The Materiality of a Breach of Contract
2022 Arizona Market Forecast
November 1, 2021
Jaburg | Wilk Attorneys at Law
Anybody who deals with contracts understands the basic components of a valid contract. One party promises to do, or sometimes not to do something, in exchange for which the other party agrees also do or not do something. Take, for example, a commercial lease, in which the landlord may agree to keep the roof leak free as one of its promises, and the tenant agrees to continue to pay rent during the entirety of the lease term. What happen, though, if during the lease term the landlord breaches its contractual obligation to keep the roof leak free? Can the tenant simply declare the landlord to be in default, and based thereon declare the lease to be terminated?
The answer to this question is not a clear cut as it may seem. While there may be no argument that the landlord has “breached” the lease, in order for the tenant to be able to avail itself of the remedy of terminating the lease, it must prove that the landlord’s breach was “material,” because if it is not deemed to be material, the tenant may have other, less drastic remedies available, but will not be able to terminate the lease. The Arizona Supreme court has adopted the following five factors found in the Second Restatement of Contracts, to determine if a breach is material:
(a) the extent to which the injured party will be deprived of the benefit which he reasonably expected;
(b) the extent to which the injured party can be adequately compensated for the part of that benefit of which he will be deprived;
(c) the extent to which the party failing to perform or to offer to perform will suffer forfeiture;
(d) the likelihood that the party failing to perform or to offer to perform will cure his failure, taking account of all the circumstances including any reasonable assurances; and
(e) the extent to which the behavior of the party failing to perform or to offer to perform comports with the standards of good faith and fair dealing.
These five factors have been called “circumstances, not rules” which need to be considered when determining if the failure of a party to a contract to perform is or is not material. In the above example, if the failure of the landlord to keep the roof leak free results in constant water leakage into the leased premises, damaging the property of the tenant, causing the tenant’s employees ongoing discomfort, and overall greatly interfering with the ability of the tenant to conduct its business, there is little doubt that the landlord’s breach would be deemed material, thereby allowing the tenant to terminate the lease. On the other hand, if the failure to keep the roof leak free only results in very infrequent and insubstantial leakage that has no significant impact on the tenant’s business, then the landlord’s breach would be deemed to be not material, meaning that the tenant cannot use such breach as a reason to terminate the lease. What is important to keep in mind is that the answer to the question of whether a breach is or is not “material” is not always readily apparent, and needs to be carefully considered when deciding what action to take against the breaching party.