Chapter 10

Authority

Creation of an agency relationship typically involves the agent's power to bind the principal to third parties (and third parties to the principal) in an agreement of some type. The power to bind the principal in a certain transaction is derived from the agent's authority. This authority arises primarily through one of three ways. The primary sources of an agent's power are (1) actual authority, (2) apparent authority, and (3) ratification.

Indemnification

Right of reimbursement from another for a loss suffered due to a third party's act or default.

Actual Authority

Typically, an agent's power to bind is through actual authority, which arises either when the parties expressly agree to create an agency relationship or when the authority is implied based on custom or the course of past dealings

agents

Agency is a legal relationship in which the parties agree, in some form, that one party will act as an *agent* for another party, called the *principal*, subject to the control of the principal. Agents are classified into one of three broad categories: (1) employee agents, (2) independent contractor agents, and (3) gratuitous agents. Understanding these categories is important for business owners and managers primarily because the liability of the principal for acts of the agent depends on the agency relationship between the principal, the agent, and any relevant third parties.

CONCEPT SUMMARY Overview of Agency Law

Agency is a legal relationship in which the parties agree, in some form, that one party will act as an agent for another party, called the principal, subject to the control of the principal. Agency law generally exists on the state statutory level and is based on the Restatement (Third) of Agency. The agent is classified, applying a substance-over-form analysis, as either an employee or an independent contractor based on the amount of direction and control that the principal has over the agent in terms of work schedule, pay rate, and day-to-day supervision. Liability of a principal for any acts or omissions of the agent and regulation by federal and state labor laws are related to the relationship between the principal, the agent, and any relevant third party. The law of agency operates in tandem with other areas of the law, especially contracts and torts.

Tort Liability to Third Parties

KEY POINT The doctrine of respondeat superior stands for the proposition that a principal (employer) is liable for the servant's or agent's (employee's) tort when that act resulted in physical harm or injury and occurred within the employee's scope of employment.

Agent's Duties to the Principal

KEY POINT The duty of loyalty is the centerpiece of fiduciary obligation: The agent is obliged to advance the principal's interest over her own interests.

Vicarious Liability

Liability that a supervisory party (typically an employer) bears for the actionable conduct of a subordinate or associate (such as an employee).

employee agents

Individual employees who are authorized to transact business on behalf of the employer principal are called *employee* *agents*. Principals are liable for the actions or omissions (such as negligence) of employee agents. However, it is important to understand that not every employee is an agent. In order to be classified as an employee agent, the employee must have some source of authority to represent the employer. The nonagent employee relationship is sometimes referred to as the master-servant relationship to distinguish it from an employer-employee agent relationship. By contrast, an *independent *contractor* *agent* (usually referred to simply as an "independent contractor") is not considered an employee and has no legal protections of employees such as minimum-wage and overtime-compensation laws. An equally important factor is that the principal generally has no liability for actions and omissions of an independent contractor agent. Agents who act on behalf of a principal without receiving any compensation are called *gratuitous* *agents*. To take a simple example, if you ask your roommate to pick up your laundry on your behalf as a favor, he is your gratuitous agent. In most respects, the rights and duties of gratuitous agents are the same as those of paid agents except that the duty of care applicable to the gratuitous agent is not as great (an agent's duty of care is discussed later in this chapter). Although the parties themselves may agree to a certain classification, the status of an agent is not based on what the parties agreed to but is instead determined by the actual working relationship between principal and agent. Courts apply the substance-over-form analysis to determine the classification of an agent. Fundamentally, the agent is classified based on the amount of direction and control that the principal has over the agent in terms of setting the agent's work schedule and pay rate and determining the level of day-to-day supervision required. KEY POINT The agent is classified based on the amount of direction and control that the principal has over the agent in terms of setting a work schedule, pay rate, and day-to-day supervision requirements.

CONCEPT SUMMARY Duties, Obligations, and Remedies of the Parties

Agents owe a fiduciary duty to principals. This duty requires the agent to act according to higher standards than nonfiduciaries in a transaction, including the duties of loyalty, obedience, care, disclosure, and accounting. The duty of loyalty is the centerpiece of fiduciary obligation because the agent is obliged to advance the principal's interest over her own interest. If an agent's breach of duty to the principal causes damages to the principal, the principal may recover those damages from the agent. If an agent's breach of duty resulted in the principal's becoming liable to a third party, then the agent must indemnify and hold harmless the principal from any losses as a result of the liability. If an agent breaches the duty of loyalty, the principal may rescind any agreement between principal and agent and the agent may be liable to return profits earned as a result of the breach. Principals have a duty to reimburse and indemnify agents for expenses incurred, injuries suffered, or damages caused to third parties when the agent acted within actual authority or in good faith on behalf of the principal. A principal owes independent duties to third parties to use reasonable care in screening, hiring, informing, training, and supervising its agents. An agency relationship is terminated either through express acts (termination or expiration) or through operation of law (destruction of subject matter, death, bankruptcy, or mental capacity).

Ratification

An agent can also have retroactive (after-the-fact) power to bind through *ratification*. Ratification occurs when the principal affirms a previously unauthorized act. That is, even though the agent did not have the authority to bind the principal initially, the principal may subsequently give after-the-fact authority by either (1) expressly ratifying the transaction or (2) not repudiating the act (i.e., retaining the benefits while knowing that they resulted from an unauthorized act by the agent).

Apparent Authority

An agent may also gain power to bind the principal from the appearance of legitimate authority to a third party. This is known as apparent authority. Determining whether an agent has apparent authority can be difficult because it is a source of power that is not expressly authorized by the principal. The key to understanding this power is to determine whether a third party was objectively reasonable in his belief that the apparent agent is in fact authorized to act for the principal.6 Apparent authority arises from the actions of a principal that lead a third party to believe that an agent has the authority to act on the principal's behalf.