions, no matter the
size, but applies only to statements of fact, not to opinions or predictions.
There are three types of misrepresentations—innocent misrepresentation,
negligent misrepresentation, and fraudulent misrepresentation—all of which
have varying remedies.
How Misrepresentation Works
Misrepresentation applies only to statements of fact, not to opinions or
predictions. Misrepresentation is a basis for contract breach in transactions, no
matter the size.
A seller of a car in a private transaction could misrepresent the number of miles
to a prospective buyer, which could cause the person to purchase the car. If the
buyer later finds out that the car had much more wear and tear than
represented, they can file a suit against the seller.
In higher-stakes situations, a misrepresentation can be considered an event of
default by a lender, for instance, in a credit agreement. Meanwhile,
misrepresentations can be grounds for termination of a mergers and
acquisitions (M&A) deal, in which case a substantial break fee could apply.
Special Considerations
In some situations, such as where a fiduciary relationship is involved,
misrepresentation can occur by omission. That is, misrepresentation may occur when a
fiduciary fails to disclose material facts of which they have knowledge.
A duty also exists to correct any statements of fact that later become known to be
untrue. In this case, the failure to correct a previously false statement would be a
misrepresentation.
Types of Misrepresentations
There are three types of misrepresentations.
Innocent Misrepresentation
Innocent misrepresentation is a false statement of material fact by the defendant, who
was unaware at the time of contract signing that the statement was untrue. The remedy
in this situation is usually rescission or cancellation of the contract.2
Consider a situation where a seller of a piece of land mistakenly informs a buyer that
there is planning permission granted for a new housing development nearby. The seller
genuinely believed this to be true based on information received from a neighbor.
Unfortunately, unknown to the seller, that planning permission had since been denied.
Because the buyer relied on this information in deciding to purchase the land, the seller
may be liable due to innocent misrepresentation since they made a mistake (even
though it was an honest mistake).
Negligent Misrepresentation
Negligent misrepresentation is a statement that the defendant did not attempt to verify
was true before executing a contract. This is a violation of the concept of "reasonable
care" that a party must undertake before entering an agreement. The remedy for
negligent misrepresentation is contract rescission and possibly damages.
University of North Caroline, School of Government. "N.C.P.I.—Civil 800.10:
Negligent Misrepresentation, General Civil Volume, March 2020 ."
Suppose a real estate agent, while showing a property to potential buyers, states that
the roof was recently renovated. It turns out that the roof needs significant repairs.
Despite not intending to deceive, the agent's negligent statement about the roof's
condition played a part in the buyers making an offer on the property. If the buyers later
discover the true state of the roof, they may have grounds to claim damages from the
agent for the costs of repairing the roof as the agent was negligent in sharing incorrect
information.
Fraudulent Misrepresentation
Fraudulent misrepresentation is a statement that the defendant made knowing it was
false or that the defendant made recklessly to induce the other party to enter a
contract. The injured party can seek to void the contract and recover damages from the
defendant.
Imagine a scenario where a seller knowingly advertises a used car as having only
50,000 miles on the odometer. However, the car actually has 150,000 miles on it, and
the seller has rolled back the odometer. The buyer relies on this false information and
would buy the car based on the misrepresented mileage. In this case, the seller's
fraudulent misrepresentation gives the buyer grounds to rescind the contract, return the
car, and potentially seek damages for any losses suffered due to the deception.
How to Prove Misrepresentation
In order to recover damages due to misrepresentation, there are six legal bars for the
plaintiff to overcome. The plaintiff must be able to show that:
1. A representation was made.
2. The representation was false.
3. The defendant knew at the time that the representation was false, or recklessly
made the statement without knowledge of its truth.
4. The representation was made with the intention that the plaintiff would rely on it.
5. The plaintiff did rely on the false representation.
6. The plaintiff suffered harm by relying on the false representation.
All six of these requirements must be met in order for a plaintiff to win a case for
misrepresentation. A defendant in one of these cases need not disprove all six of these
claims.
Misrepresented Financial Statements
Companies and their financial statement preparers can falsify (knowingly or
unknowingly) their financial performance. Misrepresentations in financial statements
can impact various stakeholders, including investors, creditors, regulators, and the
broader public. Here's how each group can be affected:
Investors: Misrepresentations, whether intentional or due to negligence, can
distort the true financial health and performance of a company. For example,
overstating revenues or understating expenses can artificially inflate profitability
metrics, leading investors to overvalue the company's stock. Conversely,
concealing liabilities or risks can mask the true financial risks faced by the
company, potentially leading to losses for investors when the true financial
situation is revealed.
Creditors: Creditors use financial statements to assess the creditworthiness of
a company. Misrepresentations can mislead creditors about the company's
ability to repay debt obligations. For instance, if a company falsely inflates its
assets or understates its liabilities, creditors may extend credit thinking a
company may be able to pay off its debt when, in fact, it might not be able to.
Regulators: Regulatory bodies such as the Securities and Exchange
Commission (SEC) rely on financial statements to ensure compliance with
accounting standards and securities laws. Misrepresentations can undermine
the integrity of financial markets and erode investor confidence, a primary
concern for regulatory bodies in charge of overseeing the stability of those
markets.
General Consumers: Misrepresentations in financial statements can undermine
public trust in a company. Even if those consumers don’t own an equity stake in
the company, consumers may choose to take their business elsewhere to
support more honest operations if misrepresentations were to come to light.
What Are the Legal Consequences of Misrepresentation?
The legal consequences of misrepresentation vary based on the type and severity of
the misrepresentation. The innocent party may have the right to cancel the contract if
the misrepresentation is material. Damages may be awarded to compensate the
innocent party for any losses suffered. In cases of fraudulent misrepresentation,
punitive damages may be awarded to punish the party responsible.
Does silence count as misrepresentation?
The maxim ‘caveat emptor’ or buyer beware applies, meaning in most cases, remaining
silent will not amount to a misrepresentation unless:
The statement is a half-truth, and what is left unsaid makes it false
A true statement becomes untrue before the contract is confirmed (if this
happens, the party who made the statement must inform the other of the change)
Where the contract is in utmost good faith or emerges from other fiduciary
relationships, such as an insurance or employment contract
In both these contract types, failing to disclose information can make the contract
voidable (for example, the insurer refusing to pay out on a claim). If there is doubt as to
whether or not something should be declared, it’s always sensible to get legal advice
before withholding the information.
Is fraudulent misrepresentation a criminal offence?
The Fraud Act 2006 created the offence of false representation. Under the Act, a
representation is false if it is made dishonestly to make a gain for themselves or another
or cause loss or expose another to the risk of loss. If convicted of fraud by false
representation, under criminal law, the Defendant can be liable for a maximum sentence
of up to ten years, an unlimited fine, or both.
How can I prove misrepresentation?
To bring a misrepresentation claim to a civil court, you, as the Claimant, must prove on
the balance of probabilities that:
A false statement of fact or law was made
That statement induced you to enter into the contract
Because of the misrepresentation, you suffered a loss
Evidence of dishonesty or negligence will need to be provided. This could be in the form
of documents, witness statements, and/or expert evidence. Remember, most cases
settle well before anyone sets foot in a courtroom, and the more evidence you have to
demonstrate your case, the greater your chances of achieving an early settlement,
thereby saving on legal fees and negating the risk of an adverse cost order being made
against you.
Can misrepresentation void a contract?
A misrepresentation makes a contract voidable by the Claimant. You can rescind the
agreement and return to your position before signing the contract or accepting the deal.
This is different from a void contract; in this scenario, the contract cannot be taken as it
was invalid from its inception and, therefore, never existed in the first place.
