Chapter 12-3 Economic Loss Rule

• Jurisdiction: United States

12-3 Economic Loss Rule

The economic loss rule has been a source of confusion for attorneys and judges, but understanding its application is vital for attorneys involved in contract and business litigation in Texas.⁵⁵ In actions for unintentional torts, the economic loss rule restricts recovery of purely economic damages unaccompanied by injury to the plaintiff or his property.⁵⁶ "But the rule is not generally applicable in every situation; it allows recovery of economic damages in tort, or not, according to its underlying principles."⁵⁷ Instead of there being a single economic loss rule that applies to all torts, several more limited "economic loss" rules apply in selected areas of the law.⁵⁸

Those seeking to recover economic losses must anticipate the economic loss rule before it is formally raised by the defense because the economic loss rule is not an affirmative defense that must be pleaded.⁵⁹ It is a stealth weapon that may be asserted for the first time in a motion for summary judgment after the close of discovery, via directed verdict after the plaintiff rests or as an objection to the charge during the formal charge conference.⁶⁰ Pleading and proving a tort cause of action (such as negligence) when the case should be submitted as a contract cause of action will result in judgment for the defendant as a matter of law.⁶¹

Four Texas Supreme Court cases shape the contours of the economic loss rule: the 2011 Sharyland opinion,⁶² the 2012 El Paso Marketing opinion,⁶³ and the 2014 opinions in LAN/STV opinion⁶⁴ and Chapman.⁶⁵

Prior to the Sharyland opinion, Texas courts recognized an economic loss rule in three circumstances:

(1) In the setting of a defective product: The economic loss rule bars tort recovery of economic losses from a defective product where the damage or loss is limited to the product itself. Recovery is generally limited to contractual or contract-based statutory remedies.⁶⁶
(2) In the setting of a failure to perform a contract: The economic loss rule bars tort recovery of economic losses resulting from the negligent failure to perform the contract, when the source of the duty to perform arises from the contract. Recovery is generally limited to contractual or contract-based statutory remedies, rather than tort remedies.⁶⁷
(3) In the setting of a tort claim with purely economic loss: A few Texas courts of appeal decisions, but not the Supreme Court, had held that the economic loss rule barred tort recovery generally for pure economic losses, without regard to a contractual relationship.⁶⁸

The third category has generated the most controversy. In Sharyland, the Texas Supreme Court agreed that contractual privity is not always required for application of the economic loss rule⁶⁹ but noted numerous cases in which purely economic losses have properly been recovered in tort claims.⁷⁰ As a result, the Supreme Court rejected this breadth of the third version in favor of a more nuanced approach.⁷¹

The economic loss rule exists to preclude imposition of tort liability on purely contractual duties or on duties for which contract remedies better address the harm than do tort remedies. As such, the Court should look to the source of the duty at issue to determine whether the duty is solely a creature of contract (in which case the economic loss rule will typically apply),⁷² whether the duty is one which contractual remedies best address (in which case the economic loss rule will probably apply),⁷³ or whether the duty is one that exists independently of a contract and is best left to tort law (in which case the economic loss rule will not bar recovery of economic losses).⁷⁴

In El Paso Marketing, the plaintiff negotiated a contractual allocation of risk with the defendant and then assigned the contract. Despite lack of contractual privity at the time of suit, the Supreme Court held that the duty at issue in the case had been directly addressed by the contract; therefore, the economic loss rule barred tort recovery of purely economic losses.⁷⁵

In LAN/STV, the plaintiff and defendant both contracted with the project owner for work on the same project during the same time frame but had no contractual relationship with each other. Despite the lack of any contractual relation between the plaintiff and defendant, the Supreme Court held that the risk of loss should be contemplated and dealt with contractually by the parties since the risk of loss was one best addressed by contract remedies. The economic loss rule, then, barred tort recovery of purely economic losses.⁷⁶

In Sharyland, the plaintiff and defendant both contracted with the city but not with each other. The city contracts were during time periods that were years apart. Because a duty of care existed independent of the contract and the contract did not allocate the risk of loss, the Supreme Court held that the duty independent of the contract was best addressed by tort remedies rather than to the economic loss rule.⁷⁷

In Chapman, a landowner and general contractor brought suit against the plumbing subcontractor for negligently flooding and damaging the landowner's house. The Supreme Court declined to apply the economic loss rule, holding that the subject of the plumbing contract was the installation of the plumbing (rather than construction of the entire house), and the economic loss rule "does not bar all tort claims arising out of a contractual setting." The plumbing subcontractor had a...