Negligent Misrepresentation: Chipping Away at the Design Professional's Protection under the Economic Loss Doctrine

What Is the Economic Loss Doctrine

In general terms, the economic loss doctrine provides that the design professional has no liability to entities with whom the design professional has no contractual privity for losses or damages that are of a purely economic nature. As we have all heard hundreds of times, the statement of what the doctrine is can be relatively simple; however, the application is difficult. The idea behind the doctrine is that if the dispute involves economic losses, the parties should resolve that conflict based on the contracts to which all agreed and not by resorting to societally imposed tort duties.

The first question is often: What are economic damages? These losses could include a contractor's extended overhead or a developer's lost profits. The Supreme Court of Illinois gave one of the more workable definitions of "economic losses" as follows:

"Economic loss" has been defined as "damages for inadequate value, costs of repair and replacement of the defective product, or consequent loss of profits-without any claim of personal injury or damage to other property * * * " [citation] as well as "the diminution in the value of the product because it is inferior in quality and does not work for the general purpose for which it was manufactured and sold." [Citation.] These definitions are consistent with the policy of warranty law to protect expectations of suitability and quality. [2314 Lincoln Park West Condominium Association v Mann, Gin, Ebel & Frazier, Ltd., 555 NE2d 346, 348 (Ill 1990).]

In this Illinois Supreme Court case, the court concluded that the economic loss doctrine did bar the plaintiff's negligence action, a tort duty, seeking an award of damages for the cost of making certain repairs to the building in which the association members' condominium units were located. In denying the recovery sought on the basis of the economic loss doctrine, the court held:

The gravamen of plaintiff's claim for negligence against Mann [the project architect] is dissatisfaction with the way in which the building was designed and constructed, and the failure of the building to meet the owners' expectations. It may be noted the unit owners received express warranties from the developer at the time they purchased their units, and the plaintiffs are currently seeking recovery from their seller on that basis. The present claim, however, is limited to the plaintiff's theory that the defendant architectural firm was negligent in its design of the structure. As our prior decisions concerning the construction industry fully illustrate, such a claim concerns quality, rather than the safety of the building and thus is a matter more appropriately resolved under contract law. (Citations omitted.) We decline to impose on Mann a duty in tort to protect the unit owners from the sort of loss asserted. The architect's responsibility originated in its contract with the original owner, and in these circumstances its duties should be measured accordingly. Recovery of the nature requested here essentially seeks damages for a difference in quality. "There is room in the market for goods of varying quality, and if the purchaser buys goods which turn out to be below its expectations, its remedy should be against the person from whom it bought the goods, based upon the contract with that person." [Id. at 352-53.]

Adoption of the Doctrine

Where the economic loss doctrine applies is a question of state law, which means that you must look at each state separately to determine if the doctrine has been adopted by that state. As noted above, the economic loss doctrine falls in and out of favor with the courts. For example, for years Florida had a very solid economic loss doctrine. Florida followed the economic loss doctrine in matters related to the construction industry following Spancrete v. Ronald E. Frazier & Assoc., P.A., 630 S2d 1197 (Fla. App. 1994). In mid-1999, the Florida Supreme Court handed down the holding in Moransais v. Heathman, 744 S2d 973 (Fla. 1999).

Moransais arose from a suit filed by a home purchaser against the engineers he had retained before purchasing the home to inspect the home and advise of any deficiencies. The allegations of the lawsuit were that there was no bodily injury or property damage. The damages alleged suffered were the cost of repair or diminution in value of the undisclosed and undetected defects in the home. After a detailed review of the Florida history of the economic loss rule, the Florida Supreme Court observed as follows:

Unfortunately, however, our ... holdings have appeared to expand the application of the rule beyond its principled origins and have contributed to applications of the rule by trial and appellate courts to situations well beyond our original intent.

The question in Moransais became whether the homeowner could hold the individuals employed by the engineering firm, a corporation, liable for the negligent acts. The argument was that there was no contractual relationship between the individuals and the homeowner. The homeowner's contract was with the firm.

The court went on to hold:

... Today, we again emphasize that by recognizing that the economic loss rule may have some genuine, but limited, value in our damage law, we never intended to bar well-established common law causes of action, such as those for neglect in providing professional services. Rather, the rule was primarily intended to limit actions in the product liability context [footnote omitted] and its application should be limited to those contexts or situations where the policy considerations are substantially identical to those underlying the product liability-type analysis. We hesitate to speculate further on situations not actually before us. The rule, in any case, should not be invoked to bar well-established causes of action in tort, such as professional malpractice.

* * *

Accordingly, we hold that the economic loss rule does not bar a cause of action against a professional for his or her negligence even though the damages are purely economic in nature and the aggrieved party has entered into a contract with the professional's employer.

A More Limited Erosion

As opposed to Florida, some states have taken different approach to the limitations they believe exist in the application of the economic loss doctrine. Two recent court decisions illustrate the approach and the recognition of an exception to the doctrine's protection for the tort of negligent misrepresentation. Both Missouri and Illinois, which have recognized the economic loss doctrine, recently expressed the belief that the doctrine does not insulate a design professional from the tort of negligent misrepresentation.

Missouri's Court of Appeals for the Eastern District faced the question of whether the lack of contractual privity insulated an engineer from the claims of a disgruntled home owner in Miller v Big River Concrete, 14 SW2d 129 (Mo App 2000). In Miller, during construction, the homeowner observed signs he thought might indicate problems with the concrete foundation of his home. The homeowner contacted the concrete supplier. To allay the homeowner's concerns, the supplier of the concrete retained an engineering firm to render an opinion about the concrete foundation. The opinion was based on erroneous and inaccurate information.

The homeowner subsequently found the concrete was not of the quality represented. The homeowner's claim was to recover for damages which resulted from the concrete's "diminution in the value ... because it is inferior in quality." The damages appeared to be clearly economic, i.e.: damages for inadequate value, costs of repair and replacement, or consequent loss of profits, without any claim of personal injury or damage to other property.

While acknowledging the economic loss doctrine, the Missouri Court of Appeals held that the trial court should have looked at foreseeability to the engineer at the time of rendering the services of the possible injury to the homeowner. The court indicated that when deciding whether the engineer could be sued, the focus should have been on foreseeability, and not on whether there was privity of contract between the homeowner and the engineer. This holding seems to be contrary other Missouri holdings which have held that absent the privity of contract, such damages are not recoverable.

Illinois has strongly adhered to the economic loss doctrine for a number of years. However, even the Illinois Supreme Court decision that recognized the doctrine found two exceptions.

1. Where there is fraud or intentional misrepresentation
2. Where the defendant who is in the business of supplying information for the guidance of others makes a negligent misrepresentation

Yet, the negligent misrepresentation exception has generally not applied to the design professional. The application to design professional has traditionally focused on the fact that the design generally results in a tangible product, whether a building or a product, and any information furnished in the process by the design professional is merely incidental to the finished product. As a result, the negligent misrepresentation exception has generally not been found to be applicable to the design professional.

Now Illinois has clarified the law on this issue, holding that when an architect or engineer is hired solely to provide information, he or she can fall within the negligent misrepresentation exception. [Tolan and Son, Inc. v KLLM Architects, Inc., 719 NE2d 288 (Ill App 1st Dist 1999).] The plaintiff in the Tolan case was a residential contractor building a townhouse complex. KLLM was an architectural firm retained to prepare plans and designs for the complex.

What Does It All Mean?

When trying to assess your risk and potential exposure, the question is crystal clear, yet the answer is not. First, you need to determine whether the law governing your work on any given project includes the recognition of the economic loss doctrine. If not, you have potential exposure not only to your direct client, but also to all who could have adverse economic impacts visited on them if your performance fails to meet the accepted standard of care.

Second, if the governing law does recognize the economic loss doctrine, you are far more insulated. However, be sure to ask about exceptions. If the recent cases teach us anything, the lesson must be that if the assigned task is to provide information—apart from design—on which others will rely, you may well find that the protections of the economic loss doctrine are gone.