The Implied Covenant of Good Faith and Fair Dealing in New York Contract Disputes: A Guide for NYC Business Owners

You signed a five-year exclusive distribution agreement with a Manhattan importer for your Long Island City warehouse operation. The contract gives the importer “ sole discretion” to approve which retailers you can service. Two years in, they start rejecting every account you propose — not because the retailers are bad, but because the importer quietly launched a competing distribution arm and wants your business to fail. The contract's express terms don't obviously prohibit any of this. So do you have a case?

You might. New York recognizes an implied covenant of good faith and fair dealing in every commercial contract, and it exists precisely for situations like this — where one party technically follows the words on the page but destroys the other party's ability to enjoy the benefit of the bargain. Understanding how the implied covenant of good faith and fair dealing works in New York can mean the difference between a viable $2 million to $10 million lawsuit and a partnership dispute dismissed on the pleadings.

What is the implied covenant of good faith and fair dealing in New York?

The implied covenant of good faith and fair dealing is an unwritten promise built into every contract governed by New York law that neither party will do anything to destroy the other party's right to receive the benefits of the agreement. It's not a separate contract. It's a background principle that fills in the gaps where the written terms are silent or grant one side discretion.

The New York Court of Appeals laid out the modern rule in 511 W. 232nd Owners Corp. v. Jennifer Realty Co., 98 N.Y.2d 144 (2002), where a sponsor of a co-op conversion refused to sell enough units to make the conversion viable. The written offering plan didn't require the sponsor to sell any specific number of units. But the Court held that the implied covenant barred the sponsor from taking actions that would deprive the buyers of the fundamental benefit of their purchase — a functioning cooperative.

The classic articulation, still cited today, comes from Kirke La Shelle Co. v. Paul Armstrong Co., 263 N.Y. 79 (1933): a contract includes not just what is expressly written, butalso “any promises which a reasonable person in the position of the promisee would be justified in understanding were included.” That principle carries into every commercial deal you sign in New York, from vendor contracts to earn-out provisions to lease renewals.

The covenant operates most powerfully in two contexts. First, when a contract gives one party discretionary authority — the right to approve, reject, terminate, or interpret — that discretion must be exercised in good faith. Second, when the contract is silent on an issue, courts will imply a duty not to sabotage the other side's expected performance. The Dalton v. Educational Testing Service, 87 N.Y.2d 384 (1995) decision confirmed that even when a party has broad contractual discretion, it cannot exercise that discretion “arbitrarily or irrationally.”

When can you sue for breach of the implied covenant in a New York commercial dispute?

You can sue for breach of the implied covenant when the other party's conduct destroys the fruits of your bargain but doesn't clearly violate an express contract term. This is the covenant's real utility — it gives you a claim when the written contract's silence or ambiguity leaves you exposed.

The most common fact patterns we see in NYC $1M–$10M disputes involve discretionary rights being weaponized. A licensor decides your product no longer meets “reasonable quality standards” only after your sales start eating into its market. A franchisor withholds approval for a location transfer to force you into a fire sale. A commercial landlord in Midtown “reviews” your subletting request for eighteen months while you bleed rent. Earn-out disputes are a particularly rich source of implied-covenant claims after M&A deals — the acquirer runs the business in a way that torpedoes the earn-out targets, and the seller loses millions.

New York courts have been clear that the implied covenant reaches conduct that is technically permitted but functionally destructive. That said, you need to identify a concrete benefit you were entitled to under the contract. The covenant doesn't create new obligations out of thin air. It protects what the parties already agreed to.

Timing also matters. The statute of limitations for breach of the implied covenant is the same six-year period that governs written contract claims under CPLR § 213. That clock starts when the breach occurs, not when you discover it — something most business owners don't realize until it's too late.

Why do New York courts dismiss so many implied covenant claims as duplicative?

New York courts dismiss implied covenant claims as duplicative when the claim is based on the exact same conduct as a breach of contract claim and seeks the same damages. This is the single biggest trap in bringing an implied covenant case in New York.

The Appellate Division regularly dismisses implied covenant causes of action that simply restate a breach of express contract claim. If the other party missed a payment deadline, that's a breach of contract, and calling it a “breach of the implied covenant” adds nothing. Courts throw those claims out to prevent plaintiffs from double-dipping.

To survive a motion to dismiss, your implied covenant claim needs to be based on conduct that isn't already covered by an express term. Experienced commercial litigators watch for whether the alleged bad-faith conduct falls in the “gaps” of the contract — the discretionary calls, the silences, the areas where the parties didn't write a specific rule. If it does, the claim can stand alongside a breach of contract count. If it doesn't, you're better off pleading only breach of contract and preserving the implied covenant argument as a theory of interpretation.

There's a related trap: New York doesn't recognize a standalone tort of bad faith in ordinary commercial contracts. This is different from states like California. So you can't recast an implied covenant claim as fraud or a business tort just to get punitive damages. If you try, you'll run headlong into the pleading requirements of CPLR 3016(b) and likely lose the fraud count on a motion to dismiss.

Most litigants miss that pleading the implied covenant as an alternative theory — rather than a duplicative one — is often the difference between surviving early motion practice and getting bounced.

What damages can you recover for breach of the implied covenant?

You can recover the same categories of contract damages available for any breach of contract in New York — primarily expectation damages, which put you in the position you would have been in had the contract been performed in good faith. Punitive damages are almost never available.

Expectation damages typically mean the lost profits or lost value flowing from the bad-faith conduct. In the earn-out context, that might be the millions of dollars in earn-out payments you would have received if the acquirer had run the business reasonably. In the exclusive-dealing context, it's the margin you would have earned on the sales the other party sabotaged. New York requires that lost profits be proven with reasonable certainty, which usually means expert testimony from a forensic accountant or industry economist.

Consequential damages — harms that flow from the breach but aren't the direct value of performance — may also be recoverable if they were reasonably foreseeable at the time of contracting. For a deeper walk-through, see our guide on consequential damages in New York contract cases. Many sophisticated commercial contracts waive consequential damages, so read your written agreement carefully before you assume they're on the table.

You'll also want to think about prejudgment interest. New York's mandatory 9% prejudgment interest rate on contract damages, discussed at length in our prejudgment interest analysis, applies to implied covenant recoveries. On a $5 million judgment following a three-year litigation, that's over $1.3 million in additional recovery on top of your damages award. That number often drives settlement dynamics more than the merits.

What you generally cannot recover is punitive damages. Under New York law, punitive damages in contract cases require conduct constituting a “ public wrong” — a very high bar rarely met in ordinary commercial disputes. Attorney's fees are also unavailable unless the contract has a fee-shifting clause, a topic covered in our guide to recovering attorney's fees in New York breach of contract cases.

How can NYC businesses protect themselves against implied covenant claims — and use them offensively?

NYC businesses protect themselves by drafting contracts that reduce discretionary language, define standards for approvals and terminations, and specify the metrics that govern performance-based provisions. On offense, you protect yourself by documenting how the other side is exercising discretion — because implied covenant claims live or die on the evidentiary record you build in real time.

On the drafting side, be careful with words like “ sole discretion,” “ reasonable satisfaction,” “in good faith,” and “ commercially reasonable efforts.” Each carries different legal meaning under New York law. “ Sole discretion” is powerful but still subject to the implied covenant's floor against arbitrary or irrational conduct. “ Commercially reasonable efforts” is a substantially higher standard and creates real litigation exposure if the metrics aren't defined. If you're drafting an earn-out, spell out exactly how the business will be operated during the earn-out period — hiring commitments, marketing spend, allocation of shared resources.

The Commercial Division of the New York Supreme Court handles the vast majority of $1M+ contract disputes involving these issues. Judges there see implied covenant claims constantly and know how to distinguish a legitimate gap-filler from a repackaged breach of contract. That expertise cuts both ways. A weak implied covenant claim gets dismissed faster in the Commercial Division than it might in an outer-borough general docket. A strong one gets treated with the seriousness it deserves.

On the enforcement side, business owners should also consider how discretionary decisions get documented. If you're the party with discretion, write down your reasons at the time you make the call — not eighteen months later during a deposition. Contemporaneous records showing legitimate business reasons for a rejection or termination are the single best defense to an implied covenant claim. If you're the party affected by the discretion, request written explanations in real time and preserve every email showing the pattern of adverse decisions.

For businesses signing contracts with non-New York counterparties, watch the choice of law provision carefully. Delaware, for example, applies a narrower implied covenant than New York in some contexts. That difference can matter enormously in an earn-out or joint venture dispute.

When the covenant intersects with other doctrines — like anticipatory repudiation or material breach analysis — the strategic choices multiply. Do you keep performing and sue for damages? Do you terminate and risk being called the breaching party? These are judgment calls that turn on the facts and the paper trail.

Frequently Asked Questions

Can a New York contract waive the implied covenant of good faith and fair dealing?

No. The New York Court of Appeals has held that the implied covenant cannot be disclaimed by contract because it's fundamental to the enforceability of the agreement itself. You can, however, narrow its scope by writing express terms that clearly define discretionary authority and performance standards, which reduces the space where the covenant operates.

Does the implied covenant apply to at-will employment contracts in New York?

Generally no, at least not in a way that creates a cause of action against wrongful termination. Murphy v. American Home Products Corp., 58 N.Y.2d 293 (1983) held that New York does not recognize an implied covenant claim to circumvent the at-will employment doctrine. The covenant may still apply to specific contractual promises within an employment agreement — such as bonus, commission, or equity provisions — but not to the termination decision itself.

How is breach of the implied covenant different from fraudulent inducement?

Breach of the implied covenant addresses bad-faith conduct during contract performance, while fraudulent inducement addresses lies told to get you to sign the contract in the first place. The remedies differ too: fraudulent inducement can allow rescission and punitive damages, while implied covenant is limited to contract remedies. In practice, the two claims often appear together when a party induces a deal with false promises and then performs the contract in bad faith.

Can I recover attorney's fees for a breach of the implied covenant in New York?

Only if your contract has a fee-shifting clause that would apply to the breach. New York follows the American Rule, so absent a statute or contract provision, each side pays its own legal fees. Because the implied covenant is a contract-based claim, any contractual fee-shifting language typically covers it.

The Bottom Line

The implied covenant of good faith and fair dealing is one of the most powerful and misunderstood tools in New York commercial litigation. Used correctly, it lets you challenge conduct that technically follows the contract's words while destroying its purpose. Used carelessly, it gets dismissed as duplicative before you reach discovery.

Written by Reza Yassi | LinkedIn

If you or your business is dealing with a commercial counterparty exploiting discretionary rights, sandbagging an earn-out, or otherwise sabotaging the deal you signed, the team at Yassi Law P.C. is ready to help. Call us today at 646-992-2138 for a consultation.

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