Elements of a contract

A contract is a legally binding agreement between two or more parties (a person or an entity), but there are a number of conditions that an agreement needs to satisfy before becoming a contract.

Offer and acceptance

In a consumer environment, an offer is an expression of intent to purchase. We interpret particular behaviour as an offer, for example, bringing an item to the cashier or a diner ordering something from a menu. The offer can be accepted or rejected.

An acceptance is an expression of intent to fulfil the agreement by the other party, such as taking the money for the purchase. If the other party rejects the offer, then no agreement has taken place. In a commercial environment, the consumer makes the offer. The business can choose to accept or reject the offer. Price tags, for example, are suggestions of an offer that consumers should make. If a customer wants to buy an incorrectly priced item, the business still has the opportunity to reject the offer.

Consideration

Consideration is the sacrifice that each party exchanges in order to secure what they want, thus the agreement must benefit each party. Most commercial transactions will involve the exchange of money for a product or service. If you have paid for a service and the business does not carry out the task as agreed, then they have not upheld their consideration and are therefore in breach of the contract.

Intent to be bound

All parties must understand and anticipate that the agreement is to become legally binding. This is especially true of business situations, such as when offer and acceptance has taken place but one party reneges on their side of the agreement. If a manufacturer has agreed to send a shipment of goods to a retailer and both parties understand that the agreement is legally binding, then if the retailer decides not to receive the goods, the retailer is in breach of contract.

Legal capacity

All parties involved must have the capacity to enter the contract. People who do not have legal capacity include minors (generally, people under the age of 18), the mentally ill, persons affected by drugs or alcohol and people who have been declared bankrupt. These restrictions prevent one party from taking advantage of another, although there are also laws in place to prevent people from falsely claiming that they did not have legal capacity.

Willing consent

All parties involved must willingly enter the contract. This rule ensures that a party cannot place undue pressure on another to enter into a contract, which helps balance the power of each of the parties. An agreement is not legally binding if made when one party threatens to harm the other if they do not enter into a contract.

Legality of offer and acceptance

An agreement is legally binding if all the components of the agreement are legal. If you entered into an agreement where you were required to smuggle illegal drugs into another country in exchange for money, you would not be legally obligated to fulfil your side of the agreement if you changed your mind.

Verbal and written contracts

Verbal contracts are spoken agreements and usually occur when there is not much at stake. An example of a common verbal contract is ordering, eating and paying for a meal at a restaurant. You and the restaurant have both fulfilled your side of the contract - you paid for a meal that the restaurant provided. If you ate at the restaurant and did not pay for your meal, you would be in breach of the contract.

Written contracts usually involve components that are more complicated. Although there are some situations where a written contract is compulsory, there may be other situations where we would recommend a written contract, such as a situation involving a large amount of money, or if the terms of the contract are highly specific. A commission for an artwork is one such contract that would require a detailed brief (outline of the artwork to be created) and the proposed payment for the work.

The law requires written contracts for a number of agreements, in particular those involving money lending, including consumer credit and mortgages, real estate, insurance and employment. For real estate in NSW, for example, section 23C of the Conveyancing Act,1919 (NSW) specifies that interests in land must be evidenced in writing.

Ending a contract

There are a number of ways in which a contract terminates or discharges. If all parties fulfil their obligations to the contract then the contract is discharged by performance. If all parties agree to end the contract, then this is termination by agreement. Contracts may also end when the obligations become impossible to fulfil, such as by frustration if the legal status of a component changes (e.g. one party becomes mentally ill, or the legality of the offer or acceptance changes), or by the death of one party.

A party is entitled to terminate a contract if another party is found to be in breach of their obligations. In this case, the wronged party may seek compensation.