What is Fraud

For a contract to be valid, the parties must understand and agree to all of the terms of a contract. When one party makes false or misleading statements or representations that induce the other party to enter into the contract, those misrepresentations may induce the other party to enter into a deal that would not have been struck but for the misrepresentations. When that occurs, the other party may be able to claim fraud, and seek a judgment for damages or for other relief from the contract.

In simple terms, fraud involves intentionally misleading another person and, as a result of the deception, causing that person to suffer a loss or other injury.

  • An act of fraud normally involves false or misleading statements or representations.
  • In some cases, fraud may involve the failure to disclose information on a matter that is important to the transaction where the defendant has a duty to disclose that information.

Most cases of fraud involve active misrepresentation by the defendant.

What is Fraud

For purposes of a civil lawsuit, the typical elements of fraud (also known as fraudulent misrepresentation) are:

  1. Misrepresentation by the defendant of a material fact, whether through false representation, nondisclosure or concealment;
  2. Knowledge by the defendant of the falsity at the time the statement is made, or reckless disregard for the truth at that time (that is, the defendant made the statement of fact when the defendant knew or should have known that the statement might be untrue);
  3. Intent on the defendant's part that the plaintiff will rely on the misrepresentation;
  4. Justifiable reliance upon the misrepresentation by the plaintiff; and
  5. Damage to the plaintiff as a result of the plaintiff's reliance on the misrepresentation.

In order to recover damages for fraud, the plaintiff in a fraud lawsuit must prove all of the elements.

What is a Material Fact

Fraud involves the misrepresentation of a material fact. A fact is material when there is a substantial probability that knowledge of the fact would affect the a party's willingness to proceed with a transaction. In the context of a fraud case, the fact must be sufficiently important that a reasonable person would have been expected to rely upon the fact.

In a typical fraud case a fact must relate to something that may be proved or disproved. A statement by the defendant of belief, opinion, speculation or prediction will not be deemed a material fact. For example,

  • The statement, "The product I'm selling is in perfect condition" is a factual statement about the condition of the item, and is likely to influence a buyer's decision to proceed with a purchase.
  • Statements to the effect of "This is a really good deal", or "I think you're really going to like this item" are not representations that will support a fraud action.

The statement of opinion, "I think our product is the best on the market," will not support a fraud action. However, if false, the claim that "An independent testing agency evaluated our product and found it to be the best that you can buy" could support a later action for fraud.

Knowledge of Falsity

Fraud is an intentional act, so in order to constitute fraud the person making a false representation must either know that the statement is false or make the statement with reckless disregard for its truth. For example, if the seller of a car states that the car has never been in an accident, the seller's representation can constitute fraud only if the seller knows or reasonably should know under the circumstances that the representation is false.

Even in the absence of knowledge, a person who relies upon a defendant's incorrect statement may be able to get relief on other grounds. For example, if relied upon by a buyer, even if the seller believes the statement to be true, a car seller's incorrect statement that a car has never been in an accident could give the buyer a legal basis to later have the contract set aside on the basis that it was formed in reliance on a mutual mistake of material fact.

What is Reliance

Reliance occurs when a party to a transaction would not proceed with the transaction but for defendant's misrepresentation. That is, the plaintiff would not have proceeded with the transaction but for the false representation, impression or promise made by the defendant.

It is not necessary that the misrepresentation be the only factor that caused the plaintiff to proceed. For example, if a used car buyer wants to purchase a used, red Ford Mustang, four or five years old, with no more than 60,000 miles and that had never been in an accident, any one of the items on the wish list could be a deal breaker. Even if all of the other requirements are met, reliance upon a misrepresentation on any of those items could support a case for fraud.

Reasonable Reliance

To support an action for fraud, a plaintiff's reliance upon a misrepresentation must be reasonable.

For example, if a car seller swears that a car has never been in an accident, but it has a huge dent in the front fender and the bumper cover is loose, it is not reasonable for the plaintiff to rely upon the seller's claim. If the buyer chooses to purchase the car without further investigation, the buyer is not going to be later able to claim that reliance upon the defendant's claim was reasonable. The facts known to the buyer at the time of the purchase were sufficient to put the plaintiff on notice that the seller's representation was false.

Similarly, if a buyer purchases a used car from a car dealership and it turns out to have a defective engine, the buyer may be able to argue that reliance upon the dealership's false statement that the car was in "excellent running condition" was reasonable. However, if that same car is purchased from a private individual, the seller may not have a greater understanding of the condition of the car than the buyer and thus have no basis to claim reasonable reliance upon the seller's claim.

What is Silent Fraud

Silent fraud, also known as misdirection, may occur when a defendant fails to disclose facts that are material to a transaction, when the when the defendant has a duty to disclose and intends that the plaintiff make an incorrect inference from the non-disclosure.

To prove silent fraud, a plaintiff has the burden of proving each of the following elements:

  1. The defendant failed to disclose a material fact relevant to the transaction;
  2. The defendant knew the actual fact at the time of the transaction;
  3. The defendant's failure to disclose the fact caused the plaintiff to have a false impression of the facts;
  4. At the time the defendant failed to disclose the fact, the defendant knew that non-disclosure would create in the plaintiff a false impression,
  5. The defendant intended at that time that the plaintiff rely upon that false impression;
  6. The plaintiff justifiably relied upon the false impression; and
  7. The plaintiff suffered damages as a result of the plaintiff's reliance upon the false impression.

For example, the buyer of a used car will reasonably rely upon its odometer to determine how many miles are on the car. If the person selling the car knows that the odometer has been rolled back, the seller has a legal duty to inform a prospective buyer of that fact. If the seller fails to mention that the odometer is not accurate, and the buyer proceeds with a purchase based upon the reasonable belief that the odometer accurately reflects the car's mileage, the seller's failure to disclose will likely support a legal claim by the buyer based upon a theory of silent fraud.

Fraud vs. Innocent Misrepresentation

Although not an act of fraud, an innocent misrepresentation of material fact may support a legal claim by a party to a transaction who was misled by the false claim. A claim based upon a theory of innocent misrepresentation is similar to a claim for fraud, but it is not necessary that the defendant be proved to have acted with intent.

To make a claim of innocent misrepresentation, a plaintiff must normally establish the following elements:

  • The defendant made a representation of a material fact;
  • That representation was made within the context of the entry into a contract between the plaintiff and the defendant;
  • The defendant's representation was false at the time that it was made;
  • The plaintiff would not have entered into the contract but for the defendant's false representation of fact;
  • The plaintiff suffered damages as a result of having entered into the contract; and
  • The plaintiff's loss benefited the defendant.

A plaintiff may bring an innocent misrepresentation claim under circumstances in which the plaintiff is able to prove that the defendant made a misrepresentation of material fact, but is unable to prove that the defendant did so with the intent to defraud. A lawsuit based upon innocent misrepresentation may seek damages, or may ask the court to set aside the contract.

For example, the buyer of a used car may have relied upon the seller's claim that the car had never been in an accident, yet later discover significant accident repairs. The buyer may not be able to prove that the seller was aware of the accident or repairs, and thus no be able to prove that the seller knew that the statement as false at the time of the deal. The buyer may nonetheless be able to convince a court to set aside or rescind the contract based upon a finding of mutual mistake of a material fact: That at the time of the transaction both the buyer and seller believed that the vehicle had never been in an accident, and set a price based upon that mistaken belief, and that if the parties had known the actual facts at that time they either would not have entered into the transaction or would have agreed upon a lower price.

Making Fraud Claims in Court

When a plaintiff suspects fraud on the part of a defendant, the plaintiff may recognize that it will be difficult and perhaps impossible to prove what the defendant knew at the time of the transaction, or to prove that the defendant's misrepresentations were made with the intent to defraud. Unless a defendant confesses to fraud, it may be very difficult to prove the defendant's intent.

In the absence of clear facts and proof, a plaintiff may include in a complaint more than one theory under which a defendant may be liable. That is true even if there is some degree of inconsistency between the theories of liability presented in the complaint. For example, a plaintiff may bring a claim for fraud, but also include in the complaint a second count alleging innocent misrepresentation based upon mutual mistake. If the plaintiff is unable to prove at trial that fraud occurred, with the defendant having denied knowledge of the actual facts at the time of the transaction, it may be possible to obtain relief based upon mutual mistake.

For example, if a car buyer finds out that a vehicle had been in an accident prior to sale, the buyer may sue the seller alleging both fraud and innocent misrepresentation. If the car seller denies knowledge of the accident, the car buyer may be unable to prove that the seller knew or should have known about the accident at the time of the sale. However, that denial of knowledge may support relief from the contract based upon a theory of mutual mistake.

Copyright © 2004 Aaron Larson, All rights reserved. No portion of this article may be reproduced without the express written permission of the copyright holder. If you use a quotation, excerpt or paraphrase of this article, except as otherwise authorized in writing by the author of the article you must cite this article as a source for your work and include a link back to the original article from any online materials that incorporate or are derived from the content of this article.

This article was last reviewed or amended on May 7, 2018.