Voluntary Dismissal of Contract Claims Leads to Involuntary Payment of Attorneys’ Fees

Recently, in Khan v. Shim, No. H041608 (Cal. Ct. App. Dec. 29, 2016) (“Khan”), the California Court of Appeal held where a plaintiff voluntarily dismisses an action involving contract and tort claims, Civil Code section 1717, subdivision (b)(2), does not preclude a defendant’s recovery of attorney’s fees if the underlying fee provision is sufficiently broad to encompass the non-contract claims. 

Section 1717, which authorizes an award of attorney’s fees to the prevailing party if the contract contains a fee provision, often solaces defendants thrust into litigation involving frivolous claims for breach of contract.  The more frivolous the claim, the more relaxed the defendant may feel as a finding that it is the prevailing party carries the reward of requiring the plaintiff to pay the defense’s fees and costs. 

Often, however, a defendant’s expectation of an award of attorney’s fees is shattered when a plaintiff voluntarily dismisses the action.  Despite being the “prevailing party,” a defendant cannot recover attorney’s fees in this situation because where a party voluntarily dismisses an action on contract, Section 1717, subdivision (b)(2), precludes an award of attorney’s fees.  The adverse consequence of this limitation is further compounded by the fact that parties cannot circumvent it by preemptively drafting a contractual provision that allows for recovery of fees upon voluntary dismissal.  (Santisas v. Gooden (1998) 17 Cal.4th 599, 617.) 

Although defendants faced with a plaintiff’s voluntary dismissal may quickly adopt a defeatist attitude with respect to attorney’s fees, the ban under Section 1717 contains one important limitation: It applies only to “action[s] on a contract.”  (Emphasis added.)  (Civ. Code § 1717(a).)  Thus, where a plaintiff voluntarily dismisses a complaint that involves both contract and non-contract claims, a defendant may, depending on the language of the contractual fee provision, be able to recover attorney’s fees.  

In applying these principles, the Khan Court concluded that despite plaintiff’s voluntary dismissal of the entire action, the defendant was entitled to recover fees incurred in defense of the tort claims that arose out of the contract because the contract contained a broad fees provision that encompassed non-contract claims.  Specifically, that provision authorized prevailing party attorney fees in “any litigation … concerning [the contract’s] terms, interpretation or enforcement or the rights and duties of any party thereto.”  (Emphasis added.)  Therefore, because plaintiff’s tort claims for fraud and misrepresentation, which would not fall under Section 1717, “concerned” the terms of the purchase agreement, the court held that the fee provision authorized recovery of fees. 

The Khan decision vastly implicates how attorneys should both draft contractual fee provisions and litigate actions on the contract.  First, parties seeking to limit the recovery of fees by a “prevailing party” should draft a narrow fee provision that simply provides for fees in an action to “enforce” the contract.  Avoiding broad language such as “arising out of” or “concerning” the contract greatly limits the scope of the provision and likely prevents recovery of fees on non-contract claims.  Alternatively, depending on the relationship of the parties, it may be appropriate to include the broader language in an effort to recover fees if contract and tort claims are brought and the action is ultimately voluntarily dismissed.

If at the litigation stage, a party should analyze the language of the fee provision in the underlying contract to understand its scope and possible impact on the action.  Because a broad fee provision exposes a plaintiff to risk of liability for attorney’s fees, it may be prudent for plaintiffs, on one hand, to forgo bringing tort claims that may have little or no merit.  For defendants in actions involving contract and tort claims, on the other hand, the broad scope of a fee provision may encourage settlement, as a plaintiff may want to avoid paying fees on the tort claims a defendant can easily defeat.