Do you know what is the term used for the legal ability to enter into a binding contract? It is "contractual capacity". Contractual capacity refers to the mental and legal competence of an individual to understand and commit to the terms and obligations of a contract.
Contracts play a crucial role in everyday transactions, but not everyone has the legal authority to enter into them. This explainer delves into the concept of contractual capacity, identifying who possesses it and which doesn’t, and its broader implications.
Contractual capacity refers to the legal ability of an individual to enter into a binding contract. This ability means that the person or their company, if they have the authority, can commit to the obligations and consequences outlined in the contract.
Contractual capacity is one of the essential elements of a legally binding contract. Along with offer, acceptance, consideration, and legality, it forms the foundation of contract law in the United States. A contract must include all these elements to be enforceable:
If any of these elements are missing, the agreement may not qualify as a legally binding contract and might instead be considered a simple agreement.
Capacity in contract law ensures that only those who fully understand the obligations and consequences can legally bind themselves or their company to a contract. This is crucial because failing to honour a contract can lead to legal action and various remedies.
There are several scenarios in which a person might lack the capacity to enter into a contract, including:
There are two primary ways in which a person might lack the capacity in contract law to enter into a contract.
The first way is related to the person's mental ability to comprehend the contract and its implications. This can include:
Minors, typically those under the age of 18 in most U.S. states, have limited contractual capacity. Although they can legally enter into some contracts, minors are afforded special legal protections that allow them to void most agreements they sign. Exceptions to this include contracts for necessities such as food, clothing, and shelter, as well as educational agreements, which are often deemed enforceable due to their beneficial nature. The fairness of a contract's terms also influences its enforceability— if the contract is beneficial to the minor, it is likely to be upheld; if not, it may be voided. Upon reaching the age of majority, minors generally lose the ability to void contracts based on their age and are then bound by agreements as fully consenting adults.
Individuals suffering from certain mental illnesses or psychological conditions may lack the mental capacity to enter into a binding contract. If deemed mentally incompetent, these individuals, or their guardians, can often void a contract. States have different methods for assessing mental capacity, with many using the "appreciate effects" test. This test evaluates whether the individual understood the nature and consequences of the contract. Ultimately, the court decides on mental competence.
Intoxication can also affect contractual capacity, but it is an exceptional circumstance rather than the rule. Courts consider the severity of the intoxication and whether the other party was aware of it. For a contract to be voidable due to intoxication, the intoxication must be severe, and the intoxicated individual must seek to rescind the contract within a reasonable time after regaining full consciousness and realizing their mistake. If these conditions are not met, the contract is likely to remain enforceable.
In a business context, the most common issue related to contractual capacity is lacking signatory authority. Not every employee is authorized to sign contracts on behalf of their employer. This authority is typically reserved for directors or specifically designated individuals, as delegated by a resolution passed by the board of directors during a board meeting. If someone without signatory authority signs a significant contract on behalf of their company, the contract may be difficult to enforce. In such cases, it is advisable to resend the contract and ensure that an authorized representative signs it.
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