California Supreme Court Bars Damages Limitations for Willful Injury

The court made its finding in response to the Ninth Circuit’s certified question: “Is a contractual clause that substantially limits damages for an intentional wrong but does not entirely exempt a party from liability for all possible damages valid under California Civil Code Section 1668?” Civil Code section 1668 states: “All contracts which have for their object, directly or indirectly, to exempt anyone from responsibility for his own fraud, or willful injury to the person or property of another, or violation of law, whether willful or negligent, are against the policy of the law.” The “Limitation of Liability” clause at issue states: “To the extent allowed by applicable law: (a) in no event will either party be liable for any loss of profits, loss of business, interruption of business, or for any indirect, special, incidental or consequential damages of any kind, even if such party has been advised of the possibility of such damages; and (b) each party’s entire liability to the other party for damages concerning performance or nonperformance by such party in any way related to the subject matter of this Agreement, and regardless of the form of any claim or action, will not exceed the amount of gross revenues earned by [the parties] from the Products, whichever is greater, for the twenty-four (24) months prior to the events giving rise to the alleged liability.”

In issuing its opinion, the court determined:

• Limitations on Damages: The court determined that “section 1668 applies not just to releases that expressly shield parties from responsibility” for willful injury to the person or property of another, “but also to provisions that, perhaps in an indirect or creative way, aim to have the same effect.” This includes limitations on damages. The Court noted that “the Legislature did not intend parties to privately negotiate how much they are willing to pay to inflict willful injury.”
• Breaches of Contract: The court clarified that section 1668 “does not preclude parties from limiting their liability for pure breaches of contract absent a violation of an independent duty that falls within the ambit of section 1668.” Thus, the opinion exempts “intentional breaches of contract” from section 1668 “[e]ven where a party breaches for ‘nefarious or unethical reasons,’” noting “motivation is irrelevant.” However, this reasoning might not apply to breaches of the implied covenant of good faith and fair dealing in the insurance context, which may brought in tort.
• Future Wrongs: The limitations of section 1668 apply to release of liability “for future torts” and operate to “prevent parties ‘from granting themselves licenses to commit future aggravated wrongs.’” The opinion makes no prohibition on direct or indirect releases of liability for past intentional wrongs.

The court also referenced Insurance Code section 533 in its opinion, noting the “public policy to prevent insurance coverage from encouragement of wilful tort.”

Contract provisions limiting damages by category (such as consequential or punitive damages waivers) or amount (such as provisions capping damages at the amount of fees paid to a vendor) are common in commercial contracts. The court’s holding that provisions that have the effect of shielding parties from responsibility for willful injury calls the enforceability of these provisions into question and limits the extent to which contracting parties can proactively limit risk.