A person commits contract fraud when they make a knowingly false statement that serves to trick or deceive another person into signing a contract. A person also commits contract fraud when, through misrepresentation, they trick an individual who does not believe they are entering into a contract, into signing one. 

What is Needed to Form a Contract?

The elements needed to form a valid contract include:

  • An offer; and
  • An acceptance of that offer; and
  • Mutual assent (agreement by both parties as to what the subject matter of the contract is, and what the terms mean); and
  • Both parties freely consenting to enter into a contract; and
  • Mutual contract consideration. Consideration is the exchange of something of value in return for a promise or service of the other party.

What are the Types of Contract Fraud?

Generally, there are two types of contract fraud. One is called fraud in the inducement, and the other is called fraud in the factum (or fraud in the fact).

Fraud in the inducement occurs when one party is tricked or deceived into signing a contract because of someone’s knowingly false statement and the other party reasonably relies on it. The misleading statement is designed to cause a person to enter into a contract they otherwise would not have entered into. 

An example of fraudulent inducement occurs when a neighbor makes a claim - a claim he knows to be false - that your child accidentally threw a ball onto the neighbor’s property, smashing a window. The neighbor then states that unless you enter into a contract with them to pay for the damage to the window, the neighbor will sue you. Since you are afraid of being subjected to a lawsuit, you enter into the contract.

 The elements of a fraud in the inducement claim are:

  • Defendant made a misrepresentation or omission of a material (important) fact, also known as a lie.
  • Defendant knew, at the time they made the statement that it was false.
  • Defendant made the statement to make the Plaintiff rely on it (inducement).
  • Plaintiff reasonably relied on the misrepresentation. 
    • Reasonable reliance is what a prudent person (a person with average intelligence and common sense) would believe, and how they would act, in response to the misrepresentation. If a prudent person would not believe the lie (i.e., “I’ll sell you the Empire State Building for $100”), then the reliance is not reasonable. 
  • The reasonable reliance causes legal injury to Plaintiff. Legal injury can take the form of Plaintiff’s losing money, or parting with a valuable possession they would not have given up but for the lie. A valid injury can also include emotional distress.

An individual may sue the deceiving party for fraud in the inducement. Fraud in the inducement can be used as a legal defense to a breach of contract claim. To prevail on a breach of contract claim, a party must show (among other things) that a valid contract was freely entered into. A contract entered into through fraudulent inducement is not freely entered into.

Fraud in the factum occurs when the victim enters into an agreement based on a fraudulent misrepresentation, to their detriment. The misrepresentation causes the victim to not understand the nature, substance, or consequences of what they are agreeing to. Fraud in the factum commonly occurs when the victim believes the agreement is not legally binding, when in fact it is a contract. 

This type of fraud also occurs when the victim believes they are signing a contract pertaining to a specific subject matter, when in fact the lying party has misrepresented the subject matter.

A common example of fraud in the factum occurs when the fraudster makes a misrepresentation about the nature of a legal document, to induce the victim to sign the document and then be bound by it contractually. 

For example, the person committing the fraud may ask a person who is legally blind to sign what the fraudster tells the blind person is a “Thank-You” card. The blind person, believing the representation that the document is a thank-you card, signs the document. The document, is in fact, a loan agreement under which the victim is required to loan the fraudster money over a period of years, to be repaid with zero interest.  

The victim may sue for fraud in the factum. Fraud in the factum can also be used as a defense to a claim of breach of contract. A contract entered into based on fraud in the factum will be set aside, on the ground that the consent obtained from the victim is legally ineffective. It could be because the victim suffers from mental incapacity, or a physical impairment, that made the victim not understand the risks, rights, and obligations created by signing the document. 

The victim may obtain damages for their injury. Damages include monetary damages to compensate the victim for money the victim gave to the fraudster. A fraud in the factum victim may also be able to recover property they gave to the fraudster.

Do I Need a Lawyer for Help With Contract Fraud Issues?

If you believe you have been the victim of contract fraud, you may wish to consult with a business lawyer who has expertise in contractual disputes. The attorney can review the facts and circumstances of your case, advise you as to your rights, provide case guidance, and represent you at trial.