An Unenforceable Settlement

From the Blog of Phyllis G. Pollack.

       My mediation practice consists of cases filed in court (or litigated cases). Often times, the parties settle using an installment payment plan and a stipulated judgment. For example, defendant agrees to pay x amount a month, and if she defaults, plaintiff may file a stipulated judgment for y amount which is often a higher amount than the agreed upon settlement amount less credit for payments made.

       In Greentree Financial Group, Inc. v. Execute Sports, Inc. (Case No. G039326),(greentree-financial)  Division Three of the Fourth Appellate District of the California Court of Appeal held that such a practice may be illegal as constituting an unenforceable penalty.

       In this case, Greentree sued Execute Sports, Inc. (“ESI”) for breach of contract claiming $45,000 in damages. Just before trial, the parties settled. ESI agreed to pay $20,000 in two installments. It also signed a stipulation for entry of judgment memorializing this installment payment plan. The stipulation also provided that if ESI failed to make one of the payments, Greentree would be entitled to have judgment entered for all of the amounts sought in the complaint including interest, attorney’s fees and costs, less any amounts already paid.
 

      As may be surmised, ESI defaulted: it failed to make the first installment payment. Greentree then sought to have judgment entered for the $45,000 in damages as claimed in the complaint, plus $13,912.50 in prejudgment interest, plus $2,000 in attorney’s fees and $320 in costs, for a total of $61,232.50. Although ESI opposed this, claiming it to be excessive, the trial court entered the judgment.

       ESI appealed claiming that the stipulated judgment constituted the enforcement of an illegal penalty. In contrast, Greentree urged that the amount was a valid liquidated damages provision in a contract between the parties.

       The appellate court agreed with ESI, noting that the breach to be analyzed, is not of the underlying contract that caused the lawsuit, but of the stipulation or settlement agreement. (Id. at 4). That agreement called for a payment of $20,000. In light of that, the court queried: does a penalty of $61,232.50 (or three times that amount) bear a reasonable relationship to the possible actual damages that could flow from breaching this agreement? The appellate court answered “No!”
 

      The appellate court found that Greentree had offered no evidence of what damages would flow from ESI’s failure to pay the $20,000 as promised. Typically, such damages would include interest at the prevailing rate. (Id. at 5). But here, the “damages” were not interest and late fees, etc. but triple the amount.

       As the court explained:

      “Here, the judgment would have been enforceable if it had been designed to encourage ESI to make its settlement payments on time, and to compensate Greentree for its loss of use of the money plus its reasonable costs in pursuing the payment. The amount of the judgment, which awarded  Greentree approximately $40,000 more than the settlement amount, does not merely compensate Greentree – it rewards Greentree by penalizing  ESI. . . .

      “If the sum extracted from the borrower is designed to exceed substantially the damages suffered by the lender, the provision for the additional sum, whatever its label, is an invalid attempt to impose a penalty as its primary purpose is to compel prompt payment through the threat of imposition of charges bearing little or no relationship to the amount of the actual loss incurred by the lender.” (Citation omitted)”. (Id. at 5).

       The appellate court reversed and remanded the matter to the trial court with directions to reduce the judgment against ESI to $20,000 plus post judgment interest and costs. (Id. at 8). Since the stipulation did not contain any provision for the award of attorney’s fees (i.e. $2,000) or a prejudgment interest (i.e. $13,912.50), these amounts could not be included in the judgment, as well.

       So. . .the next time you find yourself settling a case by using a stipulation to enter judgment upon default in installment payments, make sure that the default amount bears a reasonable relationship to the range of actual damages you or your client might suffer as a result of a breach of the settlement agreement and not the underlying agreement. Otherwise, the default judgment amount may not be enforceable.

       . . . Just something to think about.

                       

Phyllis Pollack

Phyllis Pollack with PGP Mediation uses a facilitative, interest-based approach. Her preferred mediation style is facilitative in the belief that the best and most durable resolutions are those achieved by the parties themselves. The parties generally know the business issues and priorities, personalities and obstacles to a successful resolution as… MORE >