Litigation involving contracts often hinges on the interpretation to be given to one or more terms of the contract.  Parties will typically advocate for a particular interpretation.  Sometimes, a question arises about whether and to what extent a party can introduce evidence substantiating that interpretation.  Among other things, that question may involve the application of a rule of evidence known as the “parol evidence rule.”

Courts Seek to Determine the Intentions of the Parties to Contract

The primary legal objective of contractual interpretation is to determine “the intent of the parties and the scope of their understanding” (see Sattva Capital Corp. v. Creston Moly Corp., recently cited and discussed by the Superior Court of Justice in Powerone Solutions Inc. v. Trans-Tec Inc.).  As the Supreme Court of Canada explained in Sattva Capital, to properly interpret a contract, it must be read “as a whole, giving the words used their ordinary and grammatical meaning, consistent with the surrounding circumstances known to the parties at the time of formation of the contract.”  The Court, in that case, referred with approval to an earlier U.K. case in which the House of Lords had said that, in the context of commercial contracts, a court should understand “the commercial purpose” of the contract, which in turn requires understanding “the genesis of the transaction, the background, the context, [and] the market in which the parties are operating” (see Reardon Smith Line Ltd. v. Hansen-Tangen).

In interpreting a contract, the “surrounding circumstances” must never “overwhelm” the words used.  As the Court made clear in Sattva Capital, courts are not permitted to use surrounding circumstances “to deviate from the text such that the court effectively creates a new agreement.”

The evidence that may be used in interpreting a document must be strictly “objective evidence of the background facts at the time of the execution of the contract.”  In other words, facts that were “or reasonably ought to have been within the knowledge of both parties at or before the date of contracting” (per Sattva Capital).  

A Parol Evidence Rule Prohibits The Admission Of Evidence That Would Contradict A Written Contract’s Express Terms

As the Court explained in Sattva Capital, the parol evidence rule is a common law rule against the admission of evidence that would “add to, subtract from, vary, or contradict” the express terms of a written contract.  The rule prevents a court from considering evidence of what a party subjectively intended.  The law presumes parties “have intended what they have said” (see Brampton Worship Centre v. Montgomery). As explained in Sattva Capital, the purpose of the rule is to “achieve finality and certainty” in contracts and to prevent the use of “fabricated or unreliable evidence to attack a written contract.”

The principle that allows for the admission of evidence of surrounding circumstances is consistent with the parol evidence rule insofar as the purpose of the former is to assist in objectively interpreting the terms of a contract instead of modifying their meaning.  

There are exceptions to the parol evidence rule, such as evidence for a “subsequent oral agreement to rescind or modify” some written contracts (see Shelanu Inc. v. Print Three Franchising Corp.).  Further, the rule will sometimes not be applied where a party seeks to rectify a written mistake in the contract that does not conform to the parties’ real intentions (see Kooner v. Augustin).

Commercial Contracts Often Include Boilerplate Wording That Incorporates the Parol Evidence Rule

The parol evidence rule often finds its way into the express language of commercial contracts through a boilerplate provision called an “entire agreement” clause.  This clause typically includes language confirming that the written agreement constitutes the entire agreement between the parties with respect to its subject matter and that no representations, warranties or other terms apply to the contract except as expressly set out in it.  The purpose of such clauses is “to lift and distill the parties’ bargain from the muck of the negotiations” (per Soboczynski v. Beauchamp).  Like the parol evidence rule, such clauses preclude statements and other acts that preceded the concluded contract from being used to “muddy” the interpretation of that contract.

“Entire Agreement” Clauses Do Not Generally Operate Prospectively

Questions have been raised in the past as to whether “entire agreement” clauses also preclude the consideration of statements that occur after a contract is signed.  As the Court of Appeal explained in Soboczynski, such clauses generally “do not apply prospectively unless the wording expressly so provides.”  Further, such clauses do not affect the contracted parties’ ability to amend that contract’s terms.  As the Court explained, “post-contract events can affect both the enforceability of the obligations in the agreement and add new obligations to those imposed by its terms.”

It is important to note that “entire agreement” clauses are routinely enforced by courts to prevent some types of litigation and “to ensure the efficacy and efficiency of commercial arrangements” (Chandler v. Hollett).

As with the parol evidence rule itself, the inclusion in a contract of an “entire agreement” clause does not prevent or preclude a court from considering the circumstances surrounding the formation of the contract when interpreting that contract.  In Chow v. Russell, the Ontario Superior Court of Justice affirmed this principle. It cited Alberta case law supporting that the presumption underlying an “entire agreement” clause is that the contract is clear.  If the contract is unclear, then a court generally cannot be precluded from considering the circumstances surrounding its formation to determine the parties’ intentions for it.

Contact the Litigation Lawyers at Milosevic & Associates for Advice on Contract Disputes

The experienced legal team at Milosevic & Associates in Toronto can provide strategic and practical advice to resolve your contractual or other business disputes effectively.  Contact us online or by phone at (416) 916-1387 for a consultation.