Backdating Contracts Is Tricky Business

by Brian Rogers on January 19, 2013

in Contract Law Basics and Tips

It’s not unusual for parties to a contract to want the written agreement to cover a period before it’s actually signed. There are any number of contexts where this comes up — some legitimate and others not exactly aboveboard — but the logistics of negotiating and signing contracts are such that the issue is unavoidable. (Jason Mark Anderman illustrates the logistics problem well in this comment to a backdating post on Ken Adams’s blog.)

There’s nothing inherently illegal or unethical about backdating contracts, although backdating can certainly be both unethical and illegal, depending on the situation. For those with an hour to kill thinking about the issues, Jeffrey Kwall and Stuart Duhl wrote an excellent article on backdating that was published in Business Lawyer in 2008. For a shorter piece with a few practical tips see Backdating – it’s illegal isn’t it?

Setting aside such issues, avoiding unwanted side effects of backdating contracts can be tricky, especially when the purported effective date of an agreement is several months before the date it was actually signed, as can be seen in FH Partners, LLC v. Complete Home Concepts, Inc.

A case study in contract backdating gone wrong

FH Partners involves the ownership of a promissory note that was made to a bank in connection with a loan. The facts are a bit complicated, involving circumstances surrounding the failure of a bank and transactions in the bank’s loans preceding the failure as well as transactions of the FDIC as the bank’s receiver. Here’s a simplified timeline:

  • August 1, 2007. Complete Home Concepts signs a promissory note in favor of Columbian Bank and Trust Company in connection with a loan.
  • February 22, 2008. Columbian transfers a 94.6% participation interest in the loan to Bank of Weatherford.
  • August 22, 2008. Columbian fails.
  • September 10, 2008. As receiver, the FDIC assigns Columbian’s rights in the loan to Weatherford, giving Weatherford 100% ownership in the loan.
  • December 16, 2008. The FDIC closes a transaction which purports to transfer the loan to FH Partners (note that the FDIC doesn’t own the loan because it’s been transferred to Weatherford).
  • June 10, 2009. The FDIC closes a transaction with Weatherford which transfers the loan back to the FDIC. The agreement effecting the transaction was signed on June 10, 2009 and provided for an effective date of November 7, 2008, which predates the FDIC’s December 16, 2008 transaction with FH Partners.

FH Partners made a demand on the debtor for payment of the loan and eventually sued the debtor and guarantors. The trial court granted the defendants summary judgment, holding that FH Partners didn’t own the loan and so it couldn’t enforce it. On appeal, the Missouri Court of Appeals, Western District agreed.

FH Partners argued on appeal that, although the FDIC didn’t own the loan on December 16, 2008, the FDIC’s backdated transaction with Weatherford remedied the problem retroactively. The appellate court determined two separate issues: (1) whether the FDIC’s June 10, 2009 transaction with Weatherford was effective to retroactively transfer the loan to the FDIC as between the FDIC and Weatherford and (2) whether a retroactive effect applied to the FDIC’s earlier transaction with FH Partners.

The backdating wasn’t effective as between the parties to the contract

As to the first issue, the transaction between the FDIC and Weatherford couldn’t have retroactive effect unless the parties showed a clear intent for the transaction to be retroactive. The court stated the general rule that “a written contract becomes binding when it is finally executed or delivered, unless a different intent appears.”

Although the face of the main agreement in the FDIC/Weatherford transaction expressed an intended effective date of November 7, 2008, ancillary documents signed in connection with the transaction weren’t backdated, and the main agreement didn’t explain why it was backdated. Due to this ambiguity in the contract documents, the trial court was permitted to look at the evidence of the parties’ intent outside of the documents, and it found that the FDIC didn’t acquire an interest in the loan until June 2009, regardless of the stated effective date in the main agreement.

The appellate court affirmed the trial court and stated:

The law does not support the blanket conclusion that a retroactive effective date in a contract is only enforceable when the evidence demonstrates that the parties had agreed to the material terms of their contract as of the retroactive date. However, where a contract is ambiguous with respect to its effective date, the absence of an explanation for a retroactive effective date, and evidence that the parties had not agreed to the material terms of their contract as of the purported retroactive effective date, are relevant considerations in resolving the ambiguity. We cannot conclude, therefore, that in resolving the inconsistency between the FDIC/Weatherford Agreement and the Termination of Participation Agreements, the trial court erroneously relied on these uncontested facts to find “a lack of mutual assent” with respect to a November 7, 2008 effective date.

Thus, the FDIC and Weatherford could have made their transaction retroactive, but they didn’t document the deal clearly enough to do so.

The backdating wasn’t effective as to non-parties

The appellate court then considered whether, assuming that the FDIC/Weatherford transaction was retroactively effective (which it wasn’t), the retroactivity of that transaction had any legal effect on the transaction between the FDIC and FH Partners. FH Partners was unable to cite to any authority “for the proposition that a retroactive effective date in one contract can be construed to have an automatic retroactive effect on a separate contract,” which would probably have been fatal to its case. But the language of the FDIC/FH Partners agreements further undermined FH Partners’ arguments because the documents (1) stated that they couldn’t be amended or waived except in a writing signed by the parties, (2) didn’t anticipate that the FDIC could modify what it was conveying to FH Partners after closing, (3) conveyed the FDIC’s interest “as of the Loan Sale Closing Date,” (4) transferred the FDIC’s interest in the loan “as is,” (5) provided that the FDIC would “have no obligation to secure or obtain any missing intervening assignment or any assignment to [the FDIC] that is not contained in the Loan File,” (6) provided a process by which FH Partners could require the FDIC to repurchase a loan if it was determined that the FDIC didn’t own it as of the closing, and (7) transferred the FDIC’s rights “at the time of closing.”

The appellate court stated, “We necessarily conclude that the FDIC/FH Loan Sale Documents unambiguously anticipated that the FDIC might very well be conveying to FH Partners less than perfect, and even non-existent, title to Loan A and Loan B. In light of that fact, there is no evidence that the FDIC was authorized to unilaterally cure title defects months after closing.”

A couple of takeaways

Effectively backdating written agreements so that they’ll be enforceable retroactively can be surprisingly complicated. This is especially true in the context of a complex deal that includes multiple documents and when the retroactive date is several months in the past. The parties’ intent for the transaction to have retroactive effect must be clear. Merely stating a retroactive effective date in the main agreement may not do the trick.

Even if a transaction is given retroactive effect as between the parties, it’s unlikely that the same will be true when non-parties are involved. It’s often difficult — maybe impossible — to conceive of all the non-parties who could be affected by a transaction, so it’s non unlikely that there will be unintended consequences that won’t be cured by backdating a contract.

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{ 3 comments… read them below or add one }

Vance Koven January 21, 2013 at 8:17 am

I take a uniformly hard line on backdating contracts. I’m rather surprised that Kwall and Duhl never even mentioned Sarbanes-Oxley, but any company subject to SOx should never ever backdate, as it compromises the internal controls on financial transactions and disclosure that SOx mandates; this may prove to be legally innocuous when the backdating is within a fiscal quarter, but when a transaction spans a quarter, then it’s a high-risk operation; and one should just cultivate the good habit of not putting a date on a contract that isn’t contemporaneous with its actual signature.

As Ken Adams has pointed out, if you want a contract to cover activity prior to its signature, you can just say so: This agreement applies to transactions between the parties on or after xxxx. Don’t mess with the actual date of the contract.

The one area in which I relax this rule somewhat is in drafting corporate resolutions that are, as Kwall and Duhl characterize the situation, merely memorializing events that occurred at times in the past (for example, the continuation of named persons as directors and officers, the establishment of a banking relationship, etc.) and you’re just catching up on corporate housekeeping that may have slipped. When third parties might be prejudiced, what I do even here is to have a contemporary resolution ratify the actions taken by the directors at a prior time. This keeps everything clean with no chance to mislead.

Reply

Brian Rogers January 21, 2013 at 1:15 pm

This is a great comment, Vance. Its good to have the voice of experience in the discussion. The date of a contract can have revenue-recognition implications, as well as tax implications. And misleading regulatory bodies is the main issue that got folks in trouble in the stock options backdating scandal, as I recall.

Still, in the rough and tumble of everyday business, it’s often hard to nail down the exact date of a contract, and, inevitably, proper documentation will fall through the cracks on occasion. Determining the best course of action in those circumstances can be difficult.

Reply

Mike February 1, 2014 at 9:00 am

Great information, what if the contract is for contract labor and they date it a year in the rears? Current President of a Board signed as President when they were not? I would think not legal.
Thanks

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