Good faith in contract law is an implied legal duty requiring you to perform and enforce your contract honestly and with fair dealing toward the other side. Courts read this duty into virtually every contract, whether the parties wrote it in or not. Under the Uniform Commercial Code, it means honesty in fact plus observance of reasonable commercial standards of fair dealing.1H2O. UCC 1-201 and 1-304 – Duty of Good Faith In plain terms, you cannot follow a contract’s wording while quietly undermining what both sides came to the table for.
What the Duty Requires
Two sources define the obligation. UCC Section 1-304 states that every contract or duty within the Code imposes an obligation of good faith in its performance and enforcement.2Legal Information Institute. Uniform Commercial Code 1-304 – Obligation of Good Faith The Code’s definition has two prongs. The first is subjective: you actually mean what you say and do. The second is objective: your conduct meets the commercial standards a fair person in your industry would follow.1H2O. UCC 1-201 and 1-304 – Duty of Good Faith
The second source is the Restatement (Second) of Contracts. Section 205 provides that every contract imposes upon each party a duty of good faith and fair dealing in its performance and enforcement.3OpenCasebook. R2K 205 – Duty of Good Faith and Fair Dealing The Restatement is not itself law, but courts across the country rely on it as persuasive authority. Its commentary explains that good faith emphasizes faithfulness to an agreed common purpose and consistency with the justified expectations of the other party. It also catalogs recognized types of bad faith: evasion of the spirit of the bargain, slacking off on performance, willfully doing a poor job, and abusing a power to set contract terms.4OpenCasebook. Restatement (Second) of Contracts 205 – Duty of Good Faith and Fair Dealing
When the Duty Applies and When It Does Not
The duty attaches to contract performance and enforcement. It starts once you have a binding agreement and one or both sides begin carrying out their obligations. Courts apply it most often in three settings: long-term contracts where circumstances shift over time, agreements that give one side discretion over key decisions like setting a price or evaluating the other’s work, and contracts with gaps the parties did not anticipate.
Two boundaries matter. First, the duty generally does not apply to contract negotiations. You can drive a hard bargain, hold out on price, or walk away from talks without violating any good-faith obligation. The duty only begins once there is a contract to perform.
Second, the implied covenant cannot rewrite your deal. It works in support of the contract’s existing terms, not as a tool to add new obligations or override express provisions. If the contract clearly grants one party the right to terminate on 30 days’ notice, the other side generally cannot argue that using that right violates good faith. The covenant fills gaps; it does not override what the parties explicitly agreed to.
What a Violation Looks Like
A breach of the implied covenant occurs when one party’s conduct destroys or seriously impairs the other party’s right to receive the benefits of the contract. Courts have found bad faith in a range of behaviors:
- Abusing discretionary power. Using a contractual right to approve, evaluate, or set terms in a way designed to harm the other party rather than serve the contract’s purpose.
- Deliberate foot-dragging. Slowing down performance to pressure the other side into concessions or to run out the clock on a deadline.
- Rejecting performance for unstated reasons. Turning down compliant work or deliveries without explaining why, especially when the real motivation is unrelated to quality.
- Evading the spirit of the bargain. Following the contract’s letter while sabotaging its intent.
- Interfering with the other party’s performance. Taking actions that make it harder or impossible for your counterpart to meet their obligations, then blaming them for falling short.
The thread connecting these is conduct that technically stays within the contract’s four corners but defeats what both sides were trying to accomplish when they signed. Fair dealing also means not exploiting the other side’s vulnerabilities. If you discover your contract partner misunderstands a provision and the mistake will cost them heavily, good faith counsels transparency over silence. The duty is not about generosity. It is about not weaponizing the agreement against the person who signed it with you.
Where Good Faith Disputes Most Often Arise
Insurance Claims
Insurance is probably the most active area of good-faith litigation. Every insurance policy carries an implied covenant requiring the insurer to handle claims fairly and to weigh the policyholder’s interests alongside its own. When an insurer unreasonably denies a valid claim, drags out the investigation without justification, or lowballs a settlement to pressure acceptance, that conduct can rise to the level of “insurance bad faith.” A simple processing mistake is not bad faith; the denial or delay must be unreasonable and without proper cause. Many states allow broader remedies here than standard breach-of-contract damages, including compensation for emotional distress and punitive damages.
Employment Terminations
A minority of states recognize the implied covenant as an exception to at-will employment, meaning an employer cannot fire a worker purely out of malice or to avoid paying earned benefits. States that follow this approach generally require that termination decisions not be made in bad faith, such as firing a longtime employee the day before their pension vests. Most states, however, do not apply the good-faith covenant to at-will employment, so local law controls.
Commercial Contracts With Discretionary Clauses
Franchise agreements, output contracts, requirements contracts, and exclusive-dealing arrangements are frequent battlegrounds. These deals often give one party broad discretion over ordering quantities, setting standards, or evaluating compliance. Good faith constrains that discretion. A franchiser cannot impose impossible new requirements to force a franchisee out, and a buyer in a requirements contract cannot inflate orders far beyond legitimate needs to exploit a favorable price. The UCC specifically requires that quantities under output and requirements contracts not be unreasonably disproportionate to stated estimates or prior comparable output or requirements.
How a Breach Is Proven
Good-faith claims vary by jurisdiction, so there is no single nationwide checklist. The core inquiry in most courts comes down to four questions. Is there a valid, enforceable contract between the parties? Did you hold a reasonable expectation of receiving a specific benefit under it? Did the other party’s conduct interfere with or destroy that expected benefit? And was that interference unreasonable or in bad faith, rather than a legitimate exercise of contractual rights?
That last question is where many claims fall apart. If your contract partner exercised a right the agreement clearly gave them, and did so for a legitimate business reason, that is not a good-faith violation even if the outcome hurts you. The implied covenant prevents sandbagging, not hardball. Courts look at the totality of the circumstances: the contract’s purpose, the parties’ course of dealing, industry customs, and whether the accused party had a legitimate reason for its conduct. The more pretextual or retaliatory the behavior looks, the stronger the bad-faith case.
Remedies for a Good-Faith Breach
When a court finds a breach of the implied covenant, the baseline remedy is the same as any other breach of contract: monetary damages designed to put the injured party in the position they would have occupied if the duty had been honored. That means compensation for the benefits you lost because of the other side’s bad-faith conduct.
In some situations, the breaching party’s bad faith may excuse the other side’s performance obligations entirely. If one party’s actions made it impossible for the other to fulfill their end of the deal, a court can relieve the non-breaching party of those obligations.
The picture changes when tort damages come into play. Most states treat a good-faith breach as a contract claim only, which limits you to expectation damages and bars punitive damages. In certain contexts, particularly insurance disputes, a number of states allow tort-based claims that open the door to punitive damages, emotional distress compensation, and attorney’s fees. The availability of these broader remedies depends heavily on both state law and the type of contract involved.
Can the Duty Be Waived?
For contracts governed by the UCC, no. Section 1-302(b) explicitly states that the obligation of good faith may not be disclaimed by agreement. The parties can agree on reasonable standards for measuring whether good-faith obligations have been met, but they cannot eliminate the duty altogether.5Legal Information Institute. Uniform Commercial Code 1-302 – Variation by Agreement
Outside the UCC the picture is less uniform. Because the duty is implied rather than written in, some parties try to draft around it with detailed express provisions that leave little room for implied obligations. Courts in different states take different views on how far that strategy can go. You can narrow the covenant’s reach by spelling out exactly how discretion will be exercised and what standards govern performance, but attempting to disclaim the duty outright is risky, and a court may refuse to enforce the clause.