An introduction to Contracts

Let’s say there are two people – Mr A & Mrs B. Mr A agrees with Mrs B that Mr A will deliver to Mrs B, five sacks of rice on a set date. They write this on a piece of paper, and both Mr A & Mrs B sign the document. Is this a binding contract? That is - if Mr A does not deliver five sacks of rice to Mrs B on the date it was to be delivered, will Mrs B be able to take him to court for not delivering what he promised to deliver?

If your answer is yes, read on - you might have a thing or two to learn from this article. In this example, while there may have been an agreement between Mr A and Mrs B, they fell short of forming a binding contract.

In your life, you sign many documents, some of which are called agreements, some contracts and some even deeds. However, you may not understand what implications signing that document may bring on you, or if it is even valid, i.e., is it a contract?

Difference between agreements and binding contracts

To put it simply, agreements are an understanding between parties, which may or may not be written and may or may not be binding. On the other hand, contracts are agreements, which are binding and binding in the court of law. This is because contracts are agreements that meet all requirements of the law to be binding. If you sign a document called an agreement, but it meets all requirements to be binding, it will be a contract under law. So, what are the elements of binding contracts?

Elements of binding contracts

All binding contracts have three main elements. These are:

1. Offer – For example, Mr A offers to deliver five sacks of rice to Mrs B on a set date

2. Acceptance – Mrs B Accepts to take delivery of five sacks of rice from Mr A on that date

In the example at the starting of this article, both offer and acceptance were present. But there is one more element vital for an agreement to be complete and become legally binding.

3. Consideration – Consideration is the price Mr A is willing to accept for delivering to Mrs B five sacks of rice. It could be money or anything else like a product or service to which Mr A attaches some value. For example, Mrs B may be willing to store an additional ten sacks of rice for some time for Mr A in her warehouse without any charge to Mr A.

Offer, acceptance and consideration are the essential elements of a binding contract, but they also have to meet legal requirements for them to be valid.

How should an offer be made?

For an offer to be valid in law, it should meet the necessary criteria, the central tenets of which are:

1. An intention to be bound: The Offer must be made with the intention of being bound. If the offer states that it is indicative or subject to contract, accepting such an offer will not create any legal rights. This is why some documents like Heads of Terms, Letters of Intent and Term Sheets are not binding.

2. Capacity: The person who is making the offer must have the capacity to make the offer. Someone who is 14 years old, does not have the legal capacity to make a valid offer, because they would be underage, and any acceptance will not make a valid contract. Within contract law, a person who is a minor, or has a mental disability, intoxicated or in some instances, insolvent is not competent to enter into a contract.

3. Authority: If someone offers to sell to you a car owned by Mr X and they do not have the authority to sell his car, your acceptance of that offer will not make it a binding contract. In the case of companies, a person who is not authorized by a company to bind the company may not be able to enter into a binding contract.

4. Legality: If you know (or even if you don’t know) that something you are promising to do or something you are expecting another person to do is against the law, the offer does not stand. For example, you offer to pay Mr X £5000 for his services to help you evade tax.

How should the offer be accepted?

An acceptance generally works on the same principles as the offer, i.e., intention to be bound, capacity and legality. For an offer to be accepted, a formal acceptance is not always necessary. You should be careful while dealing with offers lest you make a binding contract which you do not intend to create. You can accept the offer in the following ways:

1. Formal acceptance in writing or orally by words

2. Acceptance of the offer by conduct, i.e., if you act in a manner that suggests that you have accepted the offer, even if you haven’t formally accepted it.

3. Even silence can be treated as acceptance (for example it is customary in a certain kind of business to treat it as an acceptance). However, the general rule is that silence is not acceptance.

Once an offer is accepted, you cannot take it back because it becomes a contract and is legally binding.

What is valid consideration?

Consideration is a vital element of any contract, and no contract is complete without consideration, so how do you know that the consideration is valid?

1. Consideration is something to which both parties have attached a value, especially the party who receives the consideration.

2. One loses and one gains, for example paying £100 for a pair of shoes. You lose £100 and gain the shoes - and the person who sells you the shoes gains £100.

3. Consideration should be sufficient in the eyes of a reasonable man. If consideration is not sufficient, a contract may become voidable on the grounds of duress or undue influence. i.e., using power and authority to make someone enter into an agreement on extremely unfavourable terms to the person.

4. The value must shift at the time of the contract or a future date. Any action of the past cannot be a valid consideration, except in minimal circumstances. For e.g., if you helped your friend to paint his house without asking for money, you cannot later ask him to pay you money for helping him paint to the house.

Make sure to keep these tips in mind before entering into an agreement next time. Generally, if these requirements are met, your agreement will be a binding contract.