Capacity and Legality Terms

Chapter 13: Capacity and Legality

Terms

• Contractual Capacity: legal ability to enter into a contractual relationship.
• Age of Majority: for contractual purposes is 18 years old
• Emancipation: occurs when a child’s parent or legal guardian relinquishes the legal right to exercise control over the child
• Disaffirmance: the legal avoidance of a contractual obligation
• Necessaries: items that fulfill basic needs, such as food, a level of value required to maintain the minor’s standard of living or financial and social status
• Ratification: is the act of accepting and giving legal force to an obligation that previously was not enforceable
• Lucid Interval: a temporary restoration of sufficient intelligence, judgment, and will
• Usury: A lender who makes a loan at an interest rate above the lawful maximum
• Unconscionable: unscrupulous or grossly unfair as to be “void of conscience”
• Adhesion Contract: a contract written exclusively by one party (the dominant party, seller or creditor) on a take-it-or-leave-it basis
• Exculpatory Clauses: clauses that release a party from liability in the event of monetary or physical injury no matter who is at fault.
• Discriminatory Contracts: contracts in which a party promises to discriminate on the basis of race, color, national origin, religion, gender, age, or disability are contrary to both statute and public policy. They are also unforceable.

Section 1: Contractual Capacity

Minors

• For business purposes, a minor may petition a court to be treated as an adult
• General rule is that a minor can enter into any contract that an adult can, provided that the contract not one prohibited by law for minors (Example: the sale of tobacco or alcohol)
• A contract entered into by a minor is voidable at the option of that minor, subject to certain exceptions.
• A Minor’s Right to Disaffirm:
  • To disaffirm a contract a minor must express their intent through words or conduct. Must disaffirm the entire contract, not a portion.
  • Example: the minor cannot decide to keep part of the goods purchased under a contract and return the remaining goods.
  • Contract can be disaffirmed at any time during minority or for a reasonable time after reaching majority
  • An adult who enters into a contract with a minor cannot avoid their contractual duties on the ground that the can do so, unless the minor disaffirms the contract
• A Minor’s Obligations on Disaffirmance
  • Although all state’s law permit minors to disaffirm contracts, states differ on the extent of a minor’s obligations on disaffirmance
  • Majority Rule:
    • Courts in a majority of states hold that the minor need only return the goods subject to the contract. Example: Jim a 17 year old, purchases a computer from Radio Shack. While transporting the computer to his home, Jim negligently drops it, breaking the plastic casing.  Next day he returns it and disaffirms the contract.  Under the majority view, this return fulfills Jim’s duty even though the comp is now damaged.  Jim is entitled to receive a refund of the purchase price
  • Minority Rule:
    • The duty to restore the adult party to the position that they held before the contract was made. Example: 16 year old Joe bought a pickup truck for $4900 from a used car dealer. Although the truck developed mechanical problems nine months later, Joe continued to drive it until the engine blew up and the truck stopped running.  Joe disaffirmed the contract and attempted to return the truck to the dealer for a full refund of the purchase price.  When the dealer refused to accept the pickup or refund the money, Joe filed a lawsuit.  Tennessee Supreme court allowed the disaffirmance, but required him to compensate the seller for the depreciated value of the truck. 
  • Exceptions to a Minor’s Right to Disaffirm
    • Some contract can’t be disaffirm. Example: marriage contracts and contracts to enlist in the armed services
    • Misrepresentation of Age
      • Can be bound to a contract. Some states prohibits disaffirmance, others prohibits disaffirmance by a minor who has engaged in business as an adult, others refuse to disaffirm executed (fully performed) contracts unless they can return the consideration received.
    • Contracts for Necessaries
      • A minor who enters into a contract for necessaries may disaffirm the contract but remains liable for the reasonable value of the goods
      • What is considered a necessary depends if the minor is under the care of his parents, who required by law to provide necessaries for the minor
      • For a contract to qualify as a contract for necessaries, the item contracted for must be necessary for the minor’s subsistence, the value of the necessary item must be up to a level required to maintain the minor’s standard of living or financial and social status, and the minor must not be under the care of a parent or guardian who is required to supply this item.  Unless these 3 requirements are met, the minor can disaffirm the contract without being liable for the reasonable value of the goods used.
    • Insurance and Loans
      • Some jurisdictions prohibit the right to disaffirm insurance contracts. Example: when minors contract for life insurance on their own lives. Financial loans seldom considered to be necessaries
    • Ratification
      • A minor who has reached the age of majority can ratify a contract
      • Express Ratification takes place when the individual states orally or in writing that they intend to be bound by the contract
      • Implied Ratification takes place when the minor indicates an intent to abide by the contract
      • Example: Lin enters a contract to sell her laptop to Bill, a minor. If, on reaching the age of majority, Bill writes a letter to Lin stating that he still agrees to buy the laptop (Expressly).  If, instead, Bill takes possession of the laptop as a minor and continues to use it well after reaching the age of majority, he has impliedly ratified.
      • A contract that is executed is presumed ratified. A contract that is executor normally is considered disaffirmed.
    • Parent’s Liability
      • A general rule, parents are not liable for contracts made by minor children acting on their own. This is why businesses usually require parents to cosign any contract made with a minor.
      • Normally, minors are personally liable for their own torts

Intoxication

• A contract entered into by an intoxicated person can be either voidable o valid.
• If the person was sufficiently intoxicated to lack mental capacity, then the contract may be voidable. For the contract to be voidable, the person must prove that the intoxication impaired their judgment so severely that they didn’t comprehend the legal consequences.
• If despite intoxication, the person understood the legal consequences of the agreement, the contract will be enforceable. The fact that the terms of the contract are foolish or obviously favor the other party doesn’t make the contract voidable (unless the other party fraudulently induced the person to become intoxicated)
• Courts rarely permit contracts to be avoided on the ground of intoxication because it is difficult to determine whether a party was sufficiently intoxicated.
• Disaffirmance
  • If a contract is voidable because of a person’s intoxication, that person has the option of disaffirming it while intoxicated and for a reasonable time after becoming sober.
  • To avoid the contract in most states, the person claiming intoxication must be able to return all consideration received.
• Ratification
  • After becoming sober, the person may ratify a contract expressly or impliedly, just as a minor may do on reaching majority.

Mental Incompetence

• When the contract will be void
  • If a court has previously determined that a person is mentally incompetent and has appointed a guardian to represent the individual, anycontract made by the mentally incompetent person is void—no contract exists. Only a guardian can enter in binding legal obligations.
• When the contract will be voidable
  • If a court has not previously judged a person to be mentally incompetent but in fact the person was incompetent at the time the contract was formed, the contract may be voidable. A contract is voidable if the person didn’t know they were entering into the contract or lacked the mental capacity to comprehend its nature, purpose, and consequences.
  • Example: Milo, who had not been previously declared incompetent by a judge, agrees to sell twenty lots in a prime residential neighborhood to Bill. At the time of entering the contract, Milo is mentally incompetent and is confused over which lots he is selling and how much they are worth.  As a result, he contracts to sell the properties for substantially less than their market value.  If the courts find Milo was unable to understand the nature and consequences of the contract, Milo can avoid the sale, provided that he returns any consideration he received. 
• When the contract will be valid
  • A contract entered into by a mentally incompetent person (whom a court has not previously declared incompetent) may also be valid if the person had capacity at the time the contract was formed.

Legality

Contracts Contrary to Statute

• Contracts to Commit a Crime
  • Any contract to commit a crime is a contract in violation of a statute. Thus a contract to sell an illegal drug and to provide inside info regarding the sale of securities is not unenforceable. Should the object or performance of the contract be rendered illegal by statute after the contract has been entered into, the contract is considered to be discharged by law.
• Usury
  • Place a ceiling on allowable rates of interest, exceptions have been made to facilitate business transactions
  • Example: many states exempt corporate loans from the usury laws, and nearly all states allow higher interest rate loans for borrowers who could not otherwise obtain funds
• Gambling
  • Creating of risk for the purpose of assuming it
• Sasbbath (Sunday) Laws
  • Prohibit the formation or performance of certain contracts on a Sunday (AKA Blue Law). Got its name from the blue paper on which the New Haven, Connecticut printed its town ordinance in 1781 that prohibited work and required businesses to close
  • If the contract was entered on Sunday, it can be ratified during a weekday
• Licensing Statutes
  • All states require that members of certain professions obtain licenses allowing them to practice (physicians, lawyers, architects, etc.)
  • When a person enters into a contract with an unlicensed individual, the contract may still be enforceable, depending on the nature of the licensing statute.

Contracts Contrary to Public Policy

• Contracts in Restraint of Trade (anticompetitive agreements)
  • Usually adversely affect the public policy that favors competition in the economy
  • Covenant Not to Compete (restrictive covenant) and the Sale of an Ongoing Business
    • Covenants (promises) not to compete are often contained as secondary clauses in contracts concerning the sale of an ongoing business
    • A covenant not to compete is created when a seller agrees not to open a new store in certain geographic area surrounding the existing store
    • Example: a well-known merchant sells her store and opens a competing business a block away, many customers will likely do business at the merchant’s new. This in turn renders less valuable the good name and rep purchased for a price by the new owner of the old store
  • Covenants not to Compete in Employment Contracts
    • Agreements not to compete (sometimes referred to as noncompete agreements) can also be contained in employment contracts. Ppl in the middle or upper level management positions commonly agree not to work for competitors or not to start competing businesses for a specified period of time after termination of employment
    • Enforcement problems
      • Varies from state to state
    • Unconscionable Contracts of Clauses
      • A court doesn’t usually look at the fairness or equity of a contract. Is void for reasons of public policy. Example: the courts generally don’t inquire into the adequacy of consideration.  Persons are assumed to be reasonably intelligent, and the courts will not come to their aid just because they have made an unwise or foolish bargain.
      • Procedural Unconscionability
        • this occurs if a contract is entered into because of a party’s lack of knowledge or understanding of the contract
        • Has to do with how a term becomes part of a contract and involves factors that make it difficult for a party to know of understand the contract terms (factors courts consider) . Example: inconspicuous print, inintelligible language (“legalese”) or the lack of an opportunity to read the contract or to ask questions about its meaning
      • Substantive Unconscionability
        • Characterizes those contracts, or portions of contracts, tht are oppressive or overly harsh.
        • Courts generally focus on provisions that deprive one party of the benefits of the agreement or leave that party without remedy for nonperformance by the other. Example: suppose that a person with little income and with only a fourth-grade education agrees to purchase a fridge for $4000 and signs a two year installment contract. The same type of fridge usually sells for $900 on the market.  Some courts have held this type of contract to be unconscionable because the contract terms are so oppressive as to “shock conscience” of the court
      • Exculpatory Clauses
        • Example: an employer from liability for any injuries to those employees. A court would usually hold the exculpatory clauses found in rental agreements for commercial property are frequently held to be contrary to public policy, and suck clauses are almost always unenforceable in residential property lease.
      • Discriminatory Contracts
        • Example: if a property owner promises in a contract not to sell the property to a member of a particular race, the contract is unenforceable.

Effect of Illegality

• An illegal contract is void
• In most illegal contracts, both parties are considered to be in pari delicto(equally at fault)
• Exceptions to the General Rule
  • There are exceptions to the general rule that neither party to an illegal bargain can sue for breach and that neither party can recover for performance rendered
  • Justifiable Ignorance of the Facts:
    • When one of the parties is relatively innocent, that party can often recover any benefits conferred in a partially executed contract
    • Courts will not enforce the contract but will allow the parties to return to their original positions
    • An innocent party who has fully performed under the contract may sometimes enforce the contract against the guilty person. Example: a trucking company contracts with Gillespie to carry goods to a specific destination for a normal fee of $5000.  The trucker delivers the goods and later finds out that the contents of the shipped crates were illegal.  Althugh the law specifies that the shipment, use and sale of the goods were illegal, the trucker, being an innocent party can still legally collect $5,000 from Gillespie
  • Members of Protected Classes
    • When a statute is clearly designed to protect a certain class of people, a member of that class can enforce a contract in violation of the statute even though the other party cannot. Example: flight attendants and pilots are subject to a federal statute that prohibits them from flying more than a certain number of hours every month.  If an attendant or a pilot exceeds the max, the airline must nonetheless pay for those extra hours of service.
  • Withdrawal from an Illegal Agreement
    • If an agreement has been only partly carried out and the illegal portion of the bargain has not yet been performed, the party rendering performance can withdraw from the contract and recover the performance or its value. Example: Same and Jim decide to wager (illegally) on the outcome of a boxing match. Each deposits money with the stakeholder, who agrees to pay the winner of the bet.  At this point, each party has performed part of the agreement, but the illegal element of the agreement will not occur until the funds are paid to the winner. 
  • Contract Illegal through Fraud, Duress, or Undue Influence
    • Often, one party to an illegal contract is more at fault than the other. When a party has induced to enter into an illegal bargain by fraud, duress, or undue influence on the part of the other party to the agreement, that party will be allowed to recover for the performance or its value.
  • Severable, or Divisible, Contracts
    • A contract that is severable, or divisible, consists of distinct parts that can be performed separately, with separate consideration provided for each part. In contrast, a contract is indivisible when the parties intend that complete performance by each party will be essential, even if the contract contains a number of seemingly separate provisions. Example: Suppose that cole signs an employment contract that includes an overly broad and this illegal covenant not to compete.  In that situation, the court might allow the employment contract to be enforceable but reform the unreasonably broad covenant by converting its terms into reasonable ones.