The Formation of a Contract
Every contract involves an exchange of promises. One party agrees to do or not do something in return for the agreement of the other party to do or not do something. When a contract is formed, these promises become legally enforceable obligations. The existence of a contract allows each party to enforce the obligations of the other party.
Not all exchanges of promises are enforceable. We make promises all the time — a promise to meet someone for dinner, or to take out the garbage — that do not create enforceable contracts. A legally enforceable contract must satisfy four requirements. There must be an agreement between the parties, there must be an exchange of consideration, the parties must have the legal capacity to enter into a contract, and the contract must have a legal purpose. If one of these requirements is missing, no contract is formed.
Agreement
The agreement required to form a contract is sometimes called the “meeting of the minds.” This means that the parties to the contract must agree on the same thing at the same time. To determine whether the parties have agreed about the same subject matter at the same time, the law divides agreement into offer and acceptance. Both must be present in order to satisfy the requirement of an agreement.
Offer
An offer is a promise of future behavior. An offer can be a promise to do something, as in an offer to pay someone to paint a house. An offer can also be a promise to
Only intentional offers satisfy the requirement of an agreement. The offer itself must indicate intent to be bound by its terms. A statement that appears to be an offer may not be intentional if it is obviously a joke, or made in anger or excitement. Unintentional offers are usually identified by a great disparity in the terms of the promise. For example, a person who is late for work because her car will not start might exclaim, “For two cents, I'd sell this piece of junk.” The offer is not intentional because of the clear disparity in value. Similarly, a friend who makes the admiring comment, “I'd pay a million bucks for a house like that,” does not intend to make an offer to buy the house. As a rule, an offer that sounds too good to be true will not satisfy the requirement that the offer be intentional.
To ensure that the parties agree about the same thing, the law requires an offer to be definite. This is also expressed as a requirement that the offer be reasonably certain. This requirement allows the court to determine the terms of the contract and to decide on the remedy for failure to live up to the terms of the contract. An offer to pay you $2,000 to paint a house is a definite offer — the court can tell whether the house is painted and whether the $2,000 was paid. On the other hand, an offer to pay some money if you paint the house is considered indefinite, since the court has no way to tell what amount of money the parties agreed on for the painting of the house. Indefinite offers cannot be the basis of an enforceable contract.
An offer must be communicated to the person entitled to accept the offer. An offer can be communicated in a variety of ways — orally, in writing, by e-mail, or in any other reasonable manner. An offer must be made to a specific person even if that person cannot be identified at the time the offer is made. For example, when I post an offer to pay a reward for a lost object, I promise to pay the reward to whoever returns the object.
ssential
An offer does not last forever. In legal terms, an offer can be terminated for a number of reasons. Acceptance terminates an offer by creating an enforceable contract. For example, an advertisement to sell a car for $1,500 to the first person to accept is terminated when the first person accepts. The second person may not accept the offer even if the terms are agreeable because the offer no longer exists.
An offer can be terminated by rejection of the offer. If the person who receives the offer is not willing to agree to the terms of the offer, the offer is rejected. A rejected offer cannot be revived by a later acceptance; to be considered further, the offer must be revived by the person who originally made the offer.
If the person receiving the offer responds in a way that changes the terms of the offer, the original offer is rejected and the new terms become a counteroffer. For example, if the offer is to sell a car for $1,500 in cash and the person accepting the offer writes a check, the proposed acceptance changes the terms of the offer. The original offer is rejected. Unless the new terms are accepted, no contract is formed.
An offer can be terminated by lapse of time. There is no requirement that an offer remain open indefinitely. Most offers are no longer available for acceptance after a reasonable amount of time has elapsed. What constitutes a reasonable amount of time varies with the nature of the offer. An offer to buy harvested fruit may expire after a few days. An offer to purchase a business may remain open for weeks or months.
Alert
The requirement of an exact match between the offer and the acceptance is known as the “mirror image rule.” This rule applies to all parts of the offer. For example, if someone offers to sell you her car for $5000 in cash, your offer of $4800 is not an acceptance because it violates the mirror image rule. It is also a violation of the mirror image rule for you to write a check in acceptance of the offer, because the offer specified cash.
Finally, an offer may be withdrawn. The person making the offer has absolute control over the offer and, in most cases, has the ability to withdraw the offer at any time. This is true even if the offer states that it will remain open for a specific amount of time. Since there is no acceptance that converts the promise to keep the offer open into a legally enforceable obligation, it can be withdrawn. An exception is an option contract, where the parties actually enter into a contract to keep an offer open for a specified time.
Acceptance
The person who receives the offer may create a legally enforceable contract by accepting the offer. The expression of acceptance must be unequivocal. It cannot change the terms of the offer in any way. To satisfy the meeting of the minds requirement, the acceptance must be the “mirror image” of the offer.
An acceptance that changes the terms of the offer is not an acceptance at all — it is a counteroffer. Because a counteroffer changes the terms of the original offer, it is really an offer to form a contract on the new terms.
Like an offer, the acceptance of the offer must be communicated to the person making the offer. Historically, many disputes over contract formation concerned the method and timeliness of acceptance of an offer. Communication of acceptance must be made in a reasonable manner and within a reasonable amount of time.
What is a reasonable manner of communicating acceptance depends on the offer. If the offer specifies a means of acceptance, the acceptance must be communicated in that fashion. Thus, if the offer requires that acceptance be made by singing telegram, the only means of acceptance is by singing telegram. On the other hand, if the offer does not specify, acceptance can be communicated by telegram, by facsimile, by e-mail, or by letter.
One problem created by the requirement of reasonable communication of acceptance is the issue of when acceptance is made. Obviously, acceptance is communicated when it is actually received, but what if the selected means of communication is not instantaneous? When communication by letter was much more common than it is today, the courts created the “mailbox rule”: acceptance of an offer was effective at the time of mailing, rather than at the time of actual receipt. This rule has not been extended to other forms of communication.
Consideration
The enforceability of the exchange of promises in a contract comes from the requirement of
Value is only one part of the consideration requirement. In order for consideration to support a legally enforceable contract, it must be bargained for. That is, the offer and acceptance must both be premised on the exchange of the consideration. An agreement to sell a car for $1,500 contemplates the exchange of money for specific property. If the seller also includes a pair of fuzzy dice not mentioned in the offer and acceptance, the exchange of the dice cannot be the consideration supporting the contract.
ssential
Many supposed contracts fail for lack of consideration. The law of contracts requires consideration from both parties to the contract. The consideration must have legal value, not just value to the parties. An agreement to stop smoking cigarettes has legal value because the activity is legal; an agreement to stop smoking marijuana has no legal value because the activity is prohibited.
Sufficiency and Adequacy of Consideration
The value of consideration is largely in the eye of the beholder.
Because the forms of consideration vary so widely, the courts distinguish between consideration that is legally sufficient and consideration that is simply inadequate. All consideration must be legally sufficient, but not all consideration must be adequate.
Legally sufficient consideration has two aspects. It must be
Sometimes legally sufficient consideration is both detrimental and beneficial. A promise to pay money for property is detrimental to the person who must pay and beneficial to the person who receives the money. Most commercial transactions have this characteristic.
The law permits the parties to a contract to make a bad bargain. Parties are not allowed to sue because they agreed to pay too much for something or because they did not realize the value of what they were selling. This rule is based on the assumption that the promises in a contract have the value the parties assign to them. As long as those promises are legally sufficient consideration, the courts are reluctant to second-guess the parties.
Past Consideration
All contractual promises are promises about the future. Since consideration is a necessary part of any promise, the consideration must also take place in the future. An agreement to care for your grandmother in return for her promise to give you her house involves promises of future behavior. When your grandmother promises to give you her house because you have cared for her in the past, however, only one of the promises is in the future. The care you provided your grandmother in the past is not legally sufficient consideration because there is no current detriment associated with past acts. Similarly, the performance of existing obligations cannot serve as consideration.
Capacity
The exchange of promises supporting a legally enforceable contract must take place between persons capable of making those promises. The capacity of the parties to form a contract is the third requirement of a valid contract. In most cases, capacity is not an issue. It can be a very serious issue, however, when one of the contracting parties is a minor, under the influence of drugs or alcohol, or suffering from a mental disability.
The question of capacity is the question of whether the person is able to understand the nature of the obligations required in the contract. Minors are presumed not to understand the nature of contractual obligations and a contract with a minor is generally unenforceable. This is true even if the other party was not aware they were making a contract with a minor.
Similarly, a person under the influence of alcohol or drugs may not appreciate the consequences of a proposed contract. It is not necessary that the contracting party induce the intoxication or even be aware of it. The lack of appreciation of the consequences prevents a “meeting of the minds.”
The conditions of minority and intoxication are both temporary. A minor will eventually become an adult and an intoxicated person will eventually become sober. For this reason, contracts with these persons are not automatically void. Rather, they are
Fact
The idea of voidable contracts stems from the fact that lack of capacity may be a temporary condition. Infancy, intoxication, and some types of mental incapacity are not permanent. If every other requirement of contract formation is present, the law allows the incapacitated party to retain the benefit of the bargain if it seems like a good idea after the incapacity is removed. The party who was not under any incapacity is not given the same choice to avoid the consequences of their actions.
Two issues occur when a party to a contract suffers from a mental disability. If the mental disability prevents the person from appreciating the consequences of the agreement, there is no contract because of the disability. This type of contract is voidable; if the mental disability is cured, the party may ratify the contract. If the court has adjudged the person mentally incompetent, however, the issue is more than the existence of a disability. A finding of incompetence permanently removes the contractual capacity of that person. The contract can never be enforceable, and is void for all purposes.
Legality
The enforceable obligations of a contract must be legal. If the obligation is prohibited by a state or federal statute or by public policy, no contract can be formed. Contracts to commit murder, to sell a body organ, or to refuse to employ women, all involve violations of the law. Such contracts are void and unenforceable.
Some statutes define which persons can enter into specific types of contracts. Most states limit the persons who can perform certain occupations through licensing statutes. Lawyers, physicians, and dentists must be licensed to practice their professions, for example. A person not licensed to practice the occupation cannot enter into a contract to provide those professional services. A contract to provide legal services made by a person who is not a lawyer is illegal and not enforceable.
