Oct 21,2020 | 10 min read

"Essentials And Drafting Of A Contract" - By Ramasamy Santhanakrishnan

I.   What is a Contract?

An agreement is an understanding between two parties, which contains obligations or promises which both parties need to fulfil. When two parties put into writing an agreement, and when such written agreement becomes enforceable by law, it becomes a Contract. Contracts in India is primarily governed by The Indian Contract Act, 1872 (Contract Act). The Contract Act defines a contract as “An agreement which is enforceable by Law”.

II.   Essentials of a Contract.

There are several strongly held ideological values underlying contract law, and its rules are motivated by conscious and deliberate public policy. Some of them are:

  • The Contract Act contains basic elements of a contract and several general rules which apply to contracts.
  • According to Section 10, “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.”

 a.   Offer and Acceptance.

A contract is born when there is an offer and such offer is accepted by the party to whom such offer was intended. There can be no contract unless an offer and acceptance. An offer means the willingness to do or not do something. There, however, is a difference between an offer and an invitation to offer. A party not making an offer, but making a statement indicating the availability of goods for another party to offer to buy the goods is only making an invitation to offer.

An offer made by a party has to be accepted by the party to whom it was intended. According to Section 2b of the Contract Act, When the person to whom the proposal is made signifies assent, the proposal is said to be accepted. A proposal, when accepted, becomes a promise.

 b.   Consensus ad-idem.

Consensus ad-idem means a meeting of minds. It means that parties should agree about the same and exact meaning and purpose of the contract.

 c.   Competent Parties.

While it requires two parties to create a contract; it should be noted that a contract is not confined to two participants. There can be as many parties to a contract as the needs of the transaction dictate. Parties entering into a contract, however, must be competent to contract. Which means they should be legally capable of contracting. As per Section 11 of the Contract Act, a person who is of the age of majority and is of sane mind, and not disqualified to contract by any law to which such person is subjected to, is competent to contract. This means a person who is 18 years of age and being in complete control of mental faculties and someone not expressly disqualified by any law, is free to contract.

 d.   Free Consent.

Agreements are contracts if made by free consent. According to Section 10 of the Contract Act, any contract is valid if it was entered into by free consent of the parties. Section 14 of the contract act defines free consent as consent not given under coercion, undue influence, fraud, misrepresentation and mistake. The presence of any of such elements renders a contract voidable at the option of the party whose consent was so obtained.

 i.   Coercion. Section 15 defines coercion as a commission of any act forbidden by The Indian Penal Code, 1860 or unlawful detention of property, or threatening to commit these acts. The acts amounting to coercion must be to the prejudice of the other.

ii.    Undue influence. As per Section 16, where the relations between the contracting parties in one where one party is in a dominant position as compared to the other and can dominate the will of the other person to obtain an unfair advantage, then the contract is induced by undue influence. Dominant position includes situations where one person holds real or apparent authority or where parties are in a fiduciary relationship.

iii.   Fraud. According to Section 17, fraud can be committed by one contracting party or by a party with the connivance of any contracting party or by the agent of any contracting party. Section 17(1) to 17(5) defines what constitutes fraud. 

Deliberate making of a false statement by a person who knows it is false; the concealing of any fact by the party who is aware of the existence of such fact; making a promise without the intention to perform; any act was done to deceive the other party and which the law specifically categorises as fraudulent; constitute fraud.

iv.   Misrepresentation. According to Section 18, making a false statement without the knowledge that it is not true; any breach of duty without an intention to deceive and causing a party to make a mistake, however, innocently; constitute misrepresentation.

v.  Mistake. Where both parties to an agreement are under a mistake to a matter of fact which is essential to the agreement, the agreement is considered void. However, if one of the parties alone is under a mistake as to a matter of fact, that would not make it voidable. A contract is also not voidable because it was caused by mistake as to any law in force in India. 

e.    Consideration.

The very essence of the contract is a reciprocal relationship in which each party gives up something to get something. Exchange, or the concept of consideration, continues to be the principal motivation for and inducement to contract. Consideration means any value given for the performance of a promise. It needs not necessarily be money, but it should be something which has been agreed by the parties and has some value.

f.    Lawful Object and Lawful Consideration.

Unlawful Object/Consideration are those that are either it is forbidden by law; or is of such a nature that, if permitted, it would defeat the provisions of any law; or is fraudulent; or involves or implies, injury to the person or property of another; or the Court regards it as immoral, or opposed to public policy. An agreement with an unlawful object is therefore not enforceable in law as a contract.

g.   Not expressly declared void.

The Contract act specifically declares a few classes of contract as void:

i.   According to Section 26, an agreement which in effect prevents, either party to marry, is void. An exception to this section is an agreement in restraint of marriage of a minor

ii.  According to Section 27, every agreement which restrains a person from exercising a lawful profession, trade or business of any kind is void to that extent.

iii.  According to Section 28, an agreement by which any party to the contract is completely or absolutely restricted in enforcing their rights before court or tribunals or which limits their time within which he may enforce his legal rights, is void. However, if a clause in a contract prevents a party to initiate a suit against the other party, but provides for arbitration when a dispute arises, then it is not void.

iv.  According to Section 29, Agreements, the meaning of which is not certain, or capable of being made certain, are void. A contract is said to be certain if its terms are capable of being understood. It should not be ambiguous or vague. 

v.   According to Section 30, wagering agreements are void, and no suit shall be brought for recovering anything won on any wager. No suit could be brought to make a person abide by the result of any game or any other uncertain event if such an event was the subject of a bet. 

III.  How to draft a Contract?

Now that the essentials of a contract are discussed, given below are some recommendations on how to draft a contract.

·    Before proceeding to write a contract, it is essential to make sure the person drafting, which in most cases is an attorney, is clear about what parts the contract must include and what situations the contract must cover.

·   The person drafting must know what in fact the parties want. It is recommended that an outline is first created and that all the needed pieces are included and are organized logically.

·    The language should be clear, leaving no room for ambiguity.

  • Use definitions wherever necessary. Referring to the same person, item or concept by two different terms creates an ambiguity that invites misunderstandings or misinterpretations. Future readers should know exactly what the document means. Define a concept, as soon as it is known that the person drafting will refer to the same concept more than once in a document. Use definitions when it also takes more than a few words to explain the concept. However, it is important not to get carried away. Some concepts are simple and basic enough. They are sufficiently well understood, and a definition may not be necessary.

·   Let each clause do one thing and not more.

·    A person drafting the contract should reconcile himself to writing as many drafts of the contract until all points are appropriately covered. Let the first draft be creative and imperfect. The subsequent drafts shall be rewritten and perfected while ensuring the time spent is affordable. After perfecting each clause in the contract, it is important to ensure there are no larger contradictions between parts of the contract.

The following shall be kept in mind while revising a draft:

·     Accuracy. Nothing replaces accuracy. The goal of drafting a transactional document is to make it speak unambiguously and accurately.

·     Organization. The paragraphs need to be internally logical. And the transitions between sentences and paragraphs need to be clear and precise.

·     Style. The style of the document needs to consistent.

·     Readability. Sentences shall not be too long. The text shall be concise. The document shall be clearly structured.

IV. Some standard provisions in a Contract.

The components of a contract will vary depending on the nature and complexity of the transaction it details. There are, however, some terms that are standard and usually appear in most contracts in some form or another.

i.    Title. The title should reflect the subject matter of the transaction.

ii.    Preamble (Recitals). Most transaction agreements begin with some form of a preamble that identifies the purpose of the document and describes the transaction, the intent of the parties and any assumed facts underlying the transaction.

iii.   Definitions. While the extent of the definition section may depend upon the nature of the agreement. Virtually all contracts will include some defined terms.

iv.   Consideration. The consideration should be explicitly stated.

v.    Covenants. The covenants memorialize the promises that are being made by the parties.

vi.   Representations and Warranties. Another fundamental value of contract law is that a person should be held accountable for their words or acts that manifest their intent and the other party, acting reasonably, should be entitled to rely on that manifestation. A person who has entered a contract has the right to rely on the undertakings that have been given.

Representations and warranties identify the assumed facts underlying the agreement. A warranty is a promise. A breach of warranty would result if the fact warranted is untrue. Representations are statements of facts. Many types of contracts contain “representation and warranties” sections that set forth statements and promises upon which the respective parties rely on while agreeing.

vii. Limitations on Warranties. A party, while entering into a contract, has the option of disclaiming all warranties other than those expressly specified in the contract. A party can also limit its liability by including clauses that provide: a monetary cap on damages; exclusion of certain kinds of damages etc.

viii. Indemnification. An indemnity is a promise by one party to take financial responsibility for damages that the other party may suffer as a result of the first party’s breach of its warranties under the agreement. The indemnification clause of the contract deals with the allocation and extent of liability in the event of non-performance or other breaches.

ix.   Breach and Cure. There is also a longstanding moral dimension of contract in law: that there is an ethical as well as legal obligation to keep one’s promises. However, it is necessary to identify what will constitute a breach and what will cure the same.

x.   Term. This clause identifies the period during which the obligations stipulated in the contract will affect.

xi. Termination. This section identifies the circumstances under which the parties can terminate the agreement and the procedures for termination. Some of the events that may trigger termination are

·     Insolvency, bankruptcy or liquidation

·     Merger of another party

·     Change of control of the other party

·     Changes in governmental regulations

·     Failure to meet certain specified performance levels.

xii.  Remedies. This clause specifies what the parties are entitled to in the event of breach or termination. Some of the remedies are damages, specific performance, etc. Damages are generally designed to compensate the non-breaching party. Damages may be compensatory, consequential, punitive or nominal. The victim of the breach may also seek a court order to force the breaching party to perform the following contract terms.

xiii.  Force Majeure. Force majeure is a term used to describe a “superior force” event. Force majeure clauses allocate risk and put the parties on notice of events that may suspend or excuse service. Typical force majeure provisions include: “acts of God”, superseding governmental authority, civil strife and labour disputes.

xiv.  Forum Selection. A hallmark of contracts is that it creates rules binding on the parties and confers on them rights and obligations cognizable in law. The absence of legal enforceability of promises can only have devastating effects. Where promises are broken, the power of legal enforcement enables the victim to sue. Forum selection clauses specify the place where lawsuits will be filed in the event a dispute arises between the parties to a contract. Specifically, the parties utilize such clauses to expressly agree to litigate all disputes arising from the contract in a specific jurisdiction and venue.

xv.  Choice of Law. Parties may also agree on which laws will govern their contract.

xvi.  Alternative Dispute Resolution. Many types of agreements contain alternative dispute resolution clauses that obligate the parties to submit their disputes to arbitration or mediation rather than litigation. Alternative dispute resolution procedures are often cost and time effective than traditional litigation. Through the use of alternative dispute resolution clauses, the parties can agree to such specific matters as: whether the arbitration will be binding or non-binding; how the arbitration provision is to be triggered; where the arbitration would take place; which rules will govern the arbitration proceedings; and the selection of the arbitrators.

xvii.  Integration (Entire Agreement Clause). It is customary to provide that the agreement constitutes the entire agreement between the parties. The purpose of this clause is to state for the record that there are no representations, warranties, terms or conditions between the parties other than those set out in the agreement.

xviii.  Waiver. There may be times when the parties want to waive a breach or default of a provision of the agreement. A clause dealing with this circumstance usually provides that a waiver of a breach or default will not constitute a waiver of a succeeding breach or default of the same provision, or that a delay or omission in exercising any right under the agreement does not constitute a waiver of that right.

xix.  Time is of the Essence. A clause can also be inserted to provide that, concerning certain events, time is of the essence. This means that time periods and limitations must be strictly observed or else the contract is terminated.

xx.  Amendments. Sometimes the parties want to change the agreement. A typical amendments clause would state that the agreement may be amended only in writing and must be agreed to by an authorized representative of both parties.

xxi. Independent Parties. This clause typically provides that the agreement will not create a legal relationship between the contracting parties (such as a partnership, joint venture, franchise or any other form of business organization or relationship).

xxii. Survival. This clause provides for the survival of an obligation after the termination of the contract.

xxiii. Severability. It is possible that a part of the agreement can be ruled by a court to be invalid, illegal or unenforceable. This clause provides for such possibility and to provide that the remainder of the agreement can remain in full force and effect.

xxiv. Assignment. It is not uncommon for a party to wish to assign certain rights to payment or performance to a third party. These terms are clearly agreed to in this clause.  

xxv. Contract Interpretation. Problems arise in cases where the parties fail to express their assent adequately or leave a material aspect of their agreement vague or ambiguous. Vagueness results when a term is stated so obscurely or in such general language that one cannot reasonably determine what it means. The interpretation clause provides for such situations where it clarifies its language.

xxvi. Schedules. Some details are ideal to be put in the form of schedules.

xxvii. Signatures. The agreement shall be signed by the parties or authorized representative of the parties to the agreement. Certain agreements require attestation by two witnesses or notarization by an officer called a Notary Public.

V.   Conclusion.

The requirements and obligations of every party in each transaction is of paramount importance in drafting a contract. Given above are the basic principles to be fulfilled and ensured before presenting any contract for execution. Apart from what is discussed above, the nature of each contract would decide the requirement of stamping and registration with appropriate authorities. It is highly recommended that an attorney is consulted for the same. Each transaction is unique and each person while drafting a contract for the same, shall ensure the above and be confident of the draft that s/he shall present.

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