Israel: Contractual Mutual Mistakes

Background

Contracts are made when there is a meeting of wills between the buyer and the seller. There are cases where the circumstances under which the contract was made contain one of various types of flaws in this 'meeting of the minds', which are stipulated in the Contracts Law¹ (hereinafter, the "Law"), a flaw which has consequences for the continuation of the contractual relationship between the parties. For example, when a contract is the result of a mistake, deception, coercion, duress and even the illegality of the agreement, the Law allows the parties under certain circumstances to release themselves from it (see sections 14, 15, 17 and 18 of the Law), and even considers it to be void (see sections 13 and 30 of the Law).

On the basis of a mistake

At the root of contractual mistake lies a flaw in the will of the party who entered into the contract. The mistake exists when there is a substantial gap between the way one of the parties subjectively perceived the contract and its objective situation. The mistake can be a mistake of fact or a mistake of law. When the three elements exist: fundamental mistake; the other party is aware of such mistake; a causal connection between the mistake and the making of the contract, then the party that made the mistake can cancel the contract. If the other party did not know at all about the mistake, the ability to cancel is conditional on the approval of the court².

One type of mistake is excluded from the scope of grounds that qualify for the cancellation of the contract, and this is a mistake in the evaluation of the transaction. A party who has regretted or made a mistake in his economic evaluation of the contract is not entitled to cancel the contract. A conclusion, in retrospect, that the contract is not worthwhile or is not economical, does not constitute grounds for cancelling the contract. At the same time, an error that distorts the expectations, risks and commercial considerations with which a party viewed the contract is not an error in the evaluation of the transaction (even if it has economic consequences that affect the value of the item that was sold³).

The essence of the mutual mistake

Another distinct type of contractual mistake is the "common/mutual mistake". This is a situation where both parties were wrong about a certain fact, and a contract was made between them on an erroneous factual or legal basis. In such a case, there is consent between them regarding the obligations that each of them undertakes towards the other, but they make an incorrect factual or legal assumption.⁴

The Eliasian Case

The Eliasian case⁵ involved a seller who sold to a buyer his rights in a house in an agricultural settlement ('moshav') in consideration for the sum of NIS 1,600,000. These rights were previously possession rights that the seller's father purchased from previous possessors and, therefore, the seller believed that they were inherited. Later, when he wanted to sell his rights, he discovered that his rights did not pass on to him due to his having inherited his father, but were registered in his name from the outset. Both the seller and the buyer believed that the seller's rights had already gone through the process of allocation at the Israel Lands Administration (hereinafter: the "ILA"), and that only the payment of a consent fee to the ILA was required.

The seller assumed the responsibility of making all the required payments to the ILA and the other authorities, and the parties even defined the contractual obligations in such a way that the transfer of the rights in the seller's name is a condition precedent. From the content of the contract it can also be concluded that the parties' expectation for the payment of the consent fee to the ILA was in values that did not exceed NIS 300,000.

It was eventually discovered that the plot of land had not undergone the allocation process, and that the authorities demanded payment of a sum that exceeds the contractual consideration. The parties signed an addendum to the agreement under which the seller is given the opportunity to conduct legal proceedings against the ILA with the aim of cancelling the latter's demand. When the seller failed in these proceedings, he announced that the agreement is cancelled due to the non-fulfilment of the condition precedent and, alternatively, it is cancelled due to a mistake (in this case, a common mistake). The buyer claimed that the seller's mistake was a mistake in the evaluation of the transaction that does not allow him to cancel the agreement and insisted on specific performance of the agreement.

The minority opinion in the judgment held that this was a contract with a condition precedent, being the transfer of the rights to the name of the seller at the ILA. The minority opinion reasoned that this is an obligation to make an effort and not an obligation to achieve a result. The failure to meet the condition is, therefore, not attributed to the seller, who acted in good faith to fulfil it. But since it was never met (in good faith), the contract never became enforceable/valid. The minority opinion further held that this is not a common mistake since from the outset the parties had used vague language regarding the legal status of the property. It therefore cannot be said that they were wrong in their factual assumption or in their assessment of the legal status of the property.

The majority opinion, in contrast, reached the same result of rejecting the claim for specific performance of the agreement, but with different reasoning. According to the majority opinion, the obligation assumed by the seller is an absolute obligation, and he cannot base his claim on the fact that the condition was not fulfilled, since he was the one who prevented its performance (section 28A of the Law).

The majority opinion further stated that this is a case of a common mistake by the parties. This is because, when the contract was made, the seller did not know that he lacked real rights in the house, and he did not know that in order to be able to sell real rights to the buyer, he must first purchase them at a sum of 91% of the value of the land. The same applies to the buyer.

The court ruled that this is not a mistake in the evaluation of the transaction, since it cannot be said that the parties took a risk regarding the nature of the rights being sold. Both parties entered into the contract on the basis of the assumption that the seller is the owner of rights in real estate that have been allocated and not just of the right of possession and, therefore, also estimated the payment to the ILA in monetary values that constitute payment for consent fees only.

The parties did not consider the possibility that the required payment would exceed the entire contractual consideration in such a way that it would nullify the economic logic that served as the basis for entering into the agreement. A mistake of such a scope shows, according to the majority opinion, the existence of a fundamental, common (mutual) mistake regarding the nature of the item being sold.

In conclusion

There are cases where parties enter into an agreement and both sides are mistaken on the facts regarding the item being sold. Sometimes, in retrospect, it turns out that the item being sold has different properties than those of which the parties knew and that, had this been known to the parties, at least one of them would not have entered into the agreement. In these cases, the Law allows, with the approval of the court, the cancellation of the contract. We will make ad a caveat and clarify that this does not refer to a mistake in assessing the value of the item being sold, or to a change in external circumstances that have an impact on the item being sold, or to a change resulting from a future event, as all these are a mistake in the evaluation of the transaction that does not enable the cancellation of the contract.

Footnotes

1. The Contracts Law (General Part), 5733 - 1973.

2. Section 14B of the law.

3. Civil Appeal 2469/06 Suissa v. The Zaga Company in Block 5027 Lot 1 Ltd., [published in Nevo].

4. Additional Civil Hearing 2568/97 Canaan v. The Government of the United States, P.D. 57(2) 632.

5. Civil Appeal 63865/19 Eliasian v. Shvo (published in Nevo).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.