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J.R. Whaley
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Reading the Fine Print — Common Contractual Clauses and What They Mean

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From automobile purchases to terms of services on the internet, contracts play a significant role in our daily lives. One problem with the proliferation of contracts is that individuals rarely examine the contracts cautiously before agreeing to the terms. Even when vigilant individuals attempt to inspect and understand these contracts, they are nevertheless perplexed by lengthy contractual clauses written in archaic legalese. To help decipher confusing contracts, below are the meanings of various common contractual clauses and their legal implications.

Arbitration Clause
Arbitration is a dispute-resolution process in which the disputing parties choose one or more neutral third parties to make a final and binding decision resolving the dispute. A binding arbitration means the parties must follow the arbitrator’s decision and courts will enforce that decision. An arbitration clause states that any legal disputes arising out of the contract must be resolved through arbitration, rather than litigation.

Despite claims of efficiency, arbitration has its downsides. A binding arbitration ruling cannot be appealed. Further, there is no automatic right to discovery in arbitrations. And in some cases, the cost of arbitration far exceeds the cost of litigation.

Choice of Law Clause
Under a choice of law clause, the parties agree that the contract terms will be interpreted according to the laws of a specific state. Choice of law clauses become crucial when the laws of various jurisdictions are so different that the litigation outcome will depend on which law the court applies.

Typically, choice of law clauses should be enforced unless the chosen state has no substantial relationship to the parties or the transaction and there is no other reasonable basis for the parties’ choice. Also, a choice of law clause should not be enforced if the application of the law of the chosen state would be contrary to a fundamental policy of a state which has a materially greater interest than the chosen state.

Choice of Venue Clause
Also known as a forum selection clause, a choice of venue clause says which court or courts have “jurisdiction” and “venue” over the contracting parties. “Jurisdiction” means the official power for a court to make legal decisions and judgments. “Venue” is the proper or most convenient location for trial of a case. Choice of venue clauses are often seen alongside choice of law clauses. But the two are not the same because a court does not have to apply the laws of its own state. For example, a choice of venue clause may require the parties to litigate in Louisiana, but without a choice of law clause, the Louisiana court may still apply Texas law under certain circumstances.

The Supreme Court has upheld the choice of venue clauses on several occasions (see The Bremen v. Zapata Off-Shore Company; Carnival Cruise Lines, Inc. v. Shute). Further, in Atlantic Marine Construction Co. v. United States District Court for the Western District of Texas, the Supreme Court held that the parties’ contractual choice of venue should generally be enforced except in the most unusual cases, and that the party resisting the choice of venue clause has the burden of establishing that public interests disfavoring transfer outweigh the parties’ choice.

Class Action Waiver Clause
Class actions are sometimes used in claims that are considered “negative value”— that is, claims whose monetary value does not warrant individual prosecution due to discovery and expert witness expense and other costs. Many believe that the core purpose of the class action is to enable the litigation of claims that would otherwise be infeasible to litigate because the value of the claim is dwarfed by the costs of litigating it. In other words, the policy at the very core of the class action mechanism is to overcome the problem that small recoveries do not provide incentive for any individual to bring a solo action prosecuting his or her rights.

A class action waiver clause requires a claim to be brought only by one person, rather than a class action; the contracting party waives the right to either bring a class action or participate as a member of a class. The class action waiver clause is typically used in conjunction with an arbitration clause.

The Supreme Court held in AT&T Mobility, LLC v. Concepcion that class action waivers are not per se unconscionable. Nevertheless, these provisions can still be found unconscionable. Particularly, these provisions may be unconscionable either because of their prejudicial terms, or because of where, when, and how they are presented to the other party. For example, if a class action waiver clause is buried in unrelated fine print, or otherwise intentionally hidden, a court will be less inclined to enforce it.

Statute of Limitation Clause
A statute of limitation clause states the time frame in which a lawsuit can be filed after a breach of contract or other violation. Those period may be less than what is otherwise allowable by law. For example, a statute of limitation clause may contractually shorten the time frame for filing a breach of contract claim from ten years to five years.

Liquidated Damages Clause
A liquidated damage clause allows the non-breaching party to recover predetermined amounts in the event that actual damages are difficult to calculate. The clause allows a party to negotiate an amount that would adequately cover their losses without having to go to court. Liquidated damages clauses act almost as a form of insurance — a party knows ahead of time how much they would receive in the event of a contractual breach. It should be noted, however, that courts view liquidated damages clauses with suspicion, often holding that liquidated damages clauses must not be punitive in nature.

Attorneys’ Fees Clause
When litigation arises, the general rule is that each party to a lawsuit pays for its own legal fees. However, an attorneys’ fees clause may require the losing side to pay the prevailing side’s legal fees and costs. “Costs” refer to filing fees, service fees, copying fees, expert witness fees, investigation costs, and the daily stipend for the jury.

As with many other contractual clauses, courts are allowed to judge attorneys’ fees clauses for fairness. If a judge senses potential prejudice and unfairness, such as when one of the parties was forced into signing the agreement due to disparity in bargaining power, the judge may cancel the attorneys’ fees requirement or change the amount of fees to be paid.

Indemnity Clause
An indemnity clause typically states that one party agrees to “indemnify” (and often also to “hold harmless” and “defend”) the other party. To indemnify someone is to absorb the losses caused by that party, rather than seeking compensation from that party. To indemnify someone could also mean to compensate that party if your action or inaction causes them to experience damages or a lawsuit from a third party.

Individuals should be particularly wary of indemnity clauses. A broadly worded indemnity clause could prove to be costly, and result in a party paying for all claims, regardless of merit. To offset potential indemnification costs, a party should consult with their attorney in regards to limiting the scope of the indemnity, placing a cap on indemnification payouts, purchasing professional indemnity insurance, or striking out the indemnity clause altogether.

Enforceability of contractual terms vary depending on the unique facts and circumstances of different situations. But consumers should be aware of the possible implications of common contractual terms.

*Special thanks to Luke Zhu, JD/MBA Candidate, for his research and assistance in drafting this article.