Contract Law: The COVID-19 Shutdown and the Impossibility of Performance Defense

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As we are all painfully aware, Governor Cuomo has issued an Executive Order directing that all “non-essential” businesses statewide terminate their in-office personnel functions. In addition to the public health and policy issues that arise from this Order, a myriad of legal questions also follow. While there are no concrete answers to many of these questions given the unprecedented nature of the COVID-19 pandemic, it is helpful to look to caselaw to anticipate how these issues may play out in the business disputes that are sure to emerge from this situation. One such issue is the applicability of the defense of impossibility of performance that may be asserted against a party seeking to enforce its contractual rights against another party that has failed to perform its obligations.

General contract law in New York (and most places) provides “that once a party to a contract has made a promise to perform, it must follow through or be liable for damages, even when unforeseen circumstances make that performance burdensome.” The defense of impossibility of performance has been typically applied very narrowly in light of the view that a contract, when distilled down, is really just an arm’s length allocation of risks between the parties. As a result, the Court of Appeals has recognized that this defense should only be available in “extreme circumstances” and “only when the destruction of the subject matter of a contract or the means of performance makes performance objectively impossible.” In addition, the event that produced the impossibility must not have been something that could have been foreseen or guarded against in the contract.

In a general sense, the COVID-19 pandemic was not foreseeable to parties that entered into contractual agreements through most of 2019. However, can the same be said about contracts that were entered into after the first case of COVID-19 was reported in China around December 31, 2019 or after the first case was reported in the United States around January 21, 2020? These questions will undoubtedly have to be answered by the courts as businesses become unable to perform their contractual obligations as a result of the COVID-19 pandemic and the ensuing governmentally-ordered restrictions.

One case resulting from a governmental act occurred in Orange County, New York when the purchaser in a sale of real property contract attempted to rescind the contract after the relevant jurisdiction enacted a moratorium on subdivision approvals and then enacted a revised zoning code that prohibited the type of subdivision contemplated in the agreement. The Appellate Division, Second Department affirmed the trial court’s dismissal of the action and held that it was not unforeseeable that the town would change its zoning code in a manner rendering the planned subdivision impossible. The court partially relied on its holding in an earlier case that found that sophisticated developers should either anticipate such a change or guard against it in the terms of the underlying contract.

Similarly, when a prospective purchaser attempted to use the impossibility of performance defense based on the loss of nearly of all of his personal assets as a result of the Bernie Madoff scandal, the court found that the default should not be excused and that the seller was entitled to retain the purchaser’s down payment as liquidated damages for the breach.

In a case concerning an executive order, the Appellate Division, First Department dealt with a company that had purchased insurance against an air traffic controller’s strike that would disrupt its necessary distribution chain. The policy provided that there would be no liability to the carrier unless the strike continued for seven days. When a strike eventually occurred, it was unforeseeably terminated by declaration of President Reagan firing all of the air traffic controllers three days after the strike began. Although the court found that there have been circumstances where governmental acts have truly made performance impossible, and that there was no way that the company could have reasonably anticipated that the President would end the strike by firing all of the air traffic controllers, the facts here did not constitute a sufficient impossibility of performance defense. Instead, the court relied on a strict interpretation of the contractual provision as written: three is less than seven.

This is not to say that there is not law to support the use of the defense when an action truly renders performance impossible. The Appellate Division, First Department also dealt with a transportation company that had contracted with the City of New York to furnish, among other things, tugboat services for sanitation barges. Subsequently, there was a portwide strike and there was no practical way for the company to provide the contracted for tugboat services to the City. As a result, the court found that the transportation company may not be liable to the City for its failure to provide the services as result of the impossibility of its performance and it reversed the trial court’s grant of summary judgment in favor of the City.

Finally, in a case arising from the tragedy that took place on September 11, 2001, a court held that the untimely cancellation of an African safari could be excused by the impossibility of performance defense based on a claim that timely communicating the cancellation from Staten Island was impossible in the immediate aftermath of the terrorist attacks.

Ultimately, the underlying facts leading to the assertion of an impossibility of performance defense will be determinative as to its potential success. It seems clear that the financial consequences of the COVID-19 pandemic will not, standing alone, be enough to excuse performance. However, if the performance is truly rendered impossible by the closure of a business that cannot operate as a result of the Governor’s stay-at-home order, then it may be possible that contractual performance will be excused, or, at the very least, the time to perform tolled until performance is no longer impossible.

For further information, contact Jarrett M. Behar, Esq at Mr. Behar is a Partner in our Litigation Group.

Jarrett M. Behar - Long Island Litigation Lawyer - Certilman Balin

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