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An enforceable contract between two parties contains both rights and obligations. A knowledge of the fundamental elements of a contract, which is basically a legally binding promise, is therefore of some importance.
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Two kinds of contract exist – a contract under seal and a simple contract.
A contract under seal is valid without consideration. Its validity is derived from the fact of the agreement. It must be in writing and when executed is expressed as being signed, sealed and delivered. A contract under seal is required in the case of a contract in which there is no consideration (a gratuitous promise).
A simple contract depends for its validity upon the existence of consideration. Simple contracts may be in writing or may be oral. A popular misconception exists that contracts must be written in order to be enforceable. Oral or 'parol' contracts are legally binding and enforceable. Of course, problems of proof may arise unless witnesses exist. It is best practice that contractual documentation is in writing, defines the obligations of each party (including for example, the scope of services) and is signed and dated by the parties. When a dispute arises between the parties, defending a claim without documents is undesirable and may expose the parties to unintended risks.
Legislation requires that certain contracts, such as those for the sale or other disposition of land, be evidenced in writing before they are enforceable in legal proceedings.
Formation of a contract
The basic elements necessary for the existence of a contract are:
An offer
This may be made by words or conduct. It is a communication of a willingness to enter into a legally binding contract once the offer is accepted. An offer must be distinguished from an invitation to treat, which is simply an invitation to make an offer. The most common example of an invitation to treat is where a retailer displays goods in a shop window. The consumer is thus invited to make an offer for the purchase of those goods. Any such offer by a potential purchaser may be accepted or rejected by the retailer.
Acceptance of that offer
Assent to the terms of the offer may be communicated by words or conduct. The terms of the offer and the terms of the acceptance must correspond. That is, the acceptance must not be conditional upon a variation or addition of the original terms. This is in fact a counter-offer. Acceptance should be communicated within the time specified or, if no time limits exist, within a reasonable time. A waiver of the need to communicate acceptance may be agreed between the parties but problems can arise. Silence may constitute acceptance in some situations, such as when parties have had previous dealings.
Consideration
Consideration means moving from the offeree (the person to whom an offer is made) to the offeror (the person who makes an offer). Consideration may be defined as the act or promise of one party to a contract by which his or her rights under the contract are acquired. It may be in the present or the future but cannot be in the past. It must be able to be performed and it must be something more than what a party is already obliged to do. Consideration may be negative; for example, it may consist of a party agreeing not to sue. It must be valuable consideration, but need not be adequate. That is, it must be regarded by the legal system as possessing some value. It need not, however, be sufficient; the consideration need not be equal in value to the subject matter of the contract.
An intention to create legal relations
This means the agreement was made in contemplation of legal consequences, an intention to enter a binding promise.
Legal capacity
Certain groups of people are incapable of binding themselves by a contract. For example, infants, insane people and people who have declared bankruptcy all have limited capacity to enter into a contract. Similarly a contract entered into by a person under the influence of liquor is of limited effect. An unincorporated association has no 'legal personality' or no legal identity of its own (as does an incorporated Pty Ltd company). Therefore, it cannot enter a contract, sue or be sued in its own name, but contracts purportedly entered into with such associations may be valid.
Genuine consent
Prior to becoming bound by a contract a person must have agreed to its terms willingly. Genuineness of consent can be affected by the following: mistake, fraud, innocent misrepresentation, duress and undue influence. Various remedies are available to the ‘injured’ party if any of the aforementioned occur. The contract may be voidable at the option of the person suffering the wrong; they may elect to continue the contract or they may decide to withdraw from the contract. Damages may be awarded.
Legality of objects
In order to be legally enforceable, the objective of the contract must not be illegal. For example, it must not be an agreement to commit a crime, to hinder the administration of justice or be contrary to good morals.
Revocation of an offer and acceptance
An offer may be revoked at any time before it is accepted. Once accepted it becomes irrevocable. Until an offer is accepted, it creates no legal obligations and it may be revoked at any time. If an offeree rejects the offer, it is revoked. It may lapse for want of acceptance or if the offeror dies. An exception to the rule that offers may be revoked at any time applies to an offer under seal. It would appear that this type of offer is irrevocable because it is 'a thing done beyond recall' (Beesly v Hallwood Estates Ltd (1961) Ch. 105).
There is a general rule that an acceptance is not complete until it has been communicated to the offeror. An acceptance can thus be revoked before this occurs. An exception to this rule applies to postal acceptances, which are complete as soon as the letter of acceptance is posted, hence a telephone call, telegram or facsimile revoking a postal acceptance would be inoperative.
Terms of the contract
A contract may be composed of either express or implied terms. An express term is a major or vital component of the contract. If the parties consciously regard it as vital to the existence of the contract it is called a 'condition'. If one party breaches a condition, the other party is entitled to regard himself as discharged from further obligations under the contract.
If that term is not regarded as essential, but a subsidiary or collateral term, it is a 'warranty'. Breach of a warranty does not give the innocent party the right to discharge the contract, it gives rise to an action for damages. Contractual warranties and indemnities may be excluded from insurance cover, if the party by agreeing to these terms increases their legal liability. 'Assumed liability' exclusions are commonly found in professional indemnity policies.
Express conditions may also be contingent, providing that the contract will not take effect until or unless a certain condition is fulfilled. A 'condition subsequent' occurs when the parties agree that a contract is to be immediately binding, but if an event does not occur at a subsequent date, the contract ceases to bind, and may be cancelled at the option of one of the parties. Alternatively, a contract may be subject to a 'condition precedent', that is, the particular condition of the contract is regarded as a vital component of the contract and its fulfilment by one of the parties is a condition precedent to the liability of the other party.
Implied promise to pay
A contract may be implied from the conduct of the parties alone, such conduct indicating intention. The inference is drawn from the circumstances of the particular act. For example, if a person hires a taxi, there is an implied promise that he or she will pay the fare when the required destination is reached, even if the passenger makes no mention of an intention to do so. If a consumer puts a coin into an automatic food machine, there is an implied promise on the part of the supplier that the food will be supplied.
The test of whether an agreement can be inferred is objective: can it be reasonably construed from a person's conduct that an agreement was intended? The important test is how the conduct appeared to a reasonable bystander, not the intention in the mind of the person concerned.
Rules of construction
Various common law rules are applied if the meaning of a provision in a contract is unclear. The intention of the parties should be ascertained from the document, not from extraneous sources. Words in a contract are to be given their plain and literal meaning. If a word has two meanings, the preference should lie with the interpretation that would favour making the contract valid.
Exemption clauses
At common law a person who signs a document containing contractual terms is bound by those terms even if he or she has not read them or does not comprehend their precise legal meaning. (Note that section 18 of the Australian Consumer Law seems to have modified this position. It appears that under the Australian Consumer Law a person must understand what he or she is signing. It is not a defence to claim that the applicant should have read or understood the document.) In order to be bound by an exemption clause it is necessary that it be brought to the attention of the signatory before a document is signed or the contract entered into. Conditions cannot be imposed after a contract has commenced.
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