Knowledgebase-Legality of a ContractApril 27, 2011Dear Town Administrator: You have the following questions:1. Is a contract entered into between the Solid Waste Company and the Town on April 29, 2003, legal?2. If the contract is not legal, how should the town treat the contract?The answer to question 1 is that there are two kinds of ultra vires contracts (contracts in excess of power granted to the city). One kind is where the city did not have the authority to enter into the contract. The other kind is where the city had the authority to enter into the contract, but entered into it in a manner that violated its charter, or presumably its ordinances. It appears to me that the contract is an ultra vires contract of the first kind, for violating the Municipal Purchasing Law, or Tennessee Code Annotated, § 6-34-115. If that is not so, and the contract was not approved by the governing body of the city, it is an ultra vires contract of the second kind.The answer to Question 2 is that if the contract is an ultra vires contract of the first kind, it cannot be salvaged by the city, at least with respect to the remaining life of the contract. If the contract is an ultra vires contract of the second kind, it is difficult to see how the answer would be any different.
My understanding is that the contract was entered into between then Mayor A and Mr. B, the proprietor of the Solid Waste Company, and that the city council never approved the contract. I have no way of verifying whether that is or is not true. However, I note that the opening paragraph of the letter from Mayor A and Mr. B, says, “This letter serves as a follow-up to our conversation held earlier today at the Town Hall. From this date forward, the following contractual agreement will be in effect...” That language could be read to indicate that the agreement was between Mayor A and Mr. B, rather than between the town and Mr. B, but such a reading is far from conclusive; it may be that action on the contract by the city council preceded that meeting between Mayor A and Mr. B. If that was not so, the contract is invalid. The mayor has no independent authority to enter into contracts for city services or supplies. Indeed, Section 1-202 of the Municipal Code provides that, “The mayor shall execute all contracts authorized by the town council.”
Analysis of Question 1
In City of Lebanon v. Baird, 756 S.W.2d 236 (Tenn. 1988), the Tennessee Supreme Court discussed at length the effect of ultra vires contracts. It pointed to two kinds of ultra vires contracts: (1) Contracts wholly outside the scope of the city’s authority under its charter or a statute; and (2) Contracts not undertaken consistent with the mandatory provisions of its charter or a statute. It declares that the first kind of contracts are simply illegal, but that with respect to the latter kind of ultra vires actions, the court will weigh the equities to determine if the action should be voided, including the equity of whether the contract is executory. That case involved a contract into which the city had entered but had not approved by ordinance as required by the city charter, but its language suggests it applies to all city actions.
Baird involved the failure of the city to enter into contracts by ordinance as required by its city charter. I find no such provisions in your City Charter, but I can think of no reason why that case would not apply to the ordinances of the city that prescribe prerequisites for the validity of the city’s contracts. If it is true that the mayor and Mr. B entered into the contract in question without the approval of the city council, it is clear that the contract was ultra vires.
But I am uncertain as to which kind of ultra vires contract is reflected in the contract at issue. It can be argued that the contract is outside of the scope and authority of the city to enter under certain statutes. The Municipal Purchasing Law found at Tennessee Code Annotated, § 6-56-301 et seq., requires the competitive bidding of municipal service and equipment purchases where municipal funds are encumbered. In theory, there is only a small encumbrance of municipal funds in the contract in question: $3.00 for the portable toilets. But I suspect that theory will fail, and that the courts would calculate the real cost of the contract to the city over its entire life. The city had to “pay” something in addition to the $3.00 to get those toilets and their maintenance and cleaning. The city paid in terms of waste disposal services to the Solid Waste Company.
In the unreported case of City of LaFollette v. Board of Public Utilities of the City of LaFollette and LaFollette Tree Trimming Service, 1987 WL 12980 (Tenn. Ct. App.), the Tennessee Court of Appeals, overturned an executory contract for tree trimming service that the city’s utility had entered into without competitive bidding as required by the Municipal Electric Act of 1935, under which the utility was organized. It appears to me that case is consistent with Baird, but in both cases, the contract was still executory. In your City’s Case the contract has been performed since 2003.
It also appears to me questionable whether a municipality’s exchange in services with a private company complies with Tennessee Code Annotated, § 6-34-115, which applies to all municipal utilities no matter under what statute or charter organized. Subsection (a) of that statute provides that:
Notwithstanding the provisions of any other law to the contrary, as a matter of public policy, municipal utility systems shall be operated on sound business principles as self-sufficient entities. User charges, rates and fees shall reflect the actual cost of providing the services rendered....
A strong argument can be made that statute contemplates a municipal utility charging “[u]ser charges, rates and fees” for its utility services, including waste disposal, and that an exchange of services such as are reflected in the contract in question are not contemplated in that statute.
My research has not turned up a case in Tennessee or the United States involving a contract similar to the one at issue in your City. But as I read Baird, I think that the contract is an ultra vires contract of the first kind because it violated the Municipal Purchasing Law, or Tennessee Code Annotated, § 6-34-115, or both statutes, and for that reason it cannot be saved, at least as to its unperformed period (from this point until Mr. B no longer owns the business).
Analysis of Question 2
But if we assume that the contract was within the authority of the city to enter, it would still have required the approval of the city council. If such approval was not obtained, it is an ultra vires contract of the second kind. In the case of such contracts, the courts consider the question of whether the contract is enforceable under equitable principles. The contract between the Solid Waste Company and the mayor was executed on April 29, 2003–eight years ago. During that period both the city and the Solid Waste Company have had the benefit of the contract for that period. However, there is still a potentially lengthy period that performance of the contract could continue: while Mr. B owns the business. On those points Baird, said:
If a city’s action is ultra vires, not because the power has not been granted to it to act in the first instance, but because the city failed to exercise a power it has in the manner prescribed by controlling law, the question is what consequences flow from voiding the action. The answer depends on the nature of the attempted action and the facts of the particular case. When the city has attempted to enter a contract that is ultra vires because it was not entered into in the authorized manner, the issue is often as to whether the concept of equitable estoppel or implied contract is applicable. In addition to the equities of the case, the application of these concepts depends on whether the contract is executory or partially or fully performed. [At 243]
The court, citing a much earlier case, declared that, “where the contract is executory and the corporation has enjoyed benefit of the consideration, an assumpsit will be implied.” [At 243]
But it went on to declare that, “Furthermore, while the principles of implied contract or estoppel can arise in some circumstances involving an ultra vires contract that would have been intra vires and valid but for the failure of the city to follow its prescribed procedure, such a contract may be subsequently ratified....” That declaration probably gives no hope for your City to validate the contract by ratification by the city council. Ratification is not cure for a contract that will still be illegal after “ratification.” The approval of the contract by the city council, as required in § 1-202 of your City’s Municipal Code would probably still not comply with the Municipal Purchasing Law, and perhaps not with Tennessee Code Annotated, § 6-34-115.
Baird analyzes the doctrine of estoppel with respect to the contract in that case, and put it in rather simple terms:
The classic case of estoppel in the present context is the acceptance of the benefits of a contract and the subsequent refusal of a city to pay for the benefits received....” For estoppel to arise, the act must have been done with the knowledge that it would be relied upon and the other party has acted in reliance without either the true state of affairs or the means of learning the true state of affairs.... “When both parties have the same means of ascertaining the truth, there can be no estoppel....” [At 244]
In the contract the city has accepted the benefits of the contract with the Solid Waste Company, but it has paid for the benefits received for the term of the contract from 2003 to present. There has certainly been reliance by both parties upon the agreement. It is difficult to believe that the city did not know about the contract sometime during that period, even if the city council had not approved it. The problem the Solid Waste Company faces in arguing that the city is stopped to deny the existence of the contract, is that Mr. B undoubtedly had the same means to determine the “true state of affairs,” that the city council had not approved the contract, and that the approval of the city council was necessary to give the contract life. He certainly had the same means to make that determination. His experience as a businessman told him that a contract requires the approval of the proper person before it is effective, and that the mayor did not have the independent authority to approve contracts. If he did not know the latter, it was easily within his means to find out what the approval of contracts by the city required.
For those reasons, it appears to me that estoppel does not work in the Solid Waste Company’s favor on the contract. If the contract is ultra vires for the second reason, the city has the right to treat it as a void contract for the remaining life of the contract.
Sidney D. Hemsley
Senior Law Consultant