Contracts govern nearly every aspect of day-to-day life in ways one may not even realize. From accepting the Terms and Conditions of an app on our smartphones to haggling over prices at a neighborhood yard sale, contracts are a fundamental part of modern life.
Strictly speaking, a contract is an enforceable agreement where willing parties with capacity agree to specific terms in exchange for something. It contains a promise to do or give something in return for a valuable benefit, known as consideration.
This post will describe the elements of an enforceable contract and then look at why a written contract is better than a verbal agreement.
What Makes a Contract a Contract?
The below elements make an agreement an enforceable contract.
An agreement between two or more people or entities
The first rule of any contract is relatively straightforward: It requires an agreement between two or more people, entities (such as private businesses, government units, non-profits), or legally recognized organizations. The law requires a person be at least 18 years old and mentally competent to enter into a contract.
Perhaps the most critical element that determines whether an agreement is an enforceable contract is whether or not consideration exists. Consideration means that each party must exchange something of value. Without consideration, the exchange amounts to a gift between the parties, not a contract.
For example, imagine Frank promises his next-door neighbor Nancy that he will give her his riding lawn mower when he moves. If he gives it to someone else, Nancy has no contract (and therefore no legal recourse) because she did not give anything in exchange for the promise of getting the mower. But if Nancy offered Frank $50 for the obligation to sell her the mower, and Frank accepted the money but gave the mower to someone else, Nancy could take action against Frank for breaking their contract — even if it was not in writing.
Consideration is not limited to money. In large business transactions, consideration can include stock, other securities, real estate, inventory, or even debt.
Additionally, consideration can occur in the past, present, or future and still be valid. But for consideration to be valid, it has to have real value. If Nancy had offered Frank a penny for the promise to sell her the riding mower, it likely wouldn’t rise to the level of actual consideration.
Whether consideration is valid can be subjective and is usually determined on a case-by-case basis according to the contents of the alleged contract.
Meeting of the minds
The next element of a contract is an agreement to do something or, in some cases, not to do something (such as a non-disclosure agreement). This agreement takes the form of an offer and an acceptance, also sometimes referred to as the meeting of the minds. One party makes the offer, and the other accepts that offer in some way.
In some instances, accepting an offer is unilateral, which means there is a promise to pay in the future upon the performance of a specific task. Insurance policies are generally unilateral contracts. The insurer makes a legally enforceable promise to pay claims if covered events occur. If the events never happen, the insurer will not need to pay. On the other hand, the insured party needs only to satisfy certain conditions—such as paying premiums—to maintain the policy.
Other times, an offer is bilateral, meaning it is a promise for a promise. Sales contracts are often bilateral contracts. The customer orders an item and agrees to pay when it arrives.
Certainty and completeness
A valid contract also requires certainty and completeness when it comes to the terms upon which the parties agree. To constitute a valid contract, the parties must express themselves in such a way that their intended meaning can be determined with a reasonable degree of certainty. Generally, courts will examine potentially ambiguous or uncertain language using the reasonable person standard, which requires asking how a reasonable person would interpret the language.
In some instances, where there is an external reference that can be used to clarify the language in question, the courts will still deem a contract valid. For example, imagine someone agreed to buy “truckloads” of widgets. The courts would probably rule that the contract is void because the parties cannot agree on how many widgets constitute a “truckload” of widgets. But if one party can produce evidence that truckload is a common term in the widget industry (say, one that means 10,000 widgets), the court would likely rule that the language is certain and complete enough to be legally enforceable.
Free consent and lawful purpose
A few more requirements must be in place for a contract to be valid. First, all contracts must be made under the free consent of the parties, meaning that any agreement made under duress or through coercion may be invalid. Additionally, all binding contracts must be for a lawful purpose. This means parties may not enter into an agreement to do something illegal.
Verbal Versus Written Contracts
One of the most common areas of confusion about contracts involves the distinctions between written versus verbal contracts. Let’s take a look at some of the most commonly asked questions when it comes to valid and enforceable contracts.
Is a Verbal Agreement a Legal Contract?
With some specific exceptions (which are listed below), a verbal agreement can constitute a binding legal contract. However, all of the conditions previously described — offer, acceptance, consideration, two or more competent parties, and lawful purpose — must be met.
If any of those elements do not exist, the agreement fails to rise to the level of a legally enforceable contract. So is a verbal agreement a contract? The most accurate answer is maybe.
When Is a Written Contract Necessary?
Certain types of contracts require an agreement to be in writing for it to be legally binding and enforceable. The law that mandates these transactions be put in writing, known as the Statute of Frauds, a legal concept dating back to an Act of the English Parliament in 1677. States have since codified the Statute of Frauds into modern statutory language, with six main types of agreements falling within its requirements.
Contracts that involve the sale or transfer of real estate or land
Anyone who has ever bought or sold a house or piece of land knows the transaction is not final until the deed is signed. There may be other contracts involved as part of the process, such as Sales Agreements, but the deed itself lays out all the elements of the contract and is the single most important document of any real estate transaction.
Contracts involving the sale of goods that are more than $500
Obviously, this requirement was not part of the original 1677 Statute of Frauds, because the U.S. dollar (and the U.S. itself) was still over a century away from existence. Modern law codifies these kinds of transactions under the Uniform Commercial Code. Common examples of this provision include the paperwork relating to purchasing a car or a receipt from a store in exchange for buying a big-screen TV.
Contracts for when an estate executor agrees to pay off debts from their personal funds
This kind of contract might exist when the executor of an estate needs to make payments to protect the estate property (usually a mortgage payment to keep the house from going into foreclosure) so it may then be sold and distributed to the heirs. To prevent fraud, modern estate administration statutes also require written records of financial transactions by an executor in almost all instances.
Contracts that can not be completed within a year of signing the contract
This kind of agreement can be a tricky concept. Although the Statute of Frauds applies to business contracts that can not be completed or performed within a single year, performance does not need to happen within one year of signing the specific contract. For the Statute of Frauds to apply, the terms of the contract must make performance impossible within a single year.
For example, if Bunny’s Tavern hires Darlene’s band to play every Saturday night for the next two years, the contract must be in writing to be valid, because it is not possible to complete a two-year commitment in one year.
Additionally, if the contract is for an act that would reasonably be completed in less than one year and ends up taking longer, the one-year rule will not apply. Using the same example, if Bunny’s Tavern hires Darlene’s construction company to remodel the bathrooms, which could reasonably be performed within one year, and it takes longer, then the Statute of Frauds will not apply.
Contracts that involve one party taking on the debt of another party
These agreements are also known as contracts of suretyship, or a promise made by a third party to a creditor to take on someone else’s debt. It is important to note that the Statute of Frauds only applies to promises made to the creditor. If a third party makes a promise to a debtor to pay off the debt, it need not be in writing to be legally enforceable (as long as the other elements of a valid contract are present).
Contracts that promise an exchange of consideration as part of a marriage or divorce
Finally, contracts relating to marriage, such as prenuptial or postnuptial agreements, must be in writing to be legally enforceable. The Statute of Frauds does not apply to actual contracts to marry, but for contracts where there is valuable consideration given to enter into or end a marriage.
Does a verbal agreement override a written contract?
The short and simple answer to this question is no. For that reason and several others outlined below, a written contract will almost always be easier to enforce than a verbal agreement.
Why a Written Contract is Better Than a Verbal Agreement
A written contract lays out the terms of the agreement — drastically limiting one party’s ability to claim anything otherwise after the fact. Contract law recognizes the superiority of written versus verbal agreements through a provision known as the “Four Corners Doctrine.” The rule states that if there is any dispute between the written contract and any supposed verbal terms made by the parties, the words written within the four corners of the page of the written document shall govern the agreement. Otherwise, courts would be filled with parties trying to retroactively negotiate contracts outside of the written document they originally signed.
Additionally, written contracts protect all parties involved from any potential misunderstandings that could occur as part of the negotiation process. If a party signs a written contract without reading it first, they are still bound to honor the terms as long as the agreement meets all of the legal components of a valid contract. (For this reason, it’s helpful to have an attorney trained in contract law review a contract to make sure the document reflects the actual terms the parties intended during negotiations.)
Written contracts play a vital role in protecting business relationships. If one party to a contract fails to perform as agreed, the other party may have legal remedies at their disposal to compensate them for their losses associated with that failure. Some contracts include detailed remedies such as specific performance, which means a court order for the parties to complete the transaction as agreed upon.
For example, specific performance could include compelling one party to turn over documents and inventory as part of a corporate buyout. Even without specific enforcement, contracts can define the guidelines for enforcement. These guidelines may include arbitration clauses to avoid costly litigation or language agreeing on a specific jurisdiction in the event the parties end up in court.
Finally, written contracts are far easier to enforce in court. A court can determine the legitimacy of a written contract much more easily than a verbal agreement, which dramatically limits the effort and cost needed to establish that a valid contract existed between the parties. Instead, an aggrieved party can focus on the facts of how the other party failed to perform their end of the deal rather than arguing about which party fulfilled their part of the bargain and which did not.
There are contractual relationships of all kinds, ranging from simple to very complex. These contracts are governed by rules dating back nearly 350 years that are in some form still being interpreted by courts today.
A failure to understand the fundamental principles of contract law can have long-lasting consequences, which is why it’s so important to know that written contracts tend to provide many more safeguards than verbal agreements. Additionally, the complexities of contract laws make professional guidance a necessity before entering into any meaningful contractual relationship.
See why adding a Contract Review Software to your team’s tech stack could be the answer you’re looking for
Posted in Kira