Contract law

Definition: Body of legislation and common law concerning agreements that create legal obligations of performance
Significance: Contracts are vital to and at the heart of business and business dealings. Millions of contracts are made and executed daily to facilitate the completion of work and the distribution of goods and services. Without enforceable contracts, the American enterprise system could not operate. So important is the right to contract that the U.S. Constitution protects it. Article I, section 10, of that document states that freedom to contract may not be abridged.
Contract law is based on the principle that people should be secure in the knowledge that promises will be legally enforced when made between persons in order to provide each with some sort of benefit. Contract law has pervaded nearly all aspects of society, and as technology grows and society changes, the essential principles of contract law are necessarily modified or adapted to reach a fair and equitable result.

Nature of Contracts

A contract is a promise or set of promises for the breach of which the law affords a remedy. That is, a contract is a promise or set of promises enforceable in a court of law. A contract should be distinguished from a moral obligation, which defines the code of conduct of an ethical person but falls short of constituting a binding promise. A handshake may constitute an agreement, but it does not rise to the level of a legally enforceable contract. Likewise, at common law, certain arrangements or understandings with regard to social obligations might be recognized as agreements but not contracts because the purpose of the understanding is of minor importance or constitutes undesirable social conduct. In contrast, a contract is normally made when two parties exchange binding promises in which each party declares that he or she will take or refrain fromtaking a specific action in the future. If the contractual promise is not performed, the contract has been breached, and money damages must be paid. The nonbreaching party is entitled to compensation. In situations in which money damages cannot make the victim of the breach “whole,” a court of equity may order actual performance of the contract (specific performance).

Nature and Classification

Contracts can be classified in terms of validity and enforceability. A valid contract is a binding and enforceable agreement meeting all the necessary contractual requirements. A void contract is one from which a necessary contractual element is absent. In that case, the contract has no legal effect. A voidable contract is one that can be voided because of the manner in which the contract was made (fraud, duress, undue influence). Contracts made by those who are underage may also be voidable at the option of the party lacking legal capacity.
Bilateral contracts consist of mutual promises to perform some future act. A unilateral contract exists when one party makes a promise in exchange for the other performing an act or refraining from doing something. The intention of the parties is the primary factor involved in determining the nature of the contract. That is ascertained not only from the words used but also from the surrounding circumstances, including the acts and conduct of the parties. Invitations for social events, when accepted, do not, however, give rise to a binding contract because they lack contractual intention. A promise to make a gift does not normally create a contract. An exception exists, for example, in the case where a philanthropist promises to donate a large sum of money for a project and in reliance on that promise, funds are committed. If the entity has justifiably relied on the promise to its detriment, the promisor/ philanthropist may be estopped from reneging on the promise to make a gift. This is the concept of promissory estoppel or detrimental reliance.
A written promise enforceable by law is called a formal contract.Afamiliar example of a formal contract is a contract under seal such as a check or a negotiable promissory note. Each has a required form and must contain certain elements. A type of formal contact called a “contract under seal” did not require the standard elements to prove its validity or enforceability. It was presumed that anyone (generally nobility) who pressed a signet ring into wax on a contractual document became bound to the obligation contained in the document. Merchants who wished to enter into contracts had to prove their intent to be bound in another manner, so the concept of “consideration” developed. An informal or simple contract, such as an employment contract, is not required to be in any particular form.

Analysis

An offer is a proposal to make a contract. It is a promise conditional on a return promise, act, or forbearance (refraining fromdoing an act or giving up a right). It is important to distinguish between an offer and the solicitation of an offer. The willingness to make or receive an offer is not in itself an offer, but merely an invitation to negotiate. An offer can be made to one specific person or to the general public, as in an advertisement. Publication of an item for sale at a specific price, however, does not constitute an offer, but merely an invitation to negotiate. Offers can be terminated by revocation, lapse of time, subsequent illegality, destruction of the subject matter, death or incapacity, rejection, or a counteroffer. In an option contract an offeror (person making the offer) agrees to hold the offer open for a specific time. The offer terminates on expiration of that time.
An acceptance is the agreement by the offeree (person to whom the offer is made) to be bound by the terms of the offer. Consent must be communicated to the offeror. Silence or inaction on the part of the offeree does not generally constitute acceptance. The offeror generally has the power to stipulate the means and methods of acceptance and the acceptance must conform to those stipulations. At early common law, an acceptance had to be a “mirror image” of the offer, any changes in terms of the offer acted as a counteroffer. Under the Uniform Commercial Code, however, new or different terms added to contacts involving the sale of goods are treated as proposals that must be accepted separately.

Elements of an Enforceable Contract

For a contract to be enforceable under the law, certain elements must be present. These include the following:

• an agreement, or expression of the parties’ willingness to be bound to the terms of the contract;
  
• an offer, in which one of the parties submits a proposal;
  
• an acceptance, in which the other party agrees to the terms of the offer;
  
• consideration, constituting the bargained-for element (generally money, a reciprocal promise, or an act)

The consideration cannot involve something that is prohibited by law (agreements to commit crimes, agreements to slander or defraud another, or agreements dealing with patent or trademark infringement are invalid).
In addition, contracts must also be executed by competent individuals. That is, the parties to the contract must have the capacity to bind themselves contractually, unimpeded by minority or mental disability. Genuine assent by the parties is presumed unless one of the parties is induced to agree because of misrepresentation, fraud, duress, undue influence, joke, or mistake.

Every state has statutes called statutes of frauds requiring that certain contacts be in writing to be enforceable. These include an agreement by an executor or administrator to answer for the debt of a decedent; an agreement made in consideration of marriage; an agreement to answer for the debt of another; an agreement that cannot be performedin one year; an agreement for the sale of an interest in real property; and an agreement for the sale of goods above a certain dollar amount. Specific requirements vary by state.
If parties reduce their agreement to writing, they are presumed to have included their entire understanding. The writing is presumed to have integrated all prior agreements or terms. Under the parol (word-of-mouth) evidence rule, evidence of prior agreements or terms not contained in the writing is not admissible to prove anything within the contract.
Quasi-contract is a legal doctrine that allows courts to treat certain transactions as if a contract exists, even though one or more elements may be missing. Based on the equitable principle that one party should not be unjustly enriched at the expense of another or through violation of another’s rights, the law requires restitution of the property. Unjust enrichment is the doctrine holding that one person should not profit inequitably at another’s expense. If one party has received something of value at another’s expense, or benefited unjustly, the nonenriched party may seek the remedy of restitution or reimbursement. To prevent unjust enrichment of one party at the other’s expense, the party who provides services may recover in quantum meruit or the reasonable value of the services rendered if it can be shown that the services were rendered with the expectation of monetary reward. The proper measure of recovery in restitution cases is the amount by which the defendant was enriched, not the amount of the plaintiff’s loss.

Uniform Commercial Code (UCC)

Certain elements of contract law vary from state to state and according to the nature of the contract; that is, personal service agreements, contracts for securities, corporate financial transactions, and real estate dealings. Most contracts, however, involve the sale or purchase of goods (all movable personal property that consists of things other than money and securities). Those contracts are governed by the Uniform Commercial Code (UCC), a document dealing with the sale of goods, leases, banking, bills of lading, negotiable instruments, bulk transfers, warehousing, and mortgages, embodying the generally accepted statutes in all the states and adopted (at least in part) by all fifty states as part of their statutory law.
The Uniform Commercial Code imposes an obligation of good faith in every contract arising under it. In most cases of breach, the injured party is awarded monetary damages. The UCC, however, provides special rules for breaches of contracts involving the sale of goods. If a seller breaches his or her contract to deliver goods, the buyer is entitled to rescission or cancellation of the contract, suit for damages, and restitution for any payments already made. If the goods are unique, such as rare artwork, or custom-made, a court may order specific performance to compel or coerce performance of the contract. If a buyer breaches a sales contract by not accepting delivery of goods, or wrongfully revokes a prior acceptance, the injured seller is entitled to cancel the contract, stop delivery of goods, and recover monetary damages from the buyer.
Under the Uniform Commercial Code, contracts for the sale of goods often contain an implied promise that the goods are of a certain quality, called the implied warranty of merchantability and that they are suitable for the purpose for which they are bought, called the implied warranty of fitness for use. These implied warranties are not stated in the contract, but if applicable, a party may seek damages if the goods do not meet certain standards.
An unconscionable contract for the sale of goods under the Uniform Commercial Code (UCC) is a contract that courts may refuse to enforce or that courts may modify because one of the parties is in an unequal bargaining position or because the bargain is so one-sided in its benefit to one party as to shock the court’s conscience. An example of this situation is the so-called adhesion contract in which the consumer has little if any bargaining power against big business. The once familiar and harsh concept of caveat emptor, or let the buyer beware, has been softened and continues to erode. That concept is being replaced by the concept of caveat venditor, or let the seller beware.
In addition to the Uniform Commercial Code, other statutes that have as their purpose the protection of the consumer and therefore affect the conduct of business include the Consumer Product Safety Act of 1972 (which created the Consumer Product Safety Commission to review consumer products and their use) the Truthin- Packaging Act of 1966 (to regulate and establish standards regarding contents of information shown on packages and encourage the development of standards for package sizes), the Federal Trade Commission Act of 1914 (creating the Federal Trade Commission to regulate deceptive trade practices), the Securities Act of 1933, and labor relations acts such as the National Labor Relations Act of 1935 (also called the Wagner Act) and the Taft- Hartley Act of 1947.

Third-Party Contracts

Sometimes parties who enter into contracts transfer their rights or obligations under the contract. This is known as assignment. Because parties to a contract often prefer not to deal with assignees, it is not unusual for a contract to prohibit or restrict assignment. Sometimes a party to a contract transfers his or her obligations under a contract to another. This is known as delegation of duties. The law generally permits delegation except in cases in which the transfer of personal service contracts would change the basic agreement between the parties. For example, if a particular person such as an artist is hired to paint a portrait, the artist cannot delegate the obligation to another painter. Also, even if obligations or duties are delegated, the original party remains liable under the original contract unless specifically released from liability by the other party.

Further Reading
Altschuler, Bruce E., and Celia A. Sgroi. Understanding Law in a Changing Society. 2d ed. Upper Saddle River, N.J.: Prentice Hall, 1996.Written for those who wish to gain basic knowledge of legal concepts, illustrated with case excerpts, and containing a chapter on contract law.
Carper, Donald L., Norbert J. Mietus, T. E. Shoemaker, and BillW.West. Understanding the Law. 2d ed. St. Paul, Minn.:West, 1995. Contains basic legal principles and short illustrations from case law containing a chapter on contract law.
Hames, Joanne Banker, and Yvonne Ekern. Introduction to Law. Upper Saddle River, N.J.: Prentice Hall, 1998. Aimed at paralegals and containing legal principles, case excerpts, and a chapter on contract law.
Rohwer, Claude D., and Anthony M. Skrocki. Contracts in a Nutshell. 5th ed. St. Paul, Minn.: West Group, 2000. An excellent and succinct explanation of the law, written for those with some basic knowledge in the field.
Schubert, Frank A. Introduction to Law and the Legal System. 8th ed. Boston: Houghton Mifflin, 2003. An introductory text for the study of law with broad scope, good explanations, and case illustrations; contains a chapter on contract law.
See also: bankruptcy law; commodity markets; U.S. Congress; Derivatives and hedge fund industry; Indentured labor; Supreme Court and contract law.