The basis of the law of contract is the legal enforceability of promises.
A contract may be defined as an agreement that the law can enforce if any party breach terms of the contract.
In breach of contract, the innocent party has several legal remedies. The first thing the innocent party can do is sue the party who breached terms and ask for damages. Or else, the innocent party can ask the court to order the other party to perform the contract.
Example: Kamal has agreed to sell land that belongs to him to Nimal for an agreed price. Nimal later hears that Kamal is planning to sell the same land to another person. Nimal can ask the court to order Kamal to sell the land to Nimal as agreed, and also for an order (injunction) to prevent Kamal from selling the land to another party.
Law of Contract is mostly based on judicial decisions instead of a single statute or code. However, in some areas that affecting contract law, the legislation also plays a major role.
(For example, Sale of Goods Ordinance and more recently Consumer Protection Act in Sri Lanka).
Most business agreements are simple contracts. A contract may be in writing or maybe done verbally. In some situations, the conduct of the parties may create a contract. No formalities are required for simple contracts. However, in some situations, specific formalities and documents are required by legislation.
The legal rules discussed below apply to simple contracts.
Definition and requirements of a contract
A contract is an agreement between two or more parties that can be enforced by the law.
Requirements for a valid contract
1. There must be an agreement between two or more parties.
2. The intention of the parties to the contract must be to have a legal relationship.
3. The contract must conform to any required statutory formalities.
4. In English law, there is a necessity that the agreement must be supported by consideration.
However, the Roman-Dutch law, which applies in Sri Lanka and some other countries, does not require consideration. In Roman-Dutch law, any good or valid reason which is expressed by the Latin term justa causa will be sufficient for a contract.
5. The parties to the agreement must have the legal capacity to contract.
For example, a contract with a minor is not considered a valid contract.
6. The agreement must be genuine. It must not be affected by factors such as mistake, misrepresentation, fraud, undue influence, and duress.
7. The agreement must be for a purpose of an object which is not illegal. It must not conflict with public policy.
Intention to create legal relations
An agreement only will not create a contract binding in law. A critical element in the formation of a contract is the need for an intention by the parties to create legally binding obligations. Unless the parties aim to create an agreement enforceable at law, there will be no contract.
Domestic or social agreements are generally not considered valid contracts
Example: If Sunil agrees to lend his motor car to his friend Namal, and later refuses or fails to do so, then Namal will not be able to sue Sunil for a breach of contract. This is because Sunil’s promise was of a social nature, a promise by a friend to another friend. Neither Sunil nor Namal would have expected legal action when Sunil promised to lend the motor car.
Example: If a husband does not honour his promise to buy his wife a birthday present, it is clear that the wife cannot sue the husband for not honouring his promises. This is because promises of these kinds are considered as domestic or social nature which the courts of law will not enforce if broken.
There are several well-known judicial decisions to illustrate the above views.
Balfour v Balfour [1919]
In Balfour v Balfour [1919] – a husband – the defendant – who was a British civil servant working in Sri Lanka came to England with his wife – the plaintiff – on a holiday. The husband has returned after the holiday, the wife staying in England due to health problems. The defendant promised to pay the plaintiff £30 per month for maintenance. However, the defendant failed to keep up the payments, and subsequently, the couple decided to separate. The wife sued the husband for the allowance after the husband had stopped paying. The English Court of Appeal held that the husband was not liable to pay it because;
a) the wife had provided no consideration for the promise to pay £30; and
b) agreements between husbands and wives are not contracts, because the parties do not intend them to be legally binding.
However, every agreement between a husband and wife is not considered a social agreement.
The following is an example.
Merritt v Merritt [1970]
Mr. and Mrs. Merritt married in 1941. They held their matrimonial home in joint names. In 1966, Mr. Merritt left the wife to live with another woman. After that, they met for making arrangements for the future. The husband agreed to pay £40 per month for maintenance. However, from this maintenance, the wife had to pay the mortgage of the house. At the wife’s request, Mr. Merritt signed a document confirming that after repaying the balance on the mortgage by her, he would hand over the matrimonial home into the wife’s name. Mrs. Merritt paid the mortgage fully and acquired a declaration that the house belonged to her. However, Mr. Merritt opposed saying that the agreement was a domestic arrangement between a husband and wife, and there was no intention to create a legal relationship. Therefore, it was not an enforceable contract. He also argued the alleged contract was insufficiently certain to be enforceable by the court because Mrs. Merritt failed to provide consideration for his promise. Mrs. Merritt argued that they were in the process of separating. Therefore, the presumption of no intention to create legal relations did not apply. She demanded that there was every intention of creating legal relations. She further argued that paying off all the expenses on the home and finishing off the mortgage payments amounted to consideration.
The Court held that Mr. Merritt’s appeal was unsuccessful. When parties are in the process of separating or are separated, the presumption of there being no intention to create legal relations does not apply. The arrangement was sufficiently certain to be enforceable, and the paying of the mortgage was sufficient consideration for Mr. Merritt’s promise. Therefore, Mrs. Merritt was entitled to the matrimonial home entirely.
Agreements between business people are recognized as contracts
When business people or commercial bodies enter into agreements, there is a presumption that such agreements result in legally enforceable contracts.
Example: Gamini and Srimal are two businessmen. They are also good friends. Gamini agrees to sell a business property to Srimal for an agreed price and executes a notarial document to that effect. Gamini then tells Srimal, “although I agreed to sell that business property to you, I have now changed my mind and I have decided to sell it to another party”. Despite their close friendship, Srimal can take legal action against Gamini to enforce the written agreement since it is a commercial transaction.
Agreement between two or more persons
The beginning of a contract is an agreement between two or more parties. The minds of both parties must agree about the subject matter of the contract.
Consensus ad idem is the legal term used to describe this as the meeting of two minds.
The courts have accepted the process of ‘offer and acceptance’ to see whether there has been an agreement between the parties.
Example: If Shiran wishes to buy a car from Reynold, they must agree about the price and other terms of delivery, etc. Shiran, the buyer, will be the offeror and Reynold will be the offeree. Shiran’s offer to Reynold is “I will buy your car for Rs. 1,000,000/-.” Reynold, the seller, has to accept this offer, for there to be a contract.