Back again after his previous article whose business idea was it, legal eagle Thomas Taylor returns with another often discussed and important issue, what makes a legal agreement? Startups and Business folk take notes...
Over to Thomas to explain all:
“We’re often asked how documents become legally binding. It is an interesting question because the answer to what makes an agreement into a contractually binding arrangement is relatively straightforward, but also because being legally binding doesn’t guarantee that the agreement will automatically be upheld. So, what makes a legal agreement? Withough going into too much detail about each, there are six things:
Offer: An offer is a promise to be bound to precise terms - more than just a willingness to explore the possibility of a deal. For example, I might offer to sell my car to you for £2,000 “as-is” (i.e. without any further terms) or I might offer to sell it to you for £2,000 but only on Tuesday (a more precise term). I can set as many terms as I like, but we only have a legally binding agreement if all are met. So if you want to take up my offer above on a Wednesday, I don’t have to agree. I can also withdraw my offer at any time before you take it up.
Acceptance: For a deal to be binding, you have to accept my offer without asking for any other terms. You must also tell me that you accept (you can’t accept by inaction).
Intention to create a legally binding contract: We both have to want to form a contract. Domestic and social agreements (such as to help a family member with the shopping) aren’t seen as legal contracts, except where either side can prove that the parties did intend for it to be one.
Transfer of value: In legal terms, there must be “consideration” or a price. That doesn’t have to be money, it doesn’t have to have the same value to both sides and it doesn’t have to be “fair” to everyone. You could agree to pay a peppercorn, or give someone a right to do something.
Capacity and consent: Neither party must be under duress, undue influence, or be misled by the other. In other words, everyone must know what they are doing. Some people, such as children or prisoners don’t have the capacity to enter into legal agreements.
If all those things exist, then the agreement becomes legally binding – a contract.
Sometimes, people think other things are needed. These can include:
The agreement must be in writing.
There must be a witness.
A solicitor must prepare or approve the deal.
The deal must somehow be registered somewhere.
These are things that are often present, but they aren’t requirements.
Recording an agreement in writing is a good idea for a number of reasons. Above all, it makes arguments less likely later on, because both sides can see what they agreed to. (But note that it doesn’t stop an argumentative person from causing trouble). It also demonstrates intention to enter into a contract.
But a legally binding agreement can be one that was entered into orally – by conversation – and never recorded in a document.
A witness provides evidence, where it might be needed, that who signs the contract has authority (capacity) to do so. But one is not needed if both sides are happy about who they are dealing with.
Solicitors are often the people who draw up the legal agreement in writing. They can (valuably) advise on what terms might be beneficial to include, remove or change. But having one prepare a document does not make the deal any more or less “legal”. With commercial contracts, there is no requirement for a solicitor to approve of the deal (he or she may think it is commercially unsound, but it may be perfectly legal). Sometimes, there is a requirement for a solicitor to check that the parties have intention and capacity and give consent, but usually, that is only for personal agreements, such as separation agreements and prenups.
Most agreements do not need to be registered. There are a few exceptions such as long term leases being registered at the Land Registry, or lasting power of attorney documents being registered by the Office of the Public Guardian. But these really are exceptions, rather than the norm.
Being legally binding isn’t the be-all and end-all.
Just because you have a legally binding agreement, you or the other party may still break your deal, either intentionally or unintentionally.
A court will decide whether a contract should be enforced and whether either party has suffered any damages as a result of it not being carried out.
Going to court costs money, time and stress upfront, and is risky because you cannot guarantee the judge will rule in your favour. So if the benefit from suing for breach of contract is much less than the value in the contract in the first place, you’re unlikely to chase the other side. If the other party knows that, then there is no more advantage in having legally binding agreement than one that isn’t.
For example, if we enter into a contract for you to sell me a chocolate bar next year and later you decide that you no longer want to do so, I’m not going to pursue you because the cost of doing so far exceeds the price of the chocolate bar. Our deal, although legally binding, is not commercially binding.
If you want to make a deal that you can guarantee will happen, you have to make sure it has all the ingredients to make it binding in law, but also that there is enough value to make sure neither party will be willing to risk breaking it. That gives power to enforce it, and sufficient incentive to do so.
Thomas Taylor a director of Net Lawman, an alternative for small and growing businesses to using a solicitor to obtain legal documents. He is a qualified accountant (FCCA, FPA/FIPA).
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