This article has been written by Tanvitha pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.

This article has been edited and published by Shashwat Kaushik.

Introduction

The most common transactions in everyday life are the purchase and sale of movable goods. The Sale of Goods Act, 1930, governs the sale and purchase of movable goods. Any agreement or contract entered into for such purpose may be referred to as a sale of goods contract. One of the biggest risks involved in such a contract is a misrepresentation; it happens before the contract has been finalised. Misrepresentations induce a contracting party into entering a disadvantageous contract by false statements of law or facts. Such false statements of truth may be made intentionally or unintentionally. It is important to examine this particular risk in a contract for the sale of goods to understand its implications and remedies available.

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Misrepresentation

The definition of misrepresentation is given under Section 18 of the Indian Contract Act. The concept of misrepresentation pertaining to contracts has been defined as any innocent or intentional false statement made by one party to induce the other into entering into the contract. Misrepresentation induces a party into entering into a contract that they otherwise wouldn’t have entered into and because of this, they suffer a loss. The party making the statement may believe his/her words to be true, in which case it would be an innocent misrepresentation, however, it can also be intentional and fraudulent.

When does it arise

Misrepresentation arises during the negotiation and discussion stage before the formation of a contract. Statements and claims made at this stage influence the other party to enter into the contract, so it arises before the formation of the contract itself. False statements of facts and mistakes of facts related to the contract are made at the early stage of contractual discussions. 

Illustration: X and Y are discussing the sale of X’s boat to Y. X mentions to Y that his motor boat can go up to a speed of 80 km/hr; however, he does not mention that he hasn’t driven it in over a year and his claim is only an estimation without literal confirmation. Y agrees to purchase the boat and comes to realise that the speed of the motorboat is only 50 km/hr. Here, X misrepresented the speed of the boat and this misrepresentation induced Y to buy it. 

The misrepresentation will be the basis for a breach of contract and Y can exercise the remedies available to him holding X liable.

Types of misrepresentation 

Misrepresentation can be classified into three types:

Innocent misrepresentation

Innocent misrepresentation is the representation of false facts due to lack of knowledge that the statement is untrue.

The remedy for innocent misrepresentation is either rescission or cancellation of the contract. 

The Derry vs. Peek case is a very good example of innocent misrepresentation. Here the defendant had a tramway company and genuinely believed that approval for steam trams was mere formality advertised, that the company had been granted permission. Ultimately, the permission was not granted and the plaintiff who bought the company shares suffered a loss. The court held that the company wasn’t liable since they genuinely believed the permission was a formality.

Fraudulent misrepresentation

When a defendant engages in fraudulent misrepresentation, they knowingly make a false statement with the intent to induce another party into entering into a contract. This type of misrepresentation is particularly egregious because it involves a deliberate attempt to deceive and mislead. To establish fraudulent misrepresentation, several key elements must be proven. First, it must be shown that the defendant made a false statement of fact. This statement can be either oral or written, and it must be material to the decision-making process of the other party. In other words, the false statement must have been a significant factor in inducing the other party to enter into the contract. Second, it must be proven that the defendant knew the statement was false or had reckless disregard for its truth or falsity. This means that the defendant either knew that the statement was false or that they had no reasonable basis for believing it to be true. Third, it must be shown that the defendant intended to induce the other party into entering into the contract through their false statement. Finally, it must be proven that the other party relied on the false statement and suffered damages as a result. If these elements are established, the injured party may void the contract and seek damages from the defendant. Damages in a fraudulent misrepresentation case may include compensation for economic losses, such as out-of-pocket expenses and lost profits, as well as compensation for non-economic losses, such as emotional distress and damage to reputation.

Negligent misrepresentation

In any contract of sale, exercising reasonable care holds paramount importance. The seller has an obligation to furnish accurate and essential information about the goods being offered for purchase. Furthermore, any existing damages or defects must be explicitly disclosed to the customer. If the seller makes any statement without verifying its authenticity, and that statement significantly influences the buyer’s decision to enter into the contract, the buyer may incur losses due to the false representation. In such instances, the buyer bears responsibility for failing to take reasonable care while evaluating the information provided.

The legal remedies available to the buyer in cases of negligent misrepresentation vary depending on the specific circumstances. Primarily, the buyer has the right to rescind the contract, effectively nullifying its existence. This remedy allows the buyer to withdraw from the agreement and return the goods to the seller. Additionally, the buyer can seek compensation for damages incurred as a result of the seller’s misrepresentation. These damages may include financial losses, emotional distress, or any other harm suffered by the buyer due to the false statement.

The burden of proof lies with the buyer in cases of negligent misrepresentation. The buyer must demonstrate that the seller made a false statement, that they relied on that statement when entering into the contract, and that they suffered damages as a direct consequence of the seller’s misrepresentation. It is crucial for buyers to exercise due diligence and make informed decisions when purchasing goods. Thorough research, seeking professional advice, and carefully reviewing the terms and conditions of the contract are crucial steps in safeguarding one’s interests. By taking reasonable care, buyers can minimise the risk of falling victim to negligent misrepresentation and protect their legal rights.

Sale of goods contract 

Contracts for the sale of goods are governed by the Sale of Goods Act of 1930. The act encompasses provisions on the formation of a contract of sale, the effects of such a contract, its performance, along with rights and duties of paid as well as unpaid sellers, and remedies for breach of contract.

A contract for the sale of goods includes two parties, one a buyer and the other a seller, who form a contract. In this contract, the seller agrees to transfer some goods to the buyer at a price. Price is the consideration for the transfer. The presence of two parties, a transferable good, and price as consideration are essential to a contract of sale of goods.

The essentials of a valid contract include:

  • An offer
  • Acceptance of the offer
  • Intentions to create a legal relationship
  • A consideration 

Misrepresentation in sale of goods contract

Section 3 of this Act states that the provisions of the Indian Contract Act, 1872, will apply to any contract of sale of goods provided it is not inconsistent with any provisions of the Sale of Goods Act. This provision allows suit under Section 18 of the Indian Contract Act in case of misrepresentation in a contract for the sale of goods. The injured party can seek remedy in a court of law even though there is no specific provision for false representation given in the Sale of Goods Act.

A contract of sale may be absolute or conditional. Conditions are discussed and negotiated before the contract is finalised. It is during discussions and negotiations that one party is able to influence the other and any statements made at this stage should be legitimate and well informed to avoid future risk. 

It is the duty of the buyer as well as the seller to make credible statements while forming the contract. Statements of partial truth and any omissions will also cause false representation. 

Consensus ad idem 

In the realm of contract formation, a fundamental requirement for the validity of an agreement is a shared understanding or “consensus ad idem” between the contracting parties regarding the subject matter of the contract. This shared understanding is crucial to ensure that both parties enter into the contract with the same intention and expectations. However, mistakes of facts can arise when there is a misunderstanding or misapprehension between the parties concerning the subject matter. These mistakes are essentially misrepresentations that induce consent to contract.

Mistakes of facts can occur for various reasons. Sometimes, communication problems or differences in understanding can lead to a misunderstanding of the subject matter. For example, if one party believes they are purchasing a specific model of a car, but the other party intends to sell a different model, a mistake of fact has occurred.

Another common cause of mistakes of facts is the exclusion or omission of vital facts. If one party fails to disclose material information or makes a false representation about the subject matter, this can induce the other party to enter into the contract based on a mistaken belief. For instance, if a seller fails to disclose a known defect in a product, the buyer may purchase the product under the mistaken assumption that it is free from defects.

Mistakes of facts can have significant legal implications. In some cases, a mistake of fact can render the contract void or voidable. This is particularly true if the mistake was material to the contract, meaning that it significantly affected the substance or essence of the agreement. For example, if a mistake of fact relates to the identity of the subject matter, such as purchasing a counterfeit painting instead of an original, the contract may be void.

In other cases, a mistake of fact may not render the contract void but may give rise to a claim for rescission or damages. Rescission is the process of canceling or unwinding the contract, restoring the parties to their original positions before the contract was entered into. Damages, on the other hand, seek to compensate the party who suffered a loss due to the mistake.

To minimize the risk of mistakes of facts, it is crucial for parties to a contract to communicate clearly and accurately about the subject matter. They should also exercise due diligence by thoroughly investigating and verifying the relevant facts before entering into the contract. This can help ensure that both parties have a common understanding of the subject matter and that the contract is based on accurate information.

Voidable

According to Section 19 of the Indian Contract Act, when a contract is formed by false representation of facts, the injured party may choose to void the agreement after discovering the misrepresentation. A contract formed by misrepresentation is voidable; the injured party may otherwise choose to demand the performance of the contract as if the representation made had been true. 

There are, however, some exceptions to rendering a contract voidable:

  • The agreement shall not be voidable if consent was acquired due to the silence of the defendant suppressing vital facts. The contract is not voidable if the injured party had the ability and resources to discover such false representation but did not take reasonable care or diligence to investigate the truth. 

In the landmark case of Horsfall vs. Thomas (1862), the court grappled with the intricate issue of whether a mere failure to disclose a defect constitutes misrepresentation or fraud.

The case centered around a sale of goods, where the buyer, Mr. Horsfall, purchased a quantity of copper from the seller, Mr. Thomas. Unbeknownst to Mr. Horsfall, the copper contained a latent defect, rendering it unsuitable for its intended purpose. After discovering the defect, Mr. Horsfall brought an action against Mr. Thomas, alleging misrepresentation and fraud.

The court meticulously examined the circumstances surrounding the transaction, paying particular attention to the conduct of the seller. It determined that Mr. Thomas had not deliberately concealed the defect but had simply failed to point it out to Mr. Horsfall. The court reasoned that a mere failure to disclose a defect does not, in itself, amount to misrepresentation or fraud.

Crucially, the court emphasised that the defect in question was not hidden or disguised by Mr. Thomas. It was a latent defect, discoverable upon careful inspection. The court held that Mr. Horsfall had an obligation to exercise due diligence and conduct a thorough examination of the goods before entering into the contract.

The court’s decision in Horsfall vs. Thomas established the principle that a seller is not liable for misrepresentation or fraud solely based on a failure to disclose a defect that is not deliberately concealed. This principle underscores the importance of caveat emptor, or “buyer beware,” in commercial transactions. It places the onus on the buyer to conduct their due diligence and carefully inspect the goods before making a purchase.

Nevertheless, the court’s ruling did not absolve sellers of their responsibility to act honestly and transparently in their dealings. While a mere failure to disclose a defect may not constitute misrepresentation or fraud, sellers are still bound by the duty of good faith and fair dealing. They cannot actively mislead buyers or engage in deceptive practices to induce a sale.

The Horsfall vs. Thomas case remains a significant precedent in the law of misrepresentation and fraud, guiding courts in their analysis of similar cases. It highlights the importance of striking a balance between protecting buyers from unscrupulous sellers and promoting fairness and certainty in commercial transactions.

  • The contract is also not voidable if consent is not made because of the misrepresentation. When a sale is discussed between a buyer and seller where the seller misrepresents something innocently or fraudulently, the buyer enters into the contract in spite of identifying the misrepresentation. In this case, the buyer took the risk knowingly and hence cannot render the contract voidable later on. 

Legal remedies

Rescission

Rescission is a remedy that allows the parties to terminate the contract and go back to their initial position before the contract was formed. It makes the contract null and void and frees the non-liable parties from their obligations. When a contract of sale is rescinded, the purchased good shall be returned to the seller and the seller shall refund the price paid to the buyer.

Affirmation

To enforce affirmation as a remedy, the injured party must be aware of the misrepresentation or breach of contract. While there is time, if they choose to affirm, the contract will continue as if the misrepresentation were true. However, if the claimant doesn’t choose to either rescind or affirm for a long time since the breach of contract, it is assumed that s/he affirms and wishes to continue the contract.

Long vs. Lloyd (1958) 

In this case of misrepresentation, the plaintiff bought a lorry from the defendant at half the price, noticing some defects. The plaintiff discovered some serious issues with the lorry’s mileage and notified the defendant, after which he gave it to his brother for a business trip when it broke down. Following this incident, the plaintiff wanted to rescind the contract. However, the court dismissed the plaintiff’s claim, stating that the plaintiff had an opportunity to rescind it when the innocent misrepresentation was discovered; however, he continued to use it and even lent it to his brother; lending it to the brother was considered an act of affirmation.

In a sale of goods contract, limitations of liability and remedies can be included to deal with a claim of misrepresentation. The clause limiting the remedies and liability for breach of contract must be reasonable and fair. 

Difference between fraud and misrepresentation

Fraud and misrepresentation are both intentional acts that can deceive others, but there are key differences between the two.

Fraud

Fraud is a deliberate act that is intended to deceive someone for personal gain. It can involve lying, cheating, or stealing. Fraudulent acts can be criminal or civil, and they can result in serious consequences, such as fines, imprisonment, or loss of reputation.

Misrepresentation

Misrepresentation is a broader term that encompasses any false statement or omission of fact. It can be intentional or unintentional, and it can be either material or immaterial. Material misrepresentations are those that could reasonably be expected to influence a person’s decision, while immaterial misrepresentations are those that are unlikely to have any impact.

Key differences

The key differences between fraud and misrepresentation are:

  • Intent: Fraud is always intentional, while misrepresentation can be either intentional or unintentional.
  • Materiality: Fraudulent acts are always material, while misrepresentations can be either material or immaterial.
  • Consequences: Fraud can have serious consequences, such as fines, imprisonment, or loss of reputation, while misrepresentations may not have any consequences at all.

Examples

Here are some examples of fraud and misrepresentation:

  • Fraud: A car salesman who lies about the condition of a used car is committing fraud.
  • Misrepresentation: A job applicant who exaggerates their qualifications on their resume is making a misrepresentation.
  • Fraud: A company that knowingly sells a product that is defective is committing fraud.
  • Misrepresentation: A restaurant that advertises a dish as being “made with fresh ingredients” when it is actually made with frozen ingredients is making a misrepresentation.

Conclusion

Misrepresentation is a false statement of fact made or indicated while forming a contract. It is possible to misrepresent by omission of vital facts. It can cause one party to a contract to suffer losses while the other may enjoy some profit. It is especially important to examine all the facts and statements made while forming a contract to ensure that the facts are credible and true. False statements may be made innocently or with carelessness or fraudulent intent, it is the duty of a competent party to take all reasonable precautions before entering an agreement. Goods are sold and purchased by everyone in their daily lives; informed decisions must be made while purchasing goods. False representation induces a party to enter a contract s/he otherwise would not; however, on discovery of the misrepresentation, the injured party has the option to rescind the contract or affirm it and demand continuation of the contract. Misrepresentation is a basis for breach of contract. 

References

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