Michigan Supreme Court Restores Reasonableness Test for Adhesive Employment Contracts

The Michigan Supreme Court first ordered oral argument to consider whether the Court of Appeals’ holding in Timko v Oakwood Custom Coating, Inc, 244 Mich App 234 (2001) was correct. Namely, whether contractual limitations provisions that restrict ELCRA claims do not violate public policy. After hearing argument on the application, the Supreme Court granted leave to also consider:

(1) whether Clark v DaimlerChrysler Corp, 268 Mich App 138 (2005), properly extended the Supreme Court’s holding in Rory v Continental Ins Co, 473 Mich 457 (2005), to employment contracts; and

(2) if not, whether the contract at issue in this case is an unconscionable contract of adhesion.

The Supreme Court first rejected the applicability of Rory, a significant shift from established precedent. Before Rory, contractual limitations periods in adhesion contracts could be enforced only if considered reasonable. Camelot Excavating Co, Inc v St Paul Fire & Marine Ins Co, 410 Mich 118 (1981). A short time after, the Supreme Court extended the reasonableness inquiry to the context of employment agreements in Herweyer v Clark Hwy Servs, Inc, 455 Mich 14 (1997). The Supreme Court characterized these decisions as providing “the correct framework for reviewing contractually shortened limitations periods contained in boilerplate employment agreements.” Rayford, ___ Mich ____; slip op at 2. In other words, the Supreme Court “restored” the reasonableness inquiry for review of these types of boilerplate provisions.

The Supreme Court thus overruled Clark v DaimlerChrysler Corp, 268 Mich App 138; 706 NW2d 471 (2005), which had extended the Rory framework (i.e., adhesion contracts do not require close judicial scrutiny) to employment contracts. The Supreme Court further overturned Timko v Oakwood Custom Coating, Inc, 244 Mich App 234; 625 NW2d 101 (2001), which held that a similar limitations provision was not inherently unreasonable, despite not having engaged in the “reasonableness” inquiry established by Camelot and Herweyer prior to Rory. The “reasonableness” test considers whether: [1] claimant had sufficient opportunity to investigate and file an action, [2] time not be so short as to work a practical abrogation of the right of action, and [3] action not be barred before the loss or damage can be ascertained. Rayford, ___ Mich ___; slip op at 25.

The Supreme Court clarified that Rory would be limited to insurance contract cases and did not apply to adhesion contracts in the employment context. The Supreme Court also considered Rory’s language, which extended its holding to contexts beyond insurance contracts, to be nonbinding dicta.

Finally, the Supreme Court addressed and clarified unconscionability as a contract defense. Procedural unconscionability involves situations where the weaker party has no “realistic alternative” but to accept a contractual term. Rayford, ___ Mich ___; slip op at 25. Substantive unconscionability requires courts to consider whether the disputed term is reasonable. Both must be established for a contract to be considered unconscionable. Id., citing Northwest Acceptance Corp v Almont Gravel, Inc, 162 Mich App 294, 302; 412 NW2d 719 (1987).

The Supreme Court concluded that Rayford “lacked bargaining power” when confronting the boilerplate language in her employment agreement and remanded to the trial court for further development of the record. There, the trial court will determine if the shortened limitations period is a procedurally or substantively unconscionable provision and whether it passes the “reasonableness” analysis.

Concurring, Justice Cavanagh agreed with the bulk of the majority’s reasoning, writing separately to resist the conclusion that Rory’s extension beyond insurance contracts constitutes “mere dicta.” She nonetheless supported the carveout of Rory’s applicability for adhesion contracts between employer and employee.

Justice Zahra dissented, arguing that the Rory decision properly supports traditional contract law principles and should apply to Rayford’s claims. As such, he reasoned that Rory controlled the case, and the lower courts’ holdings should be affirmed.