What is contract and its ingredients that make it valid?

Answer 1

We enter into contracts so many times in a day that 'contract' has become an indispensable part of our life. When you purchase milk or newspaper in the morning or go to movie in the evening, you are entering into a contract. Indian Contract Act really codifies the way we enter into a contract, execute a contract, implement provisions of a contract and effects of breach of a contract. Basically, a person is free to contract on any terms he chooses. The Contract Act consists of limiting factors subject to which contract may be entered into, executed and breach enforced. It only provides a framework of rules and regulations which govern formation and performance of contract. The rights and duties of parties and terms of agreement are decided by the contracting parties themselves. The court of law acts to enforce agreement, in case of non-performance.

Section 1 of Contract Act provides that any usage or custom or trade or any incident of contract is not affected as long as it is not inconsistent with provisions of the Act. In other words, provision of Contract Act will prevail over any usage or custom or trade. However, any usage, custom or trade will be valid as long as it is not inconsistent with provisions of Contract Act. The Act extends to the whole of India except the State of Jammu and Kashmir; and came into effect on 1-9-1872.

It must be noted that contract need not be in writing, unless there is specific provision in law that the contract should be in writing. [e.g. * contract for sale of immovable property must be in writing, stamped and registered. * Contracts which need registration should be in writing * Bill of Exchange or Promissory Note must be in writing. * Trust should be created in writing * Promise to pay a time barred loan should be in writing, as per Limitation Act * Contract made without consideration on account of natural love and affection should be in writing ]. A verbal contract is equally enforceable, if it can be proved.. A contract can be enforced or compensation/damages for breach of contract can be obtained through Civil Court

Essential Ingredients of a contract - As per Contract Act, an agreement enforceable by law is a contract. [section 2(h)]. Hence, we have to understand first what is 'agreement'.

Every promise and every set of promises, forming the consideration for each other, is an agreement. [section 2(e)]. - - A person makes a proposal (offer). When it is accepted by other, it becomes a promise. However, promise cannot be one sided. Only a mutual promise forming consideration for each other is 'agreement'. - - For example, A agrees to pay Rs 100 to B and B agrees to give him a book which is priced at Rs 100. This is set of promises which form consideration for each other. However, if A agrees to pay Rs 100 to B, but B does not promise anything, it is not 'set of promises forming consideration for each other' and hence not an agreement.

It should be noted that the term 'agreement' as defined in Contract Act requires mutual consideration. - - Thus, if A invites B to dinner and B agrees to come, it is not an 'agreement' as defined in Contract Act.

Meaning of 'Proposal' - When one person signifies to another his willingness to do or to abstain from doing anything, with a view to obtaining the assent of that other to such act or abstinence, he is said to make a proposal. [section 2(a)].- - Thus, a 'proposal' can be to do a positive act or abstinence from act (i.e. negative act). [English Act uses the word 'offer', while Indian Contract Act uses the word 'proposal'. Generally, both words are used inter-changeably. This is not technically correct, as the word 'offer' is not used in Contract Act].

Meaning of 'Promise' - When the person to whom the proposal is made signifies his assent thereto, the proposal is said to be accepted. A pro­posal, when accepted, becomes a promise. [section 2(b)]. - - Thus, when a proposal (offer) is accepted, it becomes a 'promise'. As is clear from the definition, only person to whom proposal is made can signify his assent. Other person cannot accept a proposal.

Promisor and promisee - The person making the proposal is called the "promisor", and the person accepting the proposal is called the "promisee". [section 2(c)].

Reciprocal promises - Promises which form the consideration or part of the consideration for each other are called reciprocal promises. [section 2(f)].

Consideration for promise - The definition of 'agreement' itself states that the mutual promises should form consideration of each other. Thus, 'consideration' is essential for an agreement. A promise without consideration is not 'agreement' and hence naturally, it is not a 'contract'.

Definition of 'consideration' - When, at the desire of the promisor, the promisee or any other person has done or abstained from doing, or does or abstains from doing, or promises to do or to abstain from doing, something, such act or abstinence or promise is called a consid­eration for the promise. [section 2(d)].

Steps involved in contract - The steps involved in the contract are - * proposal and its communication * acceptance of proposal and its communication * Agreement by mutual promises * Contract * Performance of Contract. - - All agreements are not contract. Only those agreements which are enforceable by law are 'contracts'. Following are essential requirements of a valid contract.

Offer and its acceptance

Free consent of both parties

Mutual and lawful consideration for agreement

It should be enforceable by law. Hence, intention should be to create legal relationship. Agreements of social or domestic nature are not contracts

Parties should be competent to contract

Object should be lawful

Certainty and possibility of performance

Contract should not have been declared as void under Contract Act or any other law

Communication, acceptance and revocation of proposals - Communication of proposal/ revocation/acceptance are vital to decide validity of a contract. A 'communication' is complete only when other party receives it.

Acceptance must be absolute - In order to convert a proposal into a promise, the acceptance must - (1) be absolute and unqualified; (2) be expressed in some usual and reasonable manner, unless the proposal prescribed the manner in which it is to be accepted. If the proposal prescribes a manner in which it is to be accepted, and the acceptance is not made in such a manner, the proposer may, within a reasonable time after the acceptance is communicated to him, insist that his proposal shall be accepted in the prescribed manner, and not otherwise; but if he fails to do so, he accepts the acceptance. [section 7].

Acceptance of offer is complete only when it is absolute and unconditional. Conditional acceptance or qualified acceptance is no acceptance.

Promises, express or implied - Insofar as the proposal or acceptance of any promise is made in words, the promise is said to be express. Insofar as such proposal or acceptance is made otherwise than in words, the prom­ise is said to be implied. [section 9]. - - For example, if a person enters a bus, there is implied promise that he will pay the bus fair.

Voidable Contract - An agreement which is enforceable by law at the option of one or more of the parties thereto, but not at the option of the other or others, is a voidable contract. [section 2(i)]. - - (a) When consent is obtained by coercion, undue influence, misrepresentation or fraud is voidable at the option of aggrieved party i.e. party whose consent was obtained by coercion/fraud etc. However, other party cannot avoid the contract. (b) When a contract contains reciprocal promises and one party to contract prevents the other from performing his promise, the contract becomes voidable at the option of the party to prevented. (section 53). Obvious principle is that a person cannot take advantage of his own wrong (c) When time is essence of contract and party fails to perform in time, it is voidable at the option of other party (section 55). A person who himself delayed the contract cannot avoid the contract on account of (his own) delay.

Void contract - A contract which ceases to be enforceable by law be­comes void when it ceases to be enforceable. [section 2(j)]. - - Thus, initially a contract cannot be void, i.e. a contract cannot be void ab initio. The simple reason is that in such a case, it is not a contract at all to begin with. Hence, only a valid contract can become void contract due to some subsequent events. e.g. the person dies or property is destroyed or Government imposes a ban etc. - - A void agreement is void ab initio. It never becomes a contract. It is nullity and cannot create any legal rights.

What agreements are contracts - All agreements are contracts if they are made by the free consent of parties competent to contract, for a lawful considera­tion and with a lawful object, and are not hereby expressly declared to be void. Nothing herein contained shall effect any law in force in India and not hereby expressly repealed, by which any contract is required to be made in writing or in the presence of witnesses, or any law relating to the registration of documents. [section 10].

Who are competent to contract - Every person is competent to contract who is of the age of majority according to the law to which he is subject, and who is of sound mind, and is not disqualified from contracting by any law to which he is subject. [section 11].

Free consent - Consent of both parties must be free. Consent obtained through coercion, undue influence, fraud, misrepresentation or mistake is not a 'free consent'. - - Two or more persons are said to consent when they agree upon the same thing in the same sense. [section 13]. - - Consent is said to be free when it is not caused by - (1) coercion, as defined in section 15, or (2) undue influence, as defined in section 16, or (3) fraud, as defined in section 17, or (4) misrepresentation, as defined in section 18, or (5) mistake, subject to the provisions of sections 20, 21 and 22. - - Consent is said to be so caused when it would not have been given but for the existence of such coercion, undue influence, fraud, misrepresentation or mistake. [section 14].

Void agreements - An agreement not enforceable by law is said to be void. [section 2(g)]. - - Note that it is not 'void contract', as an agreement which is not enforceable by law does not become 'contract' at all. Following are void agreements - * Both parties under mistake of fact (section 20) * Unlawful object or consideration (section 24) * Agreement without consideration (section 25) * Agreement in restraint of marriage (section 26) * Agreement in restraint of trade (section 27) * Agreement in restraint of legal proceedings (section 28) * Uncertain agreement (section 29) * Wagering agreement (section 29) * Agreement to do an impossible Act (section 56). - - These are discussed below.

Obligation of person who has received advantage under void agree­ment or contract that becomes void - When an agreement is discovered to be void, or when a con­tract becomes void, any person who has received any advantage under such agreement or contract is bound to restore it, or to make compensation for it, to the person from whom he received it.

Contingent contract - A "contingent contract" is a contract to do or not to do something, if some event, collateral to such contract, does or does not happen. Illustration - A contracts to pay B Rs. 10,000 if B's house is burnt. This is a contingent contract. [section 31].

Contracts which must be performed - The parties to a contract must either perform, or offer to perform, their respective promises, unless such performance is dispensed with or excused under the provisions of this Act, or of any other law. Promises bind the representatives of the promisors in case of the death of such promisors before performance, unless a contrary intention appears from the contract. - - Illustrations -(a) A promises to deliver goods to B on a certain day on payment of Rs. 1,000. A dies before that day. A's representatives are bound to deliver the goods to B, and B is bound to pay Rs. 1,000 to A's representatives. (b) A promises to paint a picture for B by a certain day, at a certain price. A dies before the day. The contract cannot be enforced either by A's representative or by B [section 37]. The performance can be 'actual performance' or 'attempted performance', i.e. 'offer to perform'.

Performance of reciprocal promises - Promises which form the consideration or part of the consideration for each other are called reciprocal promises. [section 2(f)]. A mutual promise can be of following types - (a) Mutual and independent - Where each party must perform his promise independently and irrespective of whether the other party has performed or willing to perform e.g. Seller agrees to deliver on 5th and Buyer agrees to pay on 15th. (b) Conditional and dependent - Performance of promise by one party depends on prior performance of promise by other party. e.g. Buyer agrees to pay for goods 15 days after delivery. Hence, unless seller delivers goods, buyer's liability does not arise. (c) Mutual and concurrent - Where the promises of both parties must be performed simultaneously. e.g. buyer agrees to pay immediately on delivery of goods i.e. cash payment.

Contracts which need not be performed - Normally, a contract is expected to be performed. The performance my be actual or by way of tender, i.e. attempted performance. However, in certain situations as stated below, the contract need not be performed. * Novation, rescission and alteration of contract * Promisee may dispense with or remit performance of promise * Effect of neglect of promisee to afford promisor reasonable facilities for performance * Merger of superior rights with inferior right under contract. This is usually termed as 'discharge of contract'.

Quasi Contracts - 'Quasi' means 'almost' or 'apparently but not really' or 'as if it were'. This term is used when one subject resembles another in certain characteristics but there are intrinsic differences between the two. 'Quasicontract' is not a 'contract'. It is an obligation which law created in absence of any agreement. It is based on equity. There are certain relations resembling those created by contract. These are termed as 'quasi contracts'. These are - (a) Supply of necessaries (section 68) (b) Payment of lawful dues by interested person (section 69) (c) Person enjoying benefit of a gratuitous act (section 70) (d) Finder of goods (section 71) (d) Goods or anything delivered by mistake or coercion (section 72).

Consequences of Breach of Contract - Compensation is payable for breach of contract. Penalty is also payable if provided in contract. Breach of contract may be actual or anticipatory.

Summary of principles of compensation and damages - Following points are important - * Compensation for loss or damage is payable. Since the word used is 'compensation', punitive damages cannot be awarded. * These should be in usual course or known to parties i.e. both parties must be aware * No compensation for remote and indirect loss or damage * Same principle applies to quasi contract also.

General damages - General damages are those which result from 'direct and proximate' consequences from breach of contract. Normally, what can be awarded is compensation for loss or damage which can be directly or proximately attributed to the breach of contract. One way of assessing damages is the difference between the contract price and the market price on date of breach of contract, plus reasonable expenses incurred by him on account of the breach plus cost of suit in court of law.

Consequential loss or special damage - Special damages or consequential damages arise due to existence of special circumstances. Such damages can be awarded only in cases where the special circumstances were foreseeable by the party committing the breach or were specifically known to the party. Consequential losses like loss of profit due to breach, which may occur indirectly due to breach cannot be normally awarded unless there are special circumstances which parties were aware. Loss of profit can be awarded only in cases where seller could have foreseen those losses and arose directly as result of breach.

Promisee should take steps to mitigate the loss or damage - Explanation to section 73 specifically provides that in estimating loss or damage, the means available for remedying the inconvenience caused by breach of contract shall be taken into account. Thus, promisee should take all reasonable steps to mitigate the losses e.g. if promisor does not supply goods, he should make efforts to procure from alternate sources may be even at higher price, to reduce his losses arising out of breach of contract.

Vindictive or exemplary damages - Vindictive or exemplary damages cannot be awarded under Contract Act. However, these may be awarded by Court under tort under special circumstances e.g. * Dishonour of cheque by Bank when there was balance in account, as it causes loss of reputation of credit worthiness of person issuing cheque * Breach of contract to marry, as it hurts both feelings and reputation.

Quantum Meruit - 'Quantum meruit' means 'as much as earned'. A contract may come to end by * breach of contract * contract becoming void or * Voidable contract avoided by party. In such case, if a party has executed part of contract, he is entitled to get a proportionate amount i.e. 'as much as earned by him'. This is not by way of 'damages' or 'compensation for loss'. - - The principle is that even when contract comes to a premature end, the party should get amount proportional to the work done/services provided/goods supplied by one party. One party should not get enriched at the cost of other.

Contract of indemnity - A contract by which one party promises to save the other from loss caused to him by the conduct of the promisor himself, or by the conduct of any other person, is called a 'contract of indem­nity'. - - Illustration - A contracts to indemnify B against the consequences of any proceedings which C may take against B in respect of a certain sum of 200 rupees. This is a contract of indemnity. [section 124].

Contract of guarantee - A "contract of guarantee" is a contract to perform the promise, or discharge the liability, of a third person in case of his default. The person who gives the guarantee is called the "surety"; the person in respect of whose default the guarantee is given is called the "principal debtor", and the person to whom the guarantee is given is called the "creditor". A guarantee may be either oral or written. [section 126]. - - [Person giving guarantee is also called as 'guarantor'. However, Contract Act uses the word 'surety' which is same as 'guarantor']. - - Three parties are involved in contract of guarantee. Contract between any two of them is not a 'contract of guarantee'. It may be contract of indemnity. Primary liability is of the principal debtor. Liability of surety is secondary and arises when Principal Debtor fails to fulfill his commitments. However, this is so when surety gives guarantee at the request of principal debtor. If the surety gives guarantee on his own, then it will be contract of indemnity. In such case, surety has all primary liabilities.

Consideration for guarantee - Anything done, or any promise made, for the benefit of the principal debtor, may be sufficient consideration to the surety for giving the guarantee. - - Illustrations - (a) B requests A to sell and deliver to him goods on cred­it. A agrees to do so, provided C will guarantee the payment of the price of the goods. C promises to guarantee the payment in consideration of A's promise to deliver the goods. This is sufficient consideration for C's promise. (b) A sells and delivers goods to B. C afterwards requests A to forbear to sue B for the debt for a year, and promises that if he does so, C will pay for them in default of payment by B. A agrees to forbear as requested. This is a sufficient considera­tion for C's promise. (c) A sells and delivers goods to B. C afterwards, without consideration, agrees to pay for them in default of B. The agree­ment is void. [section 127].

Bailment - Bailment is another type of special contract. Since it is a 'contract', naturally all basic requirements of contract are applicable. - - Bailment means act of delivering goods for a specified purpose on trust. The goods are to be returned after the purpose is over. In bailment, possession of goods is transferred, but property i.e. ownership is not transferred. A "bailment" is the delivery of goods by one person to another for some purpose, upon a contract that they shall, when the purpose is accomplished, be returned or otherwise disposed of according to the directions of the person delivering them. The person delivering the goods is called the "bailor". The person to whom they are delivered is called the "bailee". - - Explanation : If a person already in possession of the goods of another, contracts to hold them as a bailee, he thereby becomes the bailee, and owner becomes the bailor, of such goods, although they may not have been delivered by way of bailment. [section 148]. [Thus, initial possession of goods may be for other purpose, and subsequently, it may be converted into a contract of bailment, e.g. seller of goods will become bailee if goods continue in his possession after sale is complete].

Bailment can be only of 'goods'. As per section 2(7) of Sale of Goods Act, 'goods' means every kind of movable property other than money and actionable claim. - - Thus, keeping money in bank account is not 'bailment'. Asking a person to look after your house or farm during your absence is not 'bailment', as house or farm is not a movable property.

Bailment of pledges - Pledge is special kind of bailment, where delivery of goods is for purpose of security for payment of a debt or performance of a promise. Pledge is bailment for security. Common example is keeping gold with bank/money lender to obtain loan. Since pledge is bailment, all provisions applicable to bailment apply to pledge also. In addition, some specific provisions apply to pledge. The bailment of goods as security for payment of a debt or performance of a promise is called "pledge". The bailor is in this case called the "pawnor". The bailee is called the "pawnee". [section 172].

Contract of Agency - Agency is a special type of contract. The concept of agency was developed as one man cannot possibly do every transaction himself. Hence, he should have opportunity or facility to transact business through others like an agent. The principles of contract of agency are - (a) Excepting matters of a personal nature, what a person can do himself, he can also do it through agent (e.g. a person cannot marry through an agent, as it is a matter of personal nature) (b) A person acting through an agent is acting himself, i.e. act of agent is act of Principal. - - Since agency is a contract, all usual requirements of a valid contract are applicable to agency contract also, except to the extent excluded in the Act. One important distinction is that as per section 185, no consideration is necessary to create an agency.

Agent and principal defined - An "agent" is a person employed to do any act for another or to represent another in dealings with third persons. The person for whom such act is done, or who is so represented, is called the "principal" [section 182].

Who may employ agent - Any person who is of the age of majority according to the law to which he is subject, and who is of sound mind, may employ an agent. [section 183]. - - Thus, any person competent to contract can appoint an agent.

Who may be an agent - As between the principal and third persons any person may become an agent, but no person who is not of the age of majority and of sound mind can become an agent, so as to be responsible to his principal according to the provisions in that behalf herein contained. [section 184]. - - The significance is that a Principal can appoint a minor or person of unsound mind as agent. In such case, the Principal will be responsible to third parties. However, the agent, who is a minor or of unsound mind, cannot be responsible to Principal. Thus, Principal will be liable to third parties for acts done by Agent, but agent will not be responsible to Principal for his (i.e. Agent's) acts.

Consideration not necessary - No consideration is necessary to create an agency. [section 185]. Thus, payment of agency commission is not essential to hold appointment of Agent as valid.

Authority of agent - An agent can act on behalf of Principal and can bind the Principal.

Agent's duty to Principal - An agent has following duties towards principal. * Conducting principal's business as per his directions * Carry out work with normal skill and diligence * Render proper accounts [section 213]. * Agent's duty to communicate with principal [section 214] * Not to deal on his own account, in business of agency [section 215]. * Agent's duty to pay sums received for principal [section 218] * Agent's duty on termination of agency by principal's death or insanity - [section 209].

Remuneration to Agent - Consideration is not necessary for creation of agency. However, if there is an agreement, an agent is entitled to get remuneration as per contract.

Rights of Principal - * Recover damages from agent if he disregards directions of Principal * Obtain accounts from Agent * Recover moneys collected by Agent on behalf of Principal * Obtain details of secret profit made by agent and recover it from him * Forfeit remuneration of Agent if he misconducts the business.

Duties of Principal - * Pay remuneration to agent as agreed * Indemnify agent for lawful acts done by him as agent * Indemnify Agent for all acts done by him in good faith * Indemnify agent if he suffers loss due to neglect or lack of skill of Principal.

Termination of Agency - An agency is terminated by the principal revoking his au­thority; or by the agent renouncing the business of the agency; or by the business of the agency being completed; or by either the principal or agent dying or becoming of unsound mind; or by the principal being adjudicated an insolvent under the provisions of any Act for the time being in force for the relief of insol­vent debtors. [section 201]. - - In following cases, an agency cannot be revoked - * Agency coupled with interest (section 202) * Agent has already exercised his authority (section 203) * Agent has incurred personal liability.