Channing Real Estate, LLC, a New York limited liability company acting through its principal member (“Buyer”), and Brian Gates, a Connecticut resident (“Seller”), met in September 2007 to negotiate Buyer’s purchase of a 50 percent interest in Seller’s company, which owned commercial real estate in Connecticut (the “Company”). Both sides eventually entered into an option agreement in principle for Buyer to purchase such interest for $250,000. Between August 2008 and December 2008, the parties exchanged several drafts of the transaction documents but failed to execute written agreements of such transaction.
After December 2008, on six separate occasions, Seller requested varying sums of money and Buyer provided the requested funds totaling $281,272.74. Each time, Seller and Buyer executed a promissory note (i) stating the principal, interest rate and maturity date, (iii) prohibiting oral modification and (iv) requiring amendments to be in writing signed by the party against whom the holder sought enforcement (the six promissory notes, collectively, the “Notes”). In February 2009, Buyer signed and delivered a letter (requested by the Seller and to be delivered to Seller’s bank) affirming that Seller had received $250,000 for Buyer’s purchase of a 50 percent interest in the Company. That letter further indicated that Buyer would be responsible for half the bills and operating expenses, and would receive half the profit and income, of the Company. Seller did not repay any sums on the Notes and Buyer brought suit alleging default under each Note.
Buyer appealed the decision of the lower court that the funds advanced to Seller were not loans (but were funds advanced in payment for the 50% interest in the Company) and challenged the lower court’s admission of parol evidence to vary the terms of the Notes.
The court first established that New York substantive contract law applied because the Notes (i) lacked choice-of-law provisions and (ii) required payments be made in New York. Importantly, the court noted no material differences between New York and Connecticut law regarding application of the parol evidence rule. The court then noted, “[T]he parol evidence rule bars consideration of extrinsic evidence of the meaning of a complete written agreement if the terms of the agreement . . . are clear and unambiguous . . . .” The court outlined the three-step inquiry in determining application of the parol evidence rule: (1) whether the written contract is an integrated agreement (i.e. representing the entire understanding of the parties), (2) if it is, whether the written contract’s language is clear and unambiguous and (3) if the language is clear, whether, applying the clear contractual terms, the plaintiff has alleged breach of contract.
The court answered each of the three inquiries in the affirmative and therefore determined that the parol evidence rule should have barred consideration of extrinsic evidence of the meaning of the terms of the Notes. The court focused on each individual Note as a stand-alone agreement, supported by new and different consideration, rather than a focus on “an arduously negotiated—but never completely agreed to and consummated—written contract concerning the sale of [Seller’s] 50 percent interest in [the Company].” The court found each Note to be fully integrated given that (a) each Note represented a specific transaction, (b) each Note limited modification, or waiver of any provision thereof, to those that are “in writing, signed by the party against whom enforcement . . . was sought” and (c) Seller did not identify any such modifying document in writing signed by Buyer. Furthermore, the court also held that the terms of the Notes, considered factually, were clear and unambiguous and ruled that Buyer’s complaint had properly alleged breach.
Lastly, the court addressed the three circumstances in which courts may admit parol evidence despite full integration of a contract: (1) if the alleged agreement is “collateral” (i.e. separate, independent and complete, but relating to the same object), (2) if the underlying contract is ambiguous or (3) if the suit is brought to rescind a contract on grounds of fraud. The first exception has three prongs itself, requiring that the agreement (a) be collateral, (b) not contradict express or implied provisions of the underlying contract and (c) be one that parties would not ordinarily be expected to embody in writing. The first exception was deemed inapplicable by the court because Seller could not prove the existence of any agreement meeting the requirements of a “collateral agreement” and modifying the terms of the Notes. The second exception was similarly deemed inapplicable by the court because the terms of the Notes were clear and unambiguous. Finally, the court found no evidence that either party sought to rescind any of the Notes on grounds of fraud. Given that no applicable exception to application of the parol evidence rule, the court concluded that Seller could not admit evidence to vary the terms of the Notes. As a result, the court reversed the decision of the lower court and remanded the case for a new trial.
