Is New York or Delaware More Protective of the Freedom to Contract? Two Important New York Decisions on the Accrual of Breaches of Representations and Warranties May Shed Light

New York and Delaware each enjoy an excellent reputation in the business world and typically provide the governing laws and are the jurisdictions of choice in domestic (and many international) commercial contracts. But which law is more likely to uphold the freedom of contract? This blog post analyzes two New York Court of Appeals decisions that, while not newly decided, may shed light on this question.

In a landmark decision from 2015, the New York Court of Appeals in ACE Securities Corp. v. DB Structured Products, Inc., 25 N.Y.3d 581 (N.Y. 2015) (ACE), held that New York’s six-year statute of limitations for claims for breaches of representations and warranties (R&W) in a residential mortgage-backed securities (RMBS) contract accrue when the contractual representations are made (i.e., the closing date of the securitization if the R&Ws concern characteristics of the subject at the time of closing) and not when a sponsor refuses to cure or repurchase the underlying mortgages as was required in the parties’ contract. Id. at 589. Judge Susan Phillips Read, writing for a unanimous Court of Appeals, highlighted the “finality, certainty and predictability” that New York statutes of limitations are designed to foster, even when the result “may at times be harsh and manifestly unfair, and creates an obvious injustice.” Id. at 594 (internal citations and quotations omitted). In ruling in favor of the sponsor, the court found that the sponsor’s obligation to repurchase loans that breached R&Ws was not a substantive condition precedent to filing suit but a remedy that was necessarily “dependent on” and “derivative of” the R&Ws, which “did not survive the closing date” and were breached, if at all, on that date. Id. at 595.

The Court of Appeals was presented with a different, but related, question in 2018. Can commercial parties contractually define when a cause of action for breach of R&Ws accrues? The Court of Appeals answered this question in the negative in Deutsche Bank National Trust Co. v. Flagstar Capital Markets Corp., 32 N.Y.3d 139 (N.Y. 2018). Judge Eugene M. Fahey, writing for the majority, began the opinion by acknowledging that the case before the court “steps into an area of subtle interplay that exists between the freedom to contract and New York public policy.” Id. at 143. The parties had an “accrual clause” in their agreement; the clause conditioned the accrual of a cause of action on demand for compliance with the parties’ agreement. The Court of Appeals disagreed that the contractual language created a substantive condition precedent to suit, and further held that to the extent the parties intended to delay the commencement of the statute of limitations by agreeing when a cause of action “shall accrue,” their attempt to do so was prohibited by New York law and its public policy. Id.

However, not all the judges on the New York Court of Appeals agreed with that decision. Judge Jenny Rivera dissented, stating that she would enforce the accrual clause at issue. Judge Ronan D. Wilson took it a step further when he wrote his own dissent, stating that not only would he enforce the accrual clause at issue, but he would reverse the court’s decision in ACE, which predated his tenure on the court. He reasoned that the New York Court of Appeals in both cases had “fundamentally misinterpreted the structure of RMBS agreements and, as a result, . . . created bad law: bad because it neither hews to the intent of the contracting parties nor of the investors in securities issued thereby; bad because it serves no public policy; bad because it disserves a very important public policy–the preservation of New York’s role as the commercial center of the nation.” Id. at 165. To add insult to injury, he quipped that if he were advising a client, he would tell the client that “the law of Delaware is clear . . . , and the law of New York is not.”

Where does Delaware come into play? Based on a “long line of Delaware decisions follow[ing] hornbook law in treating a contractual accrual provision as a condition precedent to a plaintiff’s ability to sue such that the statute of limitations does not begin to run until the condition precedent is met,” the Delaware Chancery Court enforced an accrual provision in an RMBS contract. Bear Stearns Mortg. Funding Tr. 2006-SL1 v. EMC Mortg. LLC, No. CV 7701-VCL, 2015 WL 139731, at *10-12 (Del. Ch. Jan. 12, 2015). Delaware also amended its law in 2014 to allow parties to a written contract involving at least $100,000 to specify the limitations period for a claim in the contract “provided it is brought prior to the expiration of 20 years from the accruing of the cause of such action.” 10 Del. Code § 8106(c).

One cannot draw a sweeping conclusion about which state more strongly protects freedom of contract based on one narrow issue.  However, Delaware emerges from this particular battle the victor.