Chapter 4: Unit 10 - General Contract Law (Notes)

Bilateral Vs. Unilateral

A bilateral contract is one in which both parties promise to perform their respective parts of an agreement in exchange for performance by the other party. An example of a bilateral contract is an earnest money contract: The buyer promises to pay for the property and the seller promises to deliver title to the property. In a unilateral contract, only one party promises to do something, provided the other party does something. The latter party is not obligated to perform any act, but the promising party must fulfill the promise if the other party chooses to perform. An option is an example of a unilateral contract: in an option-to-buy, the party offering the option (optionor) promises to sell a property if the optionee decides to exercise the option. While the potential buyer does not have to buy, the owner must sell if the option is exercised. In some states, promulgated contract forms allow options. The optionee has the right to terminate the contract at any time during the option period. In many options, the optionee has to pay an option fee, which is not refunded if the contract is terminated.

Breach of Contract

A breach of contract is a failure to perform according to the terms of the agreement. Also called default, a breach of contract gives the damaged party the right to take legal action, subject to any time limits created by the state's statute of limitations or other legislation. The damaged party may elect the following legal remedies: rescission forfeiture suit for damages suit for specific performance Rescission A damaged party may rescind the contract. This cancels the contract and returns the parties to their pre-contract condition, including the refunding of any monies already transferred. Forfeiture Forfeiture requires the breaching party to give up something, according to the terms of the contract. For example, a buyer who defaults on a sales contract may have to forfeit the earnest money deposit. Suit For Damages A damaged party may sue for money damages in civil court. The suit must be initiated within the time period allowed by the statute of limitations. When a contract states the total amount due to a damaged party in the event of a breach, the compensation is known as liquidated damages. If the contract does not specify the amount, the damaged party may sue in court for unliquidated damages. Suit For Specific Performance A suit for specific performance is an attempt to force the defaulting party to comply with the terms of the contract. Specific performance suits occur when it is difficult to identify damages because of the unique circumstances of the real property in question. The most common instance is a defaulted sale or lease contract where the buyer or seller wants the court to compel the defaulting party to go through with the transaction, even when the defaulter would prefer to pay a damage award. Sometimes a contract does not accurately reflect the intentions of the parties because of some mechanical or clerical error in the document. When this happens, a legal action called a reformation is necessary to correct or modify the contract.

Oral Vs. Written

A contract may be in writing or it may be an oral, or parol, contract. Certain oral contracts are valid and enforceable; others are not enforceable, even if valid. (most states require listing agreements, sales contracts, and leases exceeding one year to be in writing to be enforceable.)

Valuable Consideration (Contract Validity Criteria)

A contract must contain a two-way exchange of valuable consideration as compensation for performance by the other party. The exchange of considerations must be two-way. The contract is not valid or enforceable if just one party provides consideration. (a homebuilder may promise to build a house for a party as consideration for receiving money from the homebuyer. Or, a landowner may agree not to sell a property as consideration for a developer's option money. Also, valuable consideration can be something intangible that a party must give up, such as a homeowner's occupancy of the house in exchange for rent. In effect, consideration is the price one party must pay to obtain performance from the other party.) Valuable consideration may be contrasted with good consideration, or "love and affection," which does not qualify as consideration in a valid contract. Good consideration is something of questionable value, such as a child's love for her mother. Good consideration disqualifies a contract, because while one's love or affection is certainly valuable to the other party, it is not something that is specifically offered in exchange for something else. Good consideration can, however, serve as a nominal consideration in transferring a real property interest as a gift. In some cases, what is promised as valuable consideration must also be deemed to be sufficient consideration. Grossly insufficient consideration, such as $50,000 for a $2 million property, may invalidate a contract on the grounds that the agreement is a gift rather than a contract. In other cases where there is an extreme imbalance in the considerations exchanged, a contract may be invalidated as a violation of good faith bargaining.

Performance (Forms of Contract Termination)

A contract terminates when fully performed by the parties. It may also terminate for: partial performance, if the parties agree sufficient performance, if a court determines a party has sufficiently performed the contract, even though not to the full extent of every provision

Abandonment (Forms of Contract Termination)

Abandonment occurs when parties fail to perform contract obligations. This situation may allow the parties to cancel the contract.

Revocation of an Offer

An offer may be revoked, or withdrawn, at any time before the offeree has communicated acceptance. The revocation extinguishes the offer and the offeree's right to accept it. (a buyer has offered to purchase a house for the listed price. Three hours later, a family death radically changes the buyer's plans. She immediately calls the seller and revokes the offer, stating she is no longer interested in the house. Since the seller had not communicated acceptance of the offer to the buyer, the offer is legally cancelled.)

Lapse of Time (Forms of Contract Termination)

If a contract contains an expiration provision and date, the contract automatically expires on the deadline.

Invalidity of Contract (Forms of Contract Termination)

If a contract is void, it terminates without the need for disaffirmation. A voidable contract can be cancelled by operation of law or by rescission.

Validity of A Conveyance Contract (Contract Validity Criteria)

In addition to satisfying the foregoing requirements, a contract that conveys an interest in real estate must: - be in writing - contain a legal description of the property - be signed by one or more of the parties A lease contract that has a term of one year or less is an exception. Such leases do not have to be in writing to be enforceable.

Mutual Agreement (Forms of Contract Termination)

Parties to a contract can agree to terminate, or renounce, the contract. If the parties wish to create a new contract to replace the cancelled contract, they must comply with the validity requirements for the new contract. Such substitution is called novation.

Contracts

Real estate contracts are the legal agreements that underlie the transfer and financing of real estate, as well as the real estate brokerage business. Sale and lease contracts and option agreements are used to transfer real estate interests from one party to another. Mortgage contracts and promissory agreements are part of financing real estate. Listing and representation contracts establish client relationships and provide for compensation. A contract is an agreement between two or more parties who, in a "meeting of the minds," have pledged to perform or refrain from performing some act. A valid contract is one that is legally enforceable by virtue of meeting certain requirements of contract law. If a contract does not meet the requirements, it is not valid and the parties to it cannot resort to a court of law to enforce its provisions. Note that a contract is not a legal form or a prescribed set of words in a document, but rather the intangible agreement that was made in "the meeting of the minds" of the parties to the contract.

Cooling-Period Rescission (Forms of Contract Termination)

Rescission is the act of nullifying a contract. In many states, parties to certain contracts are allowed a statutory amount of time after entering into a contract, or "cooling period", to rescind the contract without cause. No reason need be stated for the cancellation, and the canceling party incurs no liability for performance. (consider the unsuspecting buyer of a lot in a new resort development. Such buyers are often the targets of hard-sell tactics, which lead to a completed sales contract and a deposit. The statutory cooling period gives the buyer an opportunity to reconsider the investment in the absence of the persistent salesperson.)

Revocation (Forms of Contract Termination)

Revocation is cancellation of the contract by one party without the consent of the other. (a seller may revoke a listing to take the property off the market. While all parties have the power to revoke, they may not have a defensible right. In the absence of justifiable grounds, a revocation may not relieve the revoking party of contract obligations.) (a seller who revokes a listing without grounds may be required to pay a commission if the broker found a buyer, or reimburse the broker's marketing expenses if no buyer was found.)

Assignment of a Contract

A real estate contract that is not a personal contract for services can be assigned to another party unless the terms of the agreement specifically prohibit assignment. Listing agreements, for example, are not assignable, since they are personal service agreements between agent and principal. Sales contracts, however, are assignable, because they involve the purchase of real property rather than a personal service.

Valid (Legal Status)

A valid contract is one which meets the legal requirements for validity. These requirements are explained in the next section. A valid contract that is in writing is enforceable within a statutory time period. A valid contract that is made orally is also generally enforceable within a statutory period, with the exceptions noted below.

Void (Legal Status)

A void contract is an agreement that does not meet the tests for validity, and therefore is no contract at all. If a contract is void, neither party can enforce it. (a contract that does not include consideration is void. Likewise, a contract to extort money from a business is void.) Void contracts and instruments are also described as "null and void."

Voidable (Legal Status)

A voidable contract is one which initially appears to be valid, but is subject to rescission by a party to the contract who is deemed to have acted under some kind of disability. Only the party who claims the disability may rescind the legal effect of the contract. (A party who was the victim of duress, coercion, or fraud in creation of a contract, and can prove it, may disaffirm the contract. However, the disaffirmation must occur within a legal time frame for the act of rescission to be valid. Similarly, if the party who has cause to disaffirm the contract elects instead to perform it, the contract is no longer voidable but valid.) A voidable contract differs from a void contract in that the latter does not require an act of disaffirmation to render it unenforceable.

Adhesion

An adhesion contract is one dictated by the party who has the greater bargaining advantage. It gives the weaker party only the options of accepting or rejecting the contract. Such contracts are not necessarily unconscionable, as they may not unfairly exploit the assenting party. However, courts sometimes refuse to enforce contracts of adhesion on the grounds that there was no true meeting of the minds or no true offer and acceptance because the purchaser had no choice but to accept.

Aleatory

An aleatory contract is one whose effects are triggered by the occurrence of a chance event ("aleatory" means "dependent on chance"). Insurance policies are aleatory contracts in that the insured only receives the proceeds of the policy if a specified event, such as an accident, fire, or death, occurs.

Executed Vs. Executory

An executed contract is one that has been fully performed and fulfilled: neither party bears any further obligation. A completed and expired lease contract is an executed contract: the landlord may re-possess the premises, and the tenant has no further obligation to pay rent. An executory contract is one in which performance is yet to be completed. A sales contract prior to closing is executory: while the parties have agreed to buy and sell, the buyer has yet to pay the seller and the seller has yet to deed the property to the buyer.

Express Vs. Implied

An express contract is one in which all the terms and covenants of the agreement have been manifestly stated and agreed to by all parties, whether verbally or in writing. An implied contract is an unstated or unintentional agreement that may be deemed to exist when the actions of any of the parties suggest the existence of an agreement. (an implied contract is an implied agency agreement. In implied agency, an agent who does not have a contract with a buyer performs acts on the buyer's behalf, such as negotiating a price that is less than the listing price. In so doing, the agent has possibly created an implied contract with the buyer, albeit unintended. If the buyer compensates the agent for the negotiating efforts, the existence of an implied agency agreement becomes even less disputable)

Offer

An offer expresses the offeror's intention to enter into a contract with an offeree to perform the terms of the agreement in exchange for the offeree's performance. In a real estate sale or lease contract, the offer must clearly contain all intended terms of the contract in writing and be communicated to the offeree. If an offer contains an expiration date and the phrase "time is of the essence," the offer expires at exactly the time specified. In the absence of a stated time period, the offeree has a "reasonable" time to accept an offer.

Acceptance

An offer gives the offeree the power of accepting. For an acceptance to be valid, the offeree must manifestly and unequivocally accept all terms of the offer without change, and so indicate by signing the offer, preferably with a date of signing. The acceptance must then be communicated to the offeror which is demonstrated by the delivery of the signed contract to all parties in the transaction. If the communication, delivery of acceptance is by mail, the offer is considered to be communicated as soon as it is placed in the mail. In many states, all offers that are delivered to the seller's agent must be delivered to the seller. In instances where the seller has instructed his or her agent not to bring offers below a certain price, a contract does not have to be delivered. Offers that come after an acceptance do not have to be delivered either.

Infeasibility (Forms of Contract Termination)

An otherwise valid contract can be canceled if it is not possible to perform. Certain personal services contracts, for example, depend on the unique capabilities of one person, which cannot be substituted by someone else. If such a person dies or is sufficiently disabled, the contract is cancelable.

Unconscionable

An unconscionable contract is one that unduly favors the party with superior bargaining power. It is one that a mentally competent person or honest person would normally reject. Because of the inequality of bargaining power, the element of voluntary participation without duress may be deemed to be absent. Most contracts of this type occur in consumer transactions and limit the rights of the buyer to seek court relief against the seller or disclaim any warranty that the purchaser may rely upon. A court may look at the relative circumstances of the parties at the time of contracting to determine whether it would be an affront to the judicial system to enforce such a contract.

Termination of Offer

Any of the following actions or circumstances can terminate an offer: - acceptance: the offeree accepts the offer, converting it to a contract - rejection: the offeree rejects the offer - revocation: the offeror withdraws the offer before acceptance - lapse of time: the offer expires - counteroffer: the offeree changes the offer - death or insanity of either party

Counteroffer

By changing any of the terms of an offer, the offeree creates a counteroffer, and the original offer is void. At this point, the offeree becomes the offeror, and the new offeree gains the right of acceptance. If accepted, the counteroffer becomes a valid contract provided all other requirements are met. (a seller changes the expiration date of a buyer's offer by one day, signs the offer and returns it to the buyer. The single amendment extinguishes the buyer's offer, and the buyer is no longer bound by any agreement. The seller's amended offer is a counteroffer which now gives the buyer the right of acceptance. If the buyer accepts the counteroffer, the counteroffer becomes a binding contract.)

Statute of Limitations

Certain contracts that fail to meet the validity requirements are voidable if a damaged party takes appropriate action. The enforcement of voidable contracts, however, is limited by statutes of limitation. Certain other contracts which are valid may not be enforceable due to the statute of frauds. The statute of limitations restricts the time period for which an injured party in a contract has the right to rescind or disaffirm the contract. A party to a voidable contract must act within the statutory period.

Mutual Consent (Contract Validity Criteria)

Mutual consent, also known as offer and acceptance and meeting of the minds, requires that a contract involve a clear and definite offer and an intentional, unqualified acceptance of the offer. In effect, the parties must agree to the terms without equivocation. A court may nullify a contract where the acceptance of terms by either party was partial, accidental, or vague.

Valid But Unenforceable (Legal Status)

State laws declare that some contracts are enforceable only if they are in writing. These laws apply in particular to the transfer of interests in real estate. Thus, while an oral contract may meet the tests for validity, if it falls under the laws requiring a written contract, the parties will not have legal recourse to enforce performance. An oral long-term lease and an oral real estate sales contract are examples of contracts that may be valid but not enforceable. Note that such contracts, if valid, remain so even though not enforceable. This means that if the parties fully execute and perform the contract, the outcome may not be altered.

Contract Preparation

State laws define the extent to which real estate brokers and agents may legally prepare real estate contracts. Such laws, referred to as "broker-lawyer accords," also define what types of contracts brokers and agents may prepare. In some states, brokers and agents may not draft contracts, but they may use standard promulgated forms and complete the blanks in the form. As a rule, a broker or agent who completes real estate contracts is engaging in the unauthorized practice of law unless the broker is a party to the agreement, such as in a listing agreement or sales contract. Brokers and agents may not complete leases, mortgages, contracts for deed, or promissory notes to which they are not a party. Agents must be fully aware of what they are legally allowed to do and not do in preparing and interpreting contracts for clients. In addition to practicing law without a license, agents expose themselves to lawsuits from clients who relied on a contract as being legally acceptable.

Statute of Frauds

The Statute of Frauds requires that certain contracts must be in writing to be enforceable. Real estate contracts that convey an interest in real property fall in this category, with the exception that a lease of one year's duration or less may be oral. All other contracts to buy, sell, exchange, or lease interests in real property must be in writing to be enforceable. In addition, listing agreements in most states must be in writing. The statute of frauds concerns the enforceability of a contract, not its validity. Once the parties to a valid oral contract have executed and performed it, even if the contract was unenforceable, a party cannot use the Statute of Frauds to rescind the contract. (a broker and a seller have an oral agreement. Following the terms of the agreement, the broker finds a buyer, and the seller pays the commission. They have now executed the contract, and the seller cannot later force the broker to return the commission based on the statute of frauds.) The Uniform Electronic Transactions Act makes it legal in many states to use electronic signatures in electronic transactions. These are enforceable documents in complying states.

Legal Purpose (Contract Validity Criteria)

The content, promise, or intent of a contract must be lawful. A contract that proposes an illegal act is void.

Offer and Acceptance

The mutual consent required for a valid contract is reached through the process of offer and acceptance: The offeror proposes contract terms in an offer to the offeree. If the offeree accepts all terms without amendment, the offer becomes a contract. The exact point at which the offer becomes a contract is when the offeree gives the offeror notice of the acceptance.

Voluntary, Good Faith Act (Contract Validity Criteria)

The parties must create the contract in good faith as a free and voluntary act. A contract is thus voidable if one party acted under duress, coercion, fraud, or misrepresentation. (if a property seller induces a buyer to purchase a house based on assurances that the roof is new, the buyer may rescind the agreement if the roof turns out to be twenty years old and leaky.)

Competent Parties (Contract Validity Criteria)

The parties to a contract must have the capacity to contract and there must be at least two such parties. Thus, the owner of a tenancy for life cannot deed his interest to himself in the form of a fee simple, as this would involve only one party. Capacity to contract is determined by three factors: legal age mental competency legitimate authority Depending on state law, a contract involving a minor as a party may be either void or voidable. If the law allows a minor to contract, the contract will generally be voidable and the minor can disaffirm the contract. To be mentally competent, a party must have sufficient understanding of the import and consequences of a contract. Competency in this context is separate and distinct from sanity. Incompetent parties, or parties of "unsound mind," may not enter into enforceable contracts. The incompetency of a party may be ruled by a court of law or by other means. In some areas, convicted felons may be deemed incompetent, depending on the nature of the crime. During the period of one's incompetency, a court may appoint a guardian who may act on the incompetent party's behalf with court approval. If the contracting party is representing another person or business entity, the representative must have the legal authority to contract. If representing another person, the party must have a bona fide power of attorney. If the contracting party is representing a corporation, the person must have the appropriate power and approval to act, such as would be conferred in a duly executed resolution of the Board of Directors. If the contracting entity is a general partnership, any partner may validly contract for the partnership. In a limited partnership, only general partners may be parties to a contract.

Operation of Law

The rights and liabilities of parties to a contract may be changed by the application of law. The Statute of Limitations restricts the time period for which an injured party in a contract has the right to bring a lawsuit against the other party. When a person files for bankruptcy, the person's obligations under existing contracts are terminated as of the filing date.