Negotiations related to gross negligence and willful misconduct seem to be trending this past fall. So, I thought I’d take this opportunity to revisit what these phrases actually mean in the context of commercial contracting. In many agreements, gross negligence and willful misconduct are “carve-outs” in the limitation on liability provision.
What do I mean by a “carve-out” on the limitation on liability?
The limitations on liability in a contract act as a cap on what a party to a contract can recover from the other party (or parties) to the contract. To put this in context, let’s take a hypothetical software license agreement in which the licensor has negotiated that: (a) the licensee cannot recover indirect damages; and (b) with respect to direct damages, the licensee can only recover two times the value of what the licensee paid to receive the software. So, if something goes wrong and the licensee wants to sue the licensor for a breach of the agreement, then the total amount the licensee can receive from the licensor is two times the value of what the licensee paid to receive the software. As an aside, generally speaking, indirect damages are those damages that reflect lost opportunity costs rather than actual out-of-pocket costs.
There are some situations where the licensee would want the right to recover more than the negotiated caps. These are the situations like gross negligence or willful misconduct. Agreements often “carve-out” these situations from the limitations on liability and, therefore, allow the licensee to receive unlimited amounts of damages.
What do “gross negligence” and “willful misconduct” mean?
Well, it depends on what state’s governing law applies, the context in which the phrases are used and existing case law. And they often require review of cases dating back to the 1800s.
In Illinois, for example, gross negligence means recklessness or “a course of action which … shows an utter indifference to or a conscious disregard for a person’s own safety and the safety of others.” See Resolution Trust Corp. v. Franz, 909 F.Supp. 1128, 1141 (N.D.Ill. 1995). Illinois courts often use the phrase “willful and wanton conduct” rather than “willful misconduct”. Illinois law recognizes that willful and wanton conduct may consist of either intentional behavior or conduct that is unintentional but reckless. See Ziarko v. Soo Line R. Co., 641 N.E.2d 402, 413 (Ill. 1994). A “willful act” is one where there is intent to inflict injury or damage and a “wanton act” involves conscious indifference where doing or failing to do something will naturally result in injury to another. See Rowe v. Frazer, 227 N.E.2d 781, 786 (Ill.App. 1967). Courts in Illinois will not award punitive or exemplary damages for a breach of contract claim, but may when there is an independent tort that is “committed with fraud, actual malice, deliberate violence or oppression, or when the defendant acts willfully, or with such gross negligence as to indicate a wanton disregard of the rights of others.” See Kelsay v. Motorola, Inc., 74 Ill.2d 172, 186 (Ill. 1978).
In Massachusetts, “gross negligence is substantially and appreciably higher in magnitude than ordinary negligence. It is materially more want of care than constitutes simple inadvertence. It is an act or omission respecting legal duty of an aggravated character as distinguished from a mere failure to exercise ordinary care. It is very great negligence, or the absence of slight diligence, or the want of even scant care. It amounts to indifference to present legal duty and to utter forgetfulness of legal obligations so far as other persons may be affected. It is a heedless and palpable violation of legal duty respecting the rights of others. The element of culpability which characterizes all negligence is in gross negligence magnified to a high degree as compared with that present in ordinary negligence. Gross negligence is a manifestly smaller amount of watchfulness and circumspection than the circumstances require of a person of ordinary prudence…. It falls short of being such reckless disregard of probable consequences as is equivalent to a willful and intentional wrong. Ordinary and gross negligence differ in degree of inattention, while both differ in kind from wilful and intentional conduct which is or ought to be known to have a tendency to injure.” See First American Title Ins. Co. v. Lippman, 2006 WL 2138912, 2 (Mass.App.Ct. 2006).
Willful misconduct has been defined in Massachusetts”…as the intentional performance of an act with knowledge that the performance of that act will probably result in injury or damage, or it may be the intentional performance of an act in such a manner as to imply reckless disregard of the probable consequences…. [or] the intentional omission of some act, with knowledge that such omission will probably result in damage or injury, or the intentional omission of some act in a manner from which could be implied reckless disregard to the probable consequences of the omission…” See Video Educ. Career Institute v. American Tel. and Tel. Co., 1990 WL 137297, 7 (D.Mass. 1990).
The interpretation or application of these phrases are taken on a case by case basis and there are a range of interpretations depending on the applicable state’s governing case law as to their meanings, but it is clear that either of these phrases require a higher standard of act or omission by a party.
When entering into an agreement, take care to note the governing law and that state’s applicable case law…