BUS205 Study Guide
Unit 4: Contracts
4a. Identify and discuss the essential elements of a valid contract
- How is a contractual agreement formed?
- What is consideration?
- What are some reasons why a party may lack capacity to contract?
- Why might a contract not be enforceable due to issues of legality?
The essential elements needed to form a valid contract are:
- Agreement. A contract is a legally enforceable promise. It is based on an agreement between parties. The agreement includes an offer made by one party (offeror) and an acceptance of the offer by another party (offeree). The offeror promises to undertake an action or to refrain from taking action. The offeree assents to an offer when his or her acceptance "mirrors" the terms of the offer.
- Consideration: The contractual agreement must be supported by consideration, which is a bargained-for exchange for something of value. Something of value can be money, goods, services, or the performance of an action that one is not legally required to do. Note that a gift does not constitute consideration.
- Capacity: The parties to the contract must possess the legal capacity to contract. Incapacity is an issue where a party is a minor, intoxicated, or mentally incompetent.
- Legality: Contracts that violate the law are void and therefore unenforceable. In addition, courts heavily scrutinize contracts that violate public policy. Courts have the discretion not to enforce contracts that violate public policy.
To review, read Formation.
4b. Explain unilateral and bilateral contracts, and identify examples of these types of contracts
- What is a unilateral contract?
- What is a bilateral contract?
- What is an example of a unilateral contract and a bilateral contract?
A unilateral contract is one in which a party accepts an offer by performing the contract. For example, Arthur entered a contest to win an iPhone. He complied with the contest instructions by filling out his information and submitting the contest form online by the deadline. This is an example of a unilateral contract because the offer could only be accepted by submitting the properly completed contest form online by the designated deadline. The offer could only be accepted by the offeree's (Arthur) performance.
A bilateral contract is one in which the parties exchange a promise for a promise. For example, Ellie offers to buy Monica's outdoor shed for $400. Ellie tells Monica that she will pay for the shed when she receives her paycheck in two weeks. Monica agrees to the offer and promises to sell Ellie the shed when Ellie receives her paycheck two weeks. In this scenario, a bilateral contract is formed once the promises are exchanged between the parties.
To review, read Formation.
4c. Identify and describe situations in which a contract can fail
- When does a breach of contract occur?
- In what situations can contracts become unenforceable?
Breach of Contract
A breach of contract occurs under a variety of circumstances. For example, a party may fail to perform its obligations according to the terms of the contract. A party may fail to abide by time obligations, or may only partially satisfy the terms of the agreement.
A material breach is a substantial breach that results from performance that is far below what is reasonably acceptable. The aggrieved party can terminate the contract and sue for damages. A non-material breach is a minor breach. For a non-material breach of contract, the aggrieved party must still perform the contract but can sue for damages. A non-material breach can consist of minor delays or deviations from the term of the contract. With respect to anticipatory repudiation, the breaching party communicates (through an express statement or action) that he or she has no intention of performing the contract. With respect to anticipatory repudiation, the non-breaching party may terminate the contract. The non-breaching party has a duty to mitigate damages.
To review, watch Breach of Contract.
Although an agreement may have the requirements necessary to form a contract, it may still not be enforceable under the law. A contract may fail due to illegality or a party's lack of capacity.
If a party is forced into a contract based upon a threat, the party can either rescind the contract or use duress as a defense against contract enforcement. If a party's contract is oppressive, a court will refuse to enforce it due to unconscionability. When a party uses his or her special relationship to exert influence over a vulnerable party, the contract is voidable because of undue influence. Undue influence is a defense that can be used when one party ceases to be able to exercise his or her free will due to the superior power and influence exerted over that party by the other.
The Statute of Frauds requires that certain types of contracts must be in writing and signed by the defendant to be enforceable against the defendant. Examples of contracts that fall within the Statute of Frauds include contracts for the sale of land; contracts made in consideration of marriage; contracts agreeing to pay the debts of another; contracts that cannot be performed within one year; and contracts for the sale of goods with a price of five hundred dollars or more. These types of contracts are required to be in writing to be enforceable according to the Statute of Frauds.
Mistake, misrepresentation, and fraud are three additional reasons why a contract can be avoided. A contract can be avoided due to a mistake where both parties are mistaken as to a material fact or one of the parties has made an error in computation. The misrepresentation defense can be asserted where the contract was based on a false statement made by a party with the intent to mislead the other party. The fraud defense can be asserted against a party that used deception to acquire money or property.
Impossibility may prevent the performance of a contract due to changed circumstances. For example, a natural disaster, the death of a party, the destruction subject of the contract, or the subsequent illegality of the subject matter would all make a contract impossible to perform.
The defense of commercial impracticability can be used when circumstances affect a party's ability to perform the contract to the extent that performance has become extraordinarily difficult or unfair. Requiring performance of the contract would cause undue hardship on the party. For example, ACME contracts with a supplier for a cleaning solution. Subsequently, the government issues regulations that make acquiring the key ingredients for the cleaning solution extremely difficult. In this scenario, the supplier can be excused from performing the contract because of impracticality.
Frustration of purpose is when the contract has become essentially worthless to one party because circumstances beyond his or her control have defeated the party's purpose for entering the contract. For example, ACME contracts with a realtor to purchase property for mixed-use development with the understanding that ACME will be able to get the property rezoned. The parties do not anticipate the zoning change to be problematic until later when the city refuses to rezone the property for mixed-use development. In this scenario, ACME can avoid the contract due to frustration of purpose. To review, read Performance and Discharge, Breach, Defenses, Equitable Remedies and Unenforceable Contracts.
4d. Summarize the remedies available for breach of contract
- What are the two types of equitable remedies available for breach of contract?
- What damages can be awarded for breach of contract?
Two equitable remedies for breach of contract are quasi-contract and promissory estoppel. A quasi-contract is a legal obligation imposed by law to avoid unjust enrichment. The court creates a quasi-contract because the parties never entered into an actual agreement.
Promissory estoppel enforces a promise where a party has justifiably relied on the promise to his or her detriment. The person's reliance must be substantial and reasonable. Reliance damages are awarded based on a breach of contract or a party's reasonable reliance on a promise. The doctrine of promissory estoppel requires the party to have a reasonable reliance on a promise and that the party relies on the promise to his or her detriment.
- Compensatory damages are actual damages that are attributable to a breach of contract. They compensate the non-breaching party for losses that result from the breach of contract.
- Consequential damages are indirect losses that arise from a breach of contract. Consequential damages must be reasonably foreseeable at the time the contract was formed.
- Specific performance might be required under certain types of contracts when the subject matter is unique, such as in contracts for the sale of land.
To review, watch Breach of Contract and read Performance and Discharge, Breach, Defenses, Equitable Remedies.
4e. Apply elements of contract law to hypothetical contract law problems
- How would you apply elements of contract law to determine whether or not a contract is enforceable?
Sonia Mason took out a $185,000 mortgage loan from Big Bank to finance her home purchase. Years later, Sonia fell behind in making her mortgage payments. She met with the bank and it offered not to foreclose on Sonia's mortgage as long as she made a final lump sum payment of $15,000 by March 1. Sonia signed the agreement. By March 1, Sonia could only raise $10,000 to pay the bank. The bank refused to accept the $10,000 payment.
Sonia would like to know if her agreement with the bank is enforceable. Since the bank won't accept the $10,000 payment, she would like to know if she can use the money to resume making monthly payments on her mortgage.
Apply elements of contract law to the scenario and explain whether the Sonia's agreement with the bank is enforceable or unenforceable.
- What constituted the agreement?
- Offer: The bank offered to accept a lump sum payment of $15,000 by March 1.
- Acceptance: Sonia agreed to make a payment of $15,000 to the bank by March 1.
- Was there consideration?
- The consideration was a forbearance on the part of the bank. It had the legal right to foreclose on Sonia's mortgage, but agreed not to do so if she kept her promise to pay the $15,000 by March 1.
- Was the contract a legal one?
- Yes, the contract was for a legal purpose (home mortgage loan).
- Was there capacity to consent to contract?
- Yes, the parties had capacity and consent to contract (no facts indicate otherwise).
- Was there a breach of contract?
- Yes, there was a breach of contract. Sonia failed to keep her promise to pay the bank $15,000 by March 1. She breached her contract with the bank. It can foreclose on Sonia's mortgage.
- The bank does not have to accept the $10,000 payment, nor does it have to allow Sonia to resume making monthly payments on her mortgage.
4f. Describe the different types of negotiable instruments and explain the UCC requirements for this type of formal contract
- What are the two main types of negotiable instruments?
- What makes an instrument negotiable?
Types of Negotiable Instruments
A promissory note is a promise to pay. The maker and the payee are the 2 parties in a promissory note transaction. A loan (like a student or car loan) is an example of a promissory note.
A draft is an order directing someone else to pay money on your behalf. The drawer, drawee, and payee are the 3 parties in a draft transaction. A check is an example of a draft.
To be negotiable, the instrument must be in writing and it must be signed by the maker or drawer. The negotiable instrument must contain an unconditional promise or order to pay a specific amount of money. The negotiable instrument must be payable on demand or at a definite time. Finally, the negotiable instrument must be payable to order or bearer.
To review, read subunit 4.1.
Unit 4 Vocabulary
This vocabulary list includes terms that might help you with the review items above and some terms you should be familiar with to be successful in completing the final exam for the course.
Try to think of the reason why each term is included.
- mirror image
- mutual assent
- illusory promise
- infancy doctrine
- substantial performance
- promissory estoppel
- reliance damages
- economic duress
- material breach
- non-material breach
- anticipatory repudiation
- Statute of Frauds
- frustration of purpose
- compensatory damages
- consequential damages
- specific performance
- duty to mitigate
- promissory note