To minimize the potential for simple communication failures to result in protracted and expensive litigation on construction projects, all of the major industry construction contract forms include communicative processes that must occur before a claimant files suit or requests arbitration. One goal of the process is to reduce the potential for inefficient and unnecessary litigation by resolving claims as they arise on the job site. Engaging in open and early communication about a particular issue on a construction project, however, is not without risk. Specifically, statements made during the open communication process before facts have been fully developed could prejudice a party's position during litigation if the contractually required pre-suit process fails. Although many state and federal courts have adopted rules of evidence protecting statements made during the course of settlement negotiations from introduction at trial, those rules of protection also have their limitations. This article examines the current status of the evidentiary rules with particular emphasis on the federal evidentiary standard relating to settlement negotiations and the relationship between that standard and the industry form contracts.
The dispute resolution processes described in the American Institute of Architects (AIA), ConsensusDOCS, and Design Build Institute of America (DBIA) form contracts all involve procedures that must be implemented prior to filing suit. Each of the form contracts provides opportunities for the various parties to communicate their positions relating to a claim. From a litigation standpoint, however, each communication is an opportunity for the participants to make inadvertent admissions that, if introduced into evidence at a trial, could adversely affect their case. Because none of the form contracts indicate when the communication becomes “settlement negotiations” excluded from evidence, it is incumbent upon industry participants to understand how the discussions mandated prior to suit could affect their case.
This article summarizes the current status of the law relating to the admissibility of settlement negotiations at trial and analyzes that body of law within the context of the AIA’s mandated pre-suit claims process. The principles articulated in the process of describing the application of the rules of evidence in relation to the AIA form contract dispute resolution procedures will have equal weight for industry participants operating under the ConsensusDOCS and the DBIA forms.
Federal Rule of Evidence 408
Federal Rule of Evidence (FRE) 408 provides in relevant part:
Compromise and Offers to Compromise
(a)Prohibited uses. Evidence of the following is not admissible on behalf of any party, when offered to prove liability for, invalidity of, or amount of a claim that was disputed as to validity or amount, or to impeach through a prior inconsistent statement or contradiction:
(1) furnishing or offering or promising to furnish or accepting or offering or promising to accept a valuable consideration in compromising or attempting to compromise the claim
(2) conduct or statements made in compromise negotiations regarding the claim . . .
Permitted uses. This rule does not require exclusion if the evidence is offered for purposes not prohibited by subdivision (a). Examples of permissible purposes include proving a witness’s bias or prejudice; negating a contention of undue delay . . . .
The notes issued by Congress relating to the adoption of FRE 408 explain the purpose behind the rule. Evidence of settlement negotiations is irrelevant because the offer to settle may be motivated by a desire for peace rather than a concession of weakness of position, and by excluding settlement discussions from evidence, the disputants can openly discuss their positions with the hope of reaching resolution rather than litigating their dispute through trial.
However, practitioners are cautioned that FRE 408 has its limits. First, according to the rule, evidence of settlement negotiations is presumptively excluded only when it is being offered to prove liability or damages, or for impeachment purposes. Consistent with the limiting language of the rule, it is clear that FRE 408 does not require exclusion if, for example, evidence of settlement negotiations is used to show a witness’s bias or prejudice or to negate contentions of undue delay. Therefore, crafty trial practitioners seeking to introduce evidence of settlement negotiations need only argue that the basis for introduction is not for one of the prohibited purposes outlined in the rule. In response, a party seeking to exclude the evidence may only be left with the generic argument that the probative value of the settlement negotiations is substantially outweighed by its prejudicial impact pursuant to FRE 403. The discussion of whether settlement negotiations are admissible, however, is actually the second step in any analysis of admissibility of settlement discussions.
The Line Between Communications and Settlement Negotiations
The first question, and the question of interest in this article, is when do construction project communications become “settlement negotiations” subject to FRE 408 analysis and what, if anything, can practitioners charged with modifying the AIA form contracts consider doing to the contract to provide certainty to construction industry participants?
To analyze this issue, it is first necessary to understand the resolution process adopted by the AIA A201 (2007). Under the AIA, to initiate a claim on a project, the aggrieved party must notify, in writing, (1) the opposing party, (2) the initial decision maker (IDM), and (3) the architect if the architect is not serving as the IDM. AIA A201 ¶ 15.1.2. Such notice must be issued within 21 days after recognizing the condition giving rise to the claim or the occurrence of the event giving rise to the claim. Id. It is important to note that the submission of the claim to the IDM is a condition precedent to formal mediation of the issue. Id. at ¶ 15.2.1.
After the IDM has received written notification of the claim, the IDM has 10 days to take one of the following actions:
(1) Request additional supporting data from the claimant or a response with supporting data from the other party, (2) reject the claim in whole or in part, (3) approve the claim, (4) suggest a compromise, or (5) advise the parties that the initial decision maker is unable to resolve the claim or if the initial decision maker concludes that, in the initial decision maker’s sole discretion, it would be inappropriate for the initial decision maker to resolve the claim.
At any time, the IDM may request one or both parties to provide a response to the claim or to furnish additional supporting information. Id. at ¶ 15.2.4. Once the IDM reaches a decision or is unable to resolve the claim, the IDM must notify the parties and the architect, in writing, and state the reasons for reaching such a conclusion. Id. at ¶ 15.2.5. If the parties do not proceed to mediation, arbitration, or traditional litigation, the IDM’s decision becomes a final and binding change order to the contract. See id. If the parties continue to disagree, the parties may proceed with mediation. Id. at ¶ 15.3 et seq. However, if mediation does not resolve the matter, they may proceed to either arbitration or traditional litigation, depending on which method of binding dispute resolution the parties have chosen.
From the outset, the AIA appears to treat the dispute resolution process as adversarial. This suggests that the discussions are not focused on “settlement” but on persuading the IDM as to who should “win” the claim—not unlike a mini-trial. Thus, these discussions, and the documents submitted during the initial dispute resolution process, may not be protected during litigation under FRE 408, because the parties (pursuant to the contract) are arguably not seeking to compromise. The flip side of the coin, of course, is that the claim process is designed to resolve issues on the project short of formal dispute resolution processes (arbitration or litigation). Regardless of how the AIA appears to treat the particular statements, it is clear that the parties, their attorneys, and the courts are forced to consider on a case-by-case or even discussion-by-discussion basis whether the protections of FRE 408 apply to those early conversations if the matter is litigated.
The ConsensusDOCs family of forms also provides for the potential to engage a Project Neutral/Dispute Review Board to help resolve issues and claims. The decision of the Project Neutral/Dispute Review Board is not binding on the participants; however, the decision of the Project Neutral/Dispute Review Board “may be introduced as evidence at a subsequent binding adjudication of the matter . . . ” ConsensusDOCS™ 200 § 12.2. Arguably, if the decision of the Project Neutral/Dispute Review Board is admitted into evidence, the facts and circumstances leading up to the decision would also be relevant and admissible. In essence, the purpose of the admission of the claims process discussions prior to the issuance of a decision would not be admitted for the prohibited purposes outlined in FRE 408 but for the purpose of placing in context the weight that should be given to the Project Neutral/Dispute Review Board’s determination. See FRE 106; FRE 402.
A review of the case law on FRE 408 reveals that the question of when settlement negotiations have begun is a highly fact-intensive inquiry. According to the relevant case law, “[t]he application of the rule is limited to evidence concerning settlement or compromise of a claim, where the evidence is offered to establish liability or the validity or amount of a claim.” Affiliated Mfrs., Inc. v. Aluminum Co. of Am., 56 F.3d 521, 526 (3d Cir. 1995). The rule is triggered only when there is an actual dispute between the parties, which is necessary to form the subject of a negotiation or compromise. Logically, if there is no dispute, there can be no offer to compromise and therefore no settlement discussions. See id.; Big O Tire Dealers, Inc. v. Goodyear Tire & Rubber, Co., 561 F.2d 1365, 1372 (10th Cir. 1977). It is important to remember, however, that FRE 408 “was intended to sweep broadly and encompasses the whole of the settlement evidence . . . [and w]hen the applicability of Rule 408 is a close call the court should lean toward exclusion.” Dow Chem. Co. & Subsidiaries v. United States, 250 F. Supp. 2d 748, 804 (E.D. Mich. 2003). Further, most courts generally agree that the inquiry into whether discussions constitute settlement negotiations is generally focused on the subjective intent of the parties at the time the statements in question were made. Id.
The detailed claims process in the standard AIA A201 has at least two apparent purposes. First, it makes the parties document their positions, perhaps in an effort to preserve the “truth” at a time when the facts are freshest. Second, the claims process forces the parties to attempt to resolve their differences, short of inefficient litigation, through mandatory processes requiring the early exchange of information. It is important to note that FRE 408 would not preclude the introduction of the written evidence designed to document the issues during construction, as described in the first example, but may preclude the introduction of documents relating to settlement discussions, as described in the second example.
Case Law Guidance
The contractual requirements of the AIA dispute resolution process are somewhat analogous to dispute resolution processes in the regulatory setting. For that reason, the body of case law relating to regulatory disputes perhaps provides construction practitioners some guidance regarding when, in the AIA dispute resolution process, the statements fall within the confines of settlement negotiations. For instance, in Dow Chemical Co. v. United States,the court was faced with a situation where the United States, through the Internal Revenue Service (IRS), sought to introduce into evidence a series of tax protest petitions that Dow Chemical had previously filed with the IRS. Id. at 802–6. The petitions allegedly contained information that was contradictory to a position Dow had taken in the subject litigation. Dow maintained that because the filing of the tax protests with the IRS is “the first step in the process that leads to settlement discussions designed to resolve tax disputes with the government,” the petitions were protected as settlement discussions under FRE 408. Id. at 803. In other words, it was Dow’s position that the protests were written in furtherance of settlement discussions and were therefore not admissible. The IRS maintained, however, that the procedures during the tax protest stage are adversarial rather than conciliatory. Therefore, the petitions could not constitute inadmissible settlement negotiations.
To educate itself about the audit process and appropriately analyze the issue, the court allowed Dow to introduce evidence and argument regarding the tax petition process. First, Dow argued that the issuance of a tax protest petition is not required to litigate a refund in court and, thus, there was no reason to file the petition other than to seek settlement. In addition, Dow presented evidence showing that 85 percent of all protests of IRS audits are settled. Finally, Dow introduced an IRS form letter issued during the early stages of the process specifically stating that if Dow wished to have a conference with the IRS, it should file a protest.
The IRS countered Dow’s assertions by arguing, in part, that Dow’s petitions did not contain any language reflecting the potential to settle and that it was unreasonable, given the procedural posture of the case, for Dow to have believed that it was moving forward with settlement. However, the court was persuaded by Dow’s arguments and found that Dow reasonably believed that the only avenue to begin settlement discussions with the IRS was to file a protest. Thus, the court concluded that, from Dow’s perspective, the filing of the tax protest was the first step in the dispute resolution process. As a result, the tax protest petitions were inadmissible pursuant to FRE 408. Id. at 806.
In comparing the claims process outlined in the AIA contract documents and the foregoing case, one important similarity can be noted: Like the tax protest requirement, the only way to technically preserve the right to resolve a construction claim—and perhaps resolve the claim short of litigation or arbitration—is to file a formal claim notice. Thus, construction law practitioners may certainly argue that the initial claim notice is not admissible because it is the first “step” toward settlement discussions. However, given that the court in Dow Chemical focused on the subjective intent of the party filing the protest, the outcome necessarily turns on the facts of each particular case.
Of course, for lawyers charged with drafting contracts, certainty of outcome is an important goal. Certainty as to the admissibility of documents relating to a construction claim process is important because the admission of a poorly worded, inaccurate, or incomplete claim notice could have an impact on the jury’s perception of the claimant’s case. Further, given the short “shot clock” for filing a claim under the AIA contract documents—21 days after the event giving rise to the claim—the claim notice has the potential to contain assertions made on educated guesses that, after additional time and investigation, might ultimately turn out to be false or inaccurate. In other words, a contractor is placed in somewhat of a trick bag under the AIA documents. The contractor could believe that there is an issue with the design, plans, schedule, or site conditions that will add to its costs. However, given the tight time frames in the AIA documents relating to claims relative to the complex nature of some construction issues, the contractor might have to submit a claim prior to having a complete understanding of the basis and impact of its claim or risk losing the claim. See Stelko Elec., Inc. v. Taylor Cmty. Schs. Bldg. Corp., 826 N.E.2d 152, 159 (Ind. Ct. App. 2005).
Down the road, the claim notice could come back to haunt the contractor and require significant explanation to a jury during litigation if the initial claim notice contained allegations, comments, or facts that later turned out to be unfounded or wrong. Of course, the contractor’s lawyer might be able to “explain away” the issue and put the subject issue in context. However, in trial, where perception and credibility are as important as any specific fact in the case, the admission into evidence of a factually inaccurate claim could affect the outcome of the trial. This is particularly true where the initial claim based on later discovered facts would appear to be overreaching. Because of these variables, to the extent the facts can be shaped through contract drafting, lawyers should consider the issue.
There are at least three lessons to be learned with respect to the confluence of FRE 408 and the construction contract claim dispute. First, lawyers with clients who have the foresight to consult with them regularly about their work should educate those clients about the importance of careful drafting of job-related correspondence. A “funny,” angry, or cathartic claim notice is not nearly as funny or cathartic three years later when the attorney must explain the reasoning behind the use of inflammatory, false, or overreaching language.
Second, because the issue of whether a particular document is admissible will likely turn on the “subjective” intent of the person issuing the document, the parties to the construction contract should at least consider adding language during the drafting stage defining at what point the dispute process turns from typical project administration into an attempt to settle a dispute. In this way, the parties can presumably clearly define the risks associated with the creation of evidence throughout the course of the claims process.
Third, absent specific contractual language controlling the issue, lawyers given the opportunity to consult with construction project participants during the course of an ongoing construction claim dispute should be mindful of the evidence they may be creating in the claims process. If the project participant is forced to issue a claim, the language used in the notice becomes extremely important because it very well could become an admissible document during litigation. Thus, lawyers assisting their clients should always consider what a jury might think about the document.
Keywords: construction litigation, settlement negotiations, dispute resolution process, communication, document admissibility, Federal Rules of Evidence 408, American Institute of Architects, ConsensusDOCS, Design Build Institute of America, contracts claim
Sean Devenney is a partner with the law firm of Drewry Simmons Vornehm, LLP, in Indiana. Shelley McCoy is currently a judicial law clerk in the Southern District of Indiana. This article was written when McCoy was an associate attorney with the law firm of Drewry Simmons Vornehm, LLP. The views expressed in this article are solely those of the authors.
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