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Kevin Schlosser Authors, "SDNY Dismisses Fraud Claims as Untimely and Merely Alleging Breach of Contract"

Mar 8, 2018Litigation & Dispute Resolution
A new decision of the United States District Court for the Southern District of New York, LiveIntent Inc. v. Naples, 16 Civ. 9732, N.Y.L.J., March 2, 2018 (S.D.N.Y. Feb. 23, 2018)(Judge Katherine Polk Failla), analyzed and applied the law concerning the two-year extension of the statute of limitations for fraud and the distinction between a breach of contract and fraud. Statute of Limitations – Discovery Rule Fraud claims have a special statute of limitations. The statute of limitations for fraud is six years from the time of the fraud or within two years from the time the fraud was discovered or, with reasonable diligence, could have been discovered. CPLR 213(8); Sargiss v Magarelli, 12 NY3d 527, 532 (2009). Courts are typically very unforgiving if a party does not exercise sufficient diligence in detecting fraud when the means of doing so is fully available (the analysis is similar when assessing reasonable reliance and whether there was reason to believe fraud has occurred for the discovery rule on the statute of limitations). I have discussed in my posts numerous recent decisions delving into these issues. The Court in LiveIntent dismissed a claim of fraud at the pleadings stage (alleged in a counterclaim) precisely because the party seeking to assert the fraud claim had not inquired timely to enforce its rights. In LiveIntent, the parties claiming fraud (“Fraud Claimants”) entered into a contract with a company called LiveIntent to provide public relations services to LiveIntent over a six-month period. The Fraud Claimants alleged that after six weeks of performance, LiveIntent determined that it could no longer afford to pay for the services as required by the contract, resulting in a modification to the parties’ agreement by which LiveIntent agreed to pay cash for the first month of services and to provide equity shares in LiveIntent as compensation for “ongoing” services from the Fraud Claimants. The Fraud Claimants alleged that they continued to provide services to LiveIntent, but discovered, more than six years after the contract modification, that LiveIntent had never issued them any stock. So at this point, having heard this story, what are you saying to yourself? They waited six years to figure out that they never got their stock? Why didn’t they just ask for the stock certificates or any proof of ownership before that? That is exactly what the judge thought too. The fraud claim was brought as a counterclaim more than six years after the contract modification in which the stock interest was promised. In their attempt to avoid dismissal on statute of limitations grounds, the Fraud Claimants tried to rely on the two-year discovery rule. They alleged that after the contract modification, a LiveIntent representative made at least one mention that they owned the stock, in an email noting that their work would inure to their benefit as “shareholder” of LiveIntent. The Fraud Claimants only later discovered they were not owners when they needed to advise another client of their equity ownerships and actually asked for the LiveIntent stock certificate more than six years after the contract modification. It was only thereafter that LiveIntent advised that it had no record of the shares ever being issued or required, thereby disavowing any obligation to recognize the ownership. The Court set out the applicable law on the statute of limitations as follows:

Under New York law, the statute of limitations applicable to a fraud claim is the later of either (i) six years from the date that the claim accrued or (ii) two years from the time the fraud was discovered or could have been discovered with “reasonable diligence.” N.Y. C.P.L.R. §213(8). The party alleging fraud “bears the burden of establishing that the fraud could not have been discovered before the two-year period prior to the commencement of the action.” Guilbert, 480 F.3d at 147. “Generally,” for the limitations period to begin running, “knowledge of the fraudulent act is required and mere suspicion will not constitute a sufficient substitute.” Sargiss v. Magarelli, 12 N.Y.3d 527, 532 (2009) (quoting Erbe v. Lincoln Rochester Tr. Co., 3 N.Y.2d 321, 326 (1957)). And “[w]here it does not conclusively appear that a plaintiff had knowledge of facts from which the fraud could reasonably be inferred, a complaint should not be dismissed on motion and the question should be left to the trier of facts.” Id. (quoting Trepuk v. Frank, 44 N.Y.2d 723, 725 (1978)).

“New York law recognizes,” however, “that a plaintiff may be put on inquiry notice, which can trigger the running of the statute of limitations if the plaintiff does not pursue a reasonable investigation.” Koch v. Christie’s Int’l PLC, 699 F.3d 141, 155 (2d Cir. 2012) (citing Gutkin v. Siegal, 926 N.Y.S.2d 485, 486 (1st Dep’t 2011)). The standard applicable to such inquiry notice is as follows:

[W]here the circumstances are such as to suggest to a person of ordinary intelligence the probability that he has been defrauded, a duty of inquiry arises, and if he omits that inquiry when it would have developed the truth, and shuts his eyes to the facts which call for investigation, knowledge of the fraud will be imputed to him.

Id. (quoting Armstrong v. McAlpin, 699 F.2d 79, 88 (2d Cir. 1983)).

The Court then easily found that the Fraud Claimants were clearly put on “inquiry notice” when they were never given any evidence of ownership at the outset and thereafter never even asked for it until many years later. If that were not bad enough for the Fraud Claimants, the Court also ruled that the claim was not one for fraud at all, but rather nothing more than a breach of contract. Contract Breach Not Fraud I have addressed in recent posts decisions going different ways on whether post-contract-signing activities/representations can serve as the foundation for a fraud claim. See SDNY Rules Concealment of Breach of Contract Does Not Constitute Fraud January 16, 2018 post; Misrepresentations After Contract Entered Can Amount to Cause of Action for Fraud, January 08, 2018; and Court Struggles With Distinguishing Breach of Contract from Fraud, September 25, 2017. In LiveIntent, the Court rejected the claim as nothing more than a breach of contract. After reviewing the various principles relating to the distinction between contract and fraud claims, the Court explained that given the breach of contract claim was barred by the six-year statute of limitations, the Fraud Claimants “may not attempt to recover under an alternative theory of fraud based on the allegation that LiveIntent promised to perform under the modified contract but refused to do so. See VTech Holdings Ltd., 172 F. Supp. 2d at 439 (‘The rationale for this rule is that a party need not be expressing an unconditional intention to perform by contracting, and may instead be expressing an intention either to perform or suffer the ordinary contractual consequences for a breach.’).” The Court rebuffed the Fraud Claimants’ attempt to avoid that result:

Hoping to avoid this result, Defendants contend that their fraud claim “is not merely that [LiveIntent] promised to pay and did not,” but that LiveIntent “perpetuated [the fraud] in order to induce certain behavior on the part of Naples; namely, the continued extension of goodwill and the abstention from requesting his stock certificates.” (Def. Opp. 10-11). The contention does not aid their cause. Instead, it confirms that Defendants do not premise their fraud claim on a theory that LiveIntent fraudulently induced them to enter into the contract. Rather, the fraud claim, construed expansively, is that LiveIntent made a promise it never intended to keep, and thereafter lulled Naples into believing that LiveIntent was fulfilling its contractual obligations. Cf. VTech Holdings Ltd., 172 F. Supp. 2d at 440-41 (upholding fraud claim based on allegations that plaintiff was induced to enter contract based on “series of misrepresentations of present fact, rather than a series of false promises”). Under New York law, these allegations cannot suffice to state a fraud claim.

Commentary This recent case reinforces themes running through many fraud cases: Courts are reluctant to relieve parties of their own failure timely to protect themselves when faced with possible fraudulent conduct. Here, the Fraud Claimants were particularly vulnerable because they did not take basic steps to verify and protect their ownership interests in a timely manner. It appears this also entered into the Court’s thinking in determining whether the claim could even amount to fraud instead of a mere breach of contract.