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When is an agreement legally binding?

When is an agreement legally binding?

For an agreement to be legally binding, it must meet certain criteria. Australian contract law requires that there is an offer, acceptance, an intention to create legal relations and consideration. There are also a few more criteria that need to be present.

In Australia, common law and statutory provisions govern contracts. For example, the Australian Consumer Law (ACL). Knowing what makes an agreement binding is crucial, whether it’s a simple agreement or a complex business deal.

In this article, our contract lawyer will explore the key elements that make a contract legally binding in Australia.

Offer and Acceptance

The first element of a binding contract is an offer.

An offer is an unequivocal proposal made by one party to another. In the context of a contract, it is an expression of a willingness to agree on specific terms.

You must communicate the offer to the other party and the offer must be open for acceptance.

When someone makes an offer, the other person can choose to accept it, say no, or suggest a different offer. To form a binding contract, you must communicate acceptance that matches the original offer.

two people doing a handshake

Examples of offer and acceptance

Offer: Alice owns a bicycle shop and displays a bicycle with a price tag of $500. This is considered an offer to sell the bicycle at that price.

Acceptance: Bob enters the shop, takes the bicycle to the counter, and tells Alice he wants to buy it for $500. Bob’s statement and action constitute acceptance of the offer, forming a binding contract for the sale of the bicycle.

Offer: David operates an online store and lists a laptop for sale on his website for $1,000.

Acceptance: Sarah visits David’s website, adds the laptop to her cart, proceeds to the checkout, and pays the $1,000. Completing these steps constitutes her acceptance of the offer, and forms a binding contract for the sale of the laptop.

Offer: ABC Company offers Jane a position as a marketing manager via a formal job offer letter.

Acceptance: Jane accepts the job offer by signing and returning the offer letter to the company. This acceptance formalises her employment contract with ABC Company.

You can revoke an offer before the other party accepts it. Furthermore, the offeree must communicate acceptance to the offeror. Australian contract law generally does not consider silence a valid form of acceptance.

Additionally, the terms of the acceptance should match the terms of the offer. If there are changes or different offers, it may be perceived as rejecting the first offer and making a new one.

Intention to Create Legal Relations

For a contract to be binding, there must be an intention by both parties to create legal relations.

Most commercial agreements inherently possess this intention. However, it can be difficult to establish in domestic or social agreements. Courts check if parties meant to make a legal contract by looking at their objective intention. In business, people usually assume this, but in other situations, people may disagree about it.

Examples of an intention to create legal relations

A company gives a contract to provide a set amount of materials to another business at an agreed cost. Both parties want the contract to be legally binding as it affects their business and financial interests.

A person gets a job offer letter from a company with information about salary, benefits, and job duties. The applicant accepts the offer, demonstrating the mutual intention to create a legally binding employment contract.

Here’s another example:

An employee and employer agree on a contract that explains the terms of their work, like job duties, hours, and pay. Both parties enter into this agreement to create a legally binding employment relationship.

Consideration

Consideration refers to something of value exchanged between the parties as part of the contract. It can be in the form of money, goods, services, or a promise to do something. Consideration is essential because it distinguishes a contract from a gratuitous promise. For a contract to be legally binding, both parties must exchange something valuable in return for what they receive.

Contracts lawyers can get around the issue of consideration by making a contract a ‘deed’.

Examples of consideration

Consideration is a fundamental element in the formation of a contract under Australian law. It refers to something of value exchanged between the parties, typically in the form of a promise, an act, or forbearance from an act. Here are some examples of consideration in Australian contract law:

Sarah agrees to pay $500 to a carpenter in exchange for building a custom bookshelf. Sarah’s promise to pay and the carpenter’s promise to build the bookshelf constitute valid consideration.

Tom and his neighbour have made an agreement. Tom will cut his neighbour’s grass every week during the summer. In return, the neighbour will water Tom’s plants when he goes on vacation. Both promises represent valid consideration.

John is involved in a car accident with Mary. Instead of suing Mary for damages, John agrees not to pursue legal action against her in exchange for Mary’s promise to cover the repair costs of John’s car. John’s forbearance to sue serves as consideration.

Alex promises to deliver 100 units of a product to a retailer within a specified timeframe. In return, the retailer promises to pay Alex the agreed-upon price upon delivery. Both promises constitute consideration.

Laura owes $1,000 to her creditor. They agree that Laura will pay $500 now and the remaining $500 in a month’s time

Legal Capacity

For a contract to be binding, all parties involved must have the legal capacity to enter into an agreement. To sign a contract, a person must be mentally healthy, not drunk or high, and able to understand the contract’s terms. Minors in Australia have the ability to make contracts. However, rules exist to protect them and safeguard their best interests.

Examples of legal capacity

In Australian contract law, legal capacity means the ability of people to make binding contracts. Certain groups of people may lack the capacity to contract, or their capacity may be limited. Here are some examples of legal capacity under Australian contract law.

A 30-year-old individual named Emily, who is mentally sound, has the legal capacity to enter into various contracts, such as purchasing a car or signing a lease agreement.

A 17-year-old named Sam signs a contract to buy a computer. In this case, Sam’s legal capacity is limited due to their status as a minor. However, some contracts entered into by minors may still be binding, but they have the option to void the contract if they choose.

Sarah, who has been declared legally incapacitated due to a severe mental illness, enters into a contract to sell her property. In this case, her legal capacity is limited, and the contract may be voidable.

John, who is heavily intoxicated, agrees to buy a valuable painting from Jane. Jane knows John is very intoxicated and takes advantage. John’s legal capacity may be compromised due to his intoxicated state, and the contract may be voidable.

Mark is coerced into signing a contract under duress, as he is threatened by his employer. In such cases, Mark’s legal capacity may be impaired, and the contract may be voidable.

Lisa, who has been declared bankrupt, enters into a contract to buy a car. Bankrupt individuals may have limited legal capacity to contract, depending on the specific circumstances.

XYZ Corporation enters into a contract to purchase machinery for its operations. Companies and other organisations can make contracts as long as they stay within their legal authority.

It’s important to note that contracts entered into by individuals or entities lacking legal capacity may be voidable. The party with limited capacity can choose to confirm or cancel the contract. They can do this once they restore their capacity or once the reasons for limited capacity are no longer present. This protection is in place to safeguard the rights of vulnerable individuals and ensure fairness in contractual relationships.

Legality of Purpose

The purpose of the contract must be legal. Contracts with illegal objectives or that involve illegal activities are not enforceable. This is in line with the principle that the courts will not aid or enforce an illegal contract. For example, a contract to commit a crime or to defraud someone would be void.

Examples of illegal agreements

In Australia, a contract must meet certain requirements to be legally enforceable. These requirements include having a legal purpose and not going against public policy or law. Contracts with illegal objectives or involving illegal activities as void and unenforceable. Here are some examples illustrating the legality of purpose in Australian contract law:

Two parties enter into a contract for the sale and purchase of a substantial quantity of illegal drugs, such as cocaine or methamphetamine. This contract is not valid because it involves illegal activity, and breaking drug laws in Australia.

An individual engages a contract killer to commit a murder. This contract is not only morally repugnant but also illegal, making it void and unenforceable.

Gambling Contracts in Violation of Regulations:

A gambling website operator offers bets on sports events in contravention of the relevant state or territory gambling laws. Any contracts related to these bets would be unenforceable due to the illegal purpose.

A company’s directors conspire to transfer company assets to themselves or related entities to avoid paying creditors. Contracts made for this purpose would be unenforceable, as they involve illegal activities and fraud.

Two parties enter into a contract for the sale and purchase of counterfeit designer clothing. Such contracts are unenforceable because they involve transactions in counterfeit goods, which are illegal.

An employment contract that discriminates against employees based on their race, gender, or other protected characteristics is unenforceable and against anti-discrimination laws in Australia.

In Australia, contracts with illegal purposes are not valid and can have legal consequences for the people involved. People and companies should ensure their contracts are legal and comply with laws and regulations to avoid legal issues.

Certainty and Possibility of Performance

Contracts must be certain and capable of performance. The terms and obligations outlined in the contract should be clear and definite. If the terms are too vague or uncertain, the contract may not be enforceable. Additionally, the performance of the contract must be possible and not dependent on impossible or unlawful actions.

Key takeaways

  • make sure an agreement contains all the key elements if you want a contract to be legally binding
  • if an agreement doesn’t include all the elements of a binding contract, it may be unenforceable
  • talk to a contract lawyer if you need contract law advice
  • if you fail to properly draft a contract it can have legal and financial consequences

About the Author

Farrah Motley
Director of Prosper Law. Farrah founded Prosper online law firm in 2021. She wanted to create a better way of doing legal work and a better experience for customers of legal services.

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