A contract—a written, verbal, or implied agreement-- lies at the heart of every business transaction.
The basics of a contract are simple. There are four essential elements at the heart of every contract:
1) Offer: One party makes an offer to do something. For example, the party may have widgets, and offers to sell them at a certain price.
2) Acceptance: Another party is looking for widgets, and either accepts the seller’s offer, or makes a counter-offer, which may lead to further negotiations. Ultimately, if the two parties reach an agreement, the buyer will accept the seller’s offer to provide widgets at an agreed-upon price.
3) Consideration: In order for a contract to have been formed, each party must promise something of adequate value to the other. In the example above, the consideration promised by the seller is the widgets, while the consideration promised by the buyer is the agreed-upon price.
4) Meeting of the minds: Both parties must be aware that they are entering into a legally-binding agreement, and, both parties must understand and agree to the terms of that agreement. In the above example, both parties must understand that they are not merely expressing an interest in acquiring widgets or dollars, but are entering into a legally-binding agreement in which widgets and dollars will be exchanged. Likewise, both parties must understand and agree to the terms of the agreement—which widgets are being offered in consideration for payment (Last year’s widget model? This year’s widget model? The Limited Edition widget?), and which currency (US dollars? Canadian dollars? Singapore dollars?) is being exchanged in consideration for the widgets. Without this meeting of the minds, a contract has not been formed.
While those are the most basic elements of a contract, there are other elements which are also required for the contract to be legally-binding. These include:
5) Capacity: A party entering into an agreement must have the legal capacity to contract. Lack of capacity to contract can take several forms:
Lack of mental capacity (including mental illness, intellectual deficiency, dementia, Alzheimer’s), and
A minor’s lack of capacity. Minors may enter into a contract, but may also later oid the contract for lack of capacity.
A contract entered into by an intoxicated person may be upheld by the courts, although there is precedent for voiding contracts where the party was so intoxicated that they had no idea what they were doing when they signed the contract.
6) Legality: A contract to do something that is illegal has no legal effect, is not legally binding, and will not be upheld by the courts.
7) The Statute of Frauds: It’s not always necessary to commit every agreement to writing (although, depending on the circumstances, it’s probably a good idea to put most agreements in writing), but in some specific instances, contracts must be in writing to be legally-binding. The Statute of Frauds, codified at California Civil Code Section 1624, specifies which agreements must be in writing in order to be legally-binding. These agreements include:
An agreement that by its terms will not be performed within one year from the date of the agreement;
A promise to pay the debt of another;
Leases of real property for terms greater than one year;
Real estate agency or brokerage agreements;
An agreement that by its terms is not to be performed during the lifetime of the promisor.
A contract to purchase real property secured by a mortgage or deed of trust;
A contract to loan money or extend credit in an amount of $100,000.00 or greater;
In all of these examples, California law requires the contract to be in writing in order for it to have legal effect. Without that written contract, you have no agreement that will be upheld in court if something goes wrong.
Which brings us to other contract considerations that are necessary, but not required by law. As noted at the beginning, the basics of a contract are simple. However, in practice, a good contract will not only specify the agreement made, but will also contemplate much more, including “what happens if the contract is not performed as agreed upon?”—a question that will be discussed in our next blog article.
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