Fee-Shifting Effect of Choice-of-Law Clauses

New York Law Journal | May.22.2017

It is common practice in commercial transactions to agree that the law of a particular jurisdiction will govern the parties' contract and to memorialize that agreement in a choice-of-law clause. In negotiating for such clauses, parties normally recognize and expect that if their contract becomes the subject of litigation, the law on which they agreed will, subject to certain exceptions, govern the resolution of the contract claims. However, it may not be widely known that the choice-of-law clause could make the party that loses the litigation liable for the attorney fees of the winning side, in contrast to the usual rule in the United States that the prevailing party cannot recover its attorney fees unless the contract has an express fee-shifting provision or a statute applies that permits such recovery. Unlike the United States, most Western legal systems follow the "English Rule," which requires the losing party to pay the prevailing party's reasonable attorney fees.1

Courts Holding That a Choice-of-Law Clause Imports the English Rule

Several U.S. decisions have held that a prevailing party may be entitled to attorney fees where the applicable choice-of-law clause selects the law of an English Rule jurisdiction. In doing so, those courts have adopted varying rationales.

First, some courts treated the applicability of the English Rule as a typical choice of law question and looked to the conflict of laws rules of the relevant forum. For example, in RLS Associates v. United Bank of Kuwait, the Southern District of New York held that the English Rule applied in an action brought by a U.S. company against a London-based bank in connection with a set of consultation agreements.2 The agreements provided that they "shall be governed in accordance with the laws of England."3

To find that the English Rule applied, the court began by recognizing that "contractual choice of law clauses only apply to substantive issues," and not to matters of procedure.4 Sitting in diversity, the court then examined New York's rules on conflict of laws to determine whether attorney fees should be treated as substantive or procedural. The court noted that whether English law considered attorney fees procedural was not controlling; rather the issue was whether the English Rule "would be considered procedural under New York law."5

Because no New York case appeared to have directly addressed that issue, the court turned to "general principles of substance-procedure analysis followed by New York courts" and, based on those principles, found that English law on attorney fees was substantive for choice of law purposes. The court concluded that the fee-shifting regime under English law "creates a quasi-right of action for 'wrongful' legal costs," which warranted treating English law on attorney fees as substantive.6 Moreover, the court observed that failing to apply the English Rule would frustrate the expectations of the parties, who "entered into a contract governed by English law and both assumed, well into litigation, that the English rule on attorneys' fees would apply."7

Similarly, in Atchison Casting v. Dofasco, the District of Kansas undertook a choice-of-law analysis under Kansas law to determine if the prevailing litigant could recover fees in a contract dispute governed by Canadian law.8 Like RLS, the Atchison court ultimately found that availability of attorney fees was a substantive issue, and as such, had to be resolved under the law governing the contract. Although no fees were actually awarded in that case because the parties had failed to preserve their claims for fees, the court presumably would have awarded fees because Canada follows the English Rule.9

In other cases that shifted fees under a choice-of-law clause, courts followed a more streamlined analysis and held that the very presence of the choice-of-law clause providing for the application of the law of a fee-shifting jurisdiction incorporated the English Rule by reference. For example, in El Paso Natural Gas Company v. Amoco Production Company, the Delaware Court of Chancery ruled that the prevailing defendant was entitled to attorney fees in an action for breach of contract whose choice-of-law provision called for the application of Texas law.10 It was undisputed that Texas law permitted recovery of fees by a party that prevailed in a contract dispute. The El Paso court took the view that "the question of attorneys' fees [becomes] a substantive matter of contract, and not a choice of law question," whenever the law that governs that contract follows the English Rule.11 The court's opinion largely followed §187(1) of the Restatement (Second) of Conflicts and the official commentary to that section, finding that designation of Texas law as the governing law filled the gap in a contract that was otherwise silent on attorney fees.12

In Katz v. Berisford International, the Southern District of New York followed the same approach as in El Paso and held that the choice-of-law clause adopting English law had "the effect of incorporating English law [on attorney fees] by reference."13 Unlike the court in RLS, the court in Katz largely bypassed the question of how New York law would treat England's rules on attorney fees, and focused instead on the effect of the parties' agreement to have English law govern their contract. The court ruled that "the parties' choice of English law should be interpreted as encompassing the English rule that the prevailing party may recover its attorneys' fees." The Katz court further noted, as did the court in RLS, that because the parties agreed to an English choice-of-law clause, applying the English Rule "would be wholly [] consistent with [their] justified expectations."14

Courts That Declined to Award Attorney Fees Despite a Choice-of-Law Clause

Other courts have declined to deviate from the American Rule despite a choice-of-law clause providing for the law of an English Rule jurisdiction.

In two recent decisions from the Southern District of New York, Atomi v. RCA Trademark Management., S.A.S.15 and Deutsche Bank Trust Company v. American General Life Insurance Company,16 the court refused to apply the English Rule in contract cases that involved French and English choice-of-law clauses, respectively. Both decisions observed, as a preliminary matter, that "it is unsettled whether a choice-of-law clause providing that an agreement is governed by the law of a foreign legal system [that follows the English Rule] would alter the general rule in this country not to award a prevailing litigant attorneys' fees."17 Those decisions then engaged in a conflict of laws analysis under New York law.

In Atomi, the court justified its rejection of the English Rule primarily on a single consideration that underlies New York's substance-procedure analysis, namely the state's public policy. Relying on a statement from the New York Court of Appeals, the Atomi court observed that the American Rule is part of New York's "fundamental policy" and that applying the English Rule would contravene that policy.18 Accordingly, the Atomi court determined that "a New York court would conclude that the [English Rule] is procedural" and not subject to the French choice-of-law clause in that case.

In Deutsche Bank, the court likewise found that the American Rule expresses a fundamental policy of New York, and as such, "weighs strongly against finding the English rule on fees to be substantive." It also stated that "[a]pplying the English rule to this case could impair judicial efficiency[,] as the Court would have to determine the amount of fees to be awarded under English law."19 The court recognized the prior decisions in RLS and Katz, in which fees had been awarded, but found those to be distinguishable because the application of the English Rule there was found to be consistent with the parties' expectations. In contrast, the court in Deutsche Bank concluded that applying the English Rule would be unfair because, in its view, the contract was not clear that the losing party would be responsible for fees, notwithstanding the choice-of-law clause.

Conclusion

Courts have not displayed a uniform approach to resolving the interplay between attorney fees and choice-of-law clauses, and there is a noticeable split of authority within the Southern District of New York.20 Until the law on this issue becomes settled, contracting parties and their counsel should be aware that entering into a contract governed by a law that follows the English Rule might lead to liability for attorney fees. To reduce that risk, parties should consider negotiating for provisions that expressly allocate or disclaim the parties' responsibilities for legal fees in the event of litigation over the contract. In the meantime, practitioners can expect the law on this question to continue developing, and should be alert to the possibility that a contract that makes no mention of attorney fees may still result in a departure from the American Rule.

Endnotes:

1. Theodore Eisenberg and Geoffrey P. Miller, "The English Versus the American Rule on Attorney Fees: An Empirical Study of Public Company Contracts," 98 Cornell L. Rev. 327, 329 (2013).
2. 464 F. Supp. 2d 206 (S.D.N.Y. 2006).
3. Id. at 210.
4. Id. at 214.
5. Id. at 215 (emphasis in original).
6. Id. at. 218-19.
7. Id. at 219.
8. No. 93-2447-JWL, 1995 WL 655183, at *1 (D. Kan. Oct. 24, 1995).
9. Prod. Design Servs. v. Sutherland-Schultz, No. 3:13-CV-338, 2015 WL 12743607, at *7 (S.D. Ohio July 24, 2015).
10. No. CIV. A. 12083, 1994 WL 728816, at *1 (Del. Ch. Dec. 16, 1994).
11. El Paso, 1994 WL 728816 at *5.
12. Section 187(1) of the Restatement (Second) of Conflicts provides that "[t]he law of the state chosen by the parties to govern their contractual rights and duties will be applied if the particular issue is one which the parties could have resolved by an explicit provision in the agreement directed to that issue."
13. No. 96 CIV. 8695 (JGK), 2000 WL 959721, at *7 (S.D.N.Y. July 10, 2000).
14. Id. In a recent decision in Maale v. Kirchgessner, the Southern District of Florida accepted the notion that contractually chosen law should control the issue of attorney fees if that law adopts the English Rule. No. 08-80131-CIV, 2011 WL 1565912, at *1 (S.D. Fla. Feb. 18, 2011). In that case, the prevailing defendant sought fees because the contract at issue was governed by the law of Turks and Caicos, which was shown to follow the English Rule. The magistrate judge in Maale recommended that fees should be awarded to the defendant based on the parties' choice of law, and that recommendation was adopted by the district court. Maale v. Kirchgessner, No. 08-80131-CIV, 2011 WL 1549058, at *4 (S.D. Fla. April 22, 2011).
15. No. 14-CV-7456 VEC, 2015 WL 1433229, at *1 (S.D.N.Y. March 30, 2015).
16. No. 1:15-CV-3869-GHW, 2016 WL 5719783 (S.D.N.Y. Sept. 30, 2016).
17. 2015 WL 1433229, at *5; 2016 WL 5719783, at *14.
18. 2015 WL 1433229, at *5.
19. 2016 WL 5719783, at *14-15.
20. That split may soon be resolved by the Second Circuit as one of the parties in Deutsche Bank is presently pursuing an appeal from the denial of its application for fees.

Robert Sills is a partner and Igor Margulyan is a senior associate at Orrick Herrington & Sutcliffe in New York.

Reprinted with permission from the May 22, 2017 edition of New York Law Journal © 2017 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or [email protected]