The Role Of Consideration In Creating Enforceable Contracts

Content

• What is consideration in a contract?
• What constitutes a consideration under contract law?
• What is insufficient consideration?
• What if the consideration seems disproportionate?
• Do considerations have any legal exceptions?
• Conclusion

As discussed in our previous blogs, contracts require certain elements to be legally enforceable.  For any kind of agreement—lease, purchase, or employment—to be valid, there must be an offer, an acceptance, and a consideration. For example, if Person A makes an offer and Person B accepts it, the promise is only imposable by the court if there is an exchange of value.

So, whether you are buying a car from a friend or leasing an apartment from a landlord, consideration must be part of the conversation for the arrangement and constituting agreement to be legally binding. But what qualifies as a valid consideration? Is it only money? Do they have to be of equal value? There are so many complexities for a fundamental part of contracts. We’ll answer all these questions and more in our blog post.

What is consideration in a contract?

As per Contract Law, consideration is the price the promisor pays in exchange for the promise. It may manifest as a warranted promise, act, concession, or legal asset. Consideration is a legal concept based on “bargained-for exchange.” It means that when two or more parties agree to a contract, they all benefit from it. Thus, in essence, consideration is what you agree to provide or receive in exchange for entering into a legal agreement. 

For example, the seller receives payment while the buyer receives the goods or services in a purchase transaction. As they’re major pain points during contract negotiations, parties must give special attention to considerations. It is a crucial component that sets a contract apart from gifts and unilateral promises. 

What constitutes a consideration under contract law?

For a contract to be enforceable under the law, both parties must promise something valuable to each other. The contractual agreement states the consideration for each party; it does not have to be equal value. Whether consideration is a commitment, payment, product, service, or refraining from conduct, it must be sufficient and legally viable. Moreover, the parties must enter into the contract in good faith. If there is evidence of fraud, duress, undue influence, or a mistake related to the consideration, it might affect the contract’s enforceability. The following are the legal requirements for a valid consideration:

• Value: Consideration must have some value in the eyes of the law. It doesn't necessarily have to be of equal value, but it must be sufficient to support the contract. For example, a small sum of money or a promise to accomplish anything can be considered valid consideration.
  
  
• Bargained-for-exchange: The consideration must be the product of the parties' bargaining or negotiating. It should not be something given as a gift or a pre-existing obligation.
  
  
• Legal Validity: Consideration must have legal value, meaning it must be something the law recognizes as having some value. Illegal or immoral promises may lack legal validity and render the contract unenforceable.
  
  
• Performance, Forbearance, or Promise: Consideration can take the form of a performance of an act, a promise to perform an act, or a promise to refrain from doing something (forbearance). All three are valid as long as they meet the criteria of being bargained for and having legal value. 

What is insufficient consideration?

The law generally allows parties to negotiate and determine the terms of their contractual agreements freely. They can set the value for their performance, product, service, or forbearance. However, there are certain instances where the court may feel the consideration is inadequate or raise concerns regarding the fairness of the contract. It occurs when the value traded between parties is unfair or deficient in some way. Here are a few insufficient considerations you need to steer clear of while drafting a business agreement:

• Illusory Promises: Promises that are overly vague or lack commitment may be regarded as illusory and constitute invalid considerations.
  
  
• Past Consideration: Something given or done in the past generally does not qualify as consideration because it lacks the element of a bargain. It typically requires it to coincide with the making of the contract.
  
  
• Illegal Consideration: It is unacceptable to promise anything that would encourage criminal activity or violate public policy. Contracts with unlawful consideration are void.
  
  
• Moral Obligations: Moral or ethical obligations, without a legal duty, are generally not considered valid considerations. Courts are often reluctant to enforce promises based solely on moral considerations.
  
  
• Pre-existing Duty: A promise to do something that a party is already legally obligated to do may not be considered valid consideration. However, there are exceptions, such as modifications to existing contracts.
  
  Nominal Consideration: Small sums of money may be invalid if they have no genuine economic value.

What if the consideration seems disproportionate?

In contract law, "adequacy of consideration" refers to the fairness or reasonableness of the value exchanged between the parties. The law generally does not concern itself with the economic wisdom of the bargain; parties are free to make good or bad deals as long as the elements of a contract are present. So, whether you buy a pencil for $1 or $!0, it doesn’t concern the legal system. However, there are some situations where the adequacy of consideration may come under scrutiny:

• Grossly Disproportionate: If the consideration is so grossly inadequate that it shocks the court’s conscience, it might raise concerns. It is rare and typically involves extreme situations.
  
  
• Duress or Undue Influence: If there is evidence that one party used duress or undue influence to force the other into the contract, a court may scrutinize the adequacy of consideration.
  
  
• Unconscionability: In some jurisdictions, a contract can seem unethical if there is a grossly unfair distribution of rights and obligations, which might include disproportionate consideration. Courts may refuse to enforce such contractual agreements.
  
  
• Public Policy Violations: Consideration that goes against public policy may be deemed unenforceable. For instance, a contract that involves illegal activities or is against the general welfare may be invalidated.
  
  
• Fraud: A court may intervene if a party was lured into the contract by fraudulent misrepresentations about the consideration or other fundamental components.

Do considerations have any legal exceptions?

While consideration is a fundamental element of a contract, some situations exist where a contract may be enforceable even without traditional consideration. Some of the common exceptions include:

Promissory Estoppel (Detrimental Reliance)

Promissory estoppel prevents a person from reneging on a promise, even without something of value being exchanged between the parties. In other words, if someone makes an unequivocal promise and another party depends on it to their detriment, the promisor may be barred from breaking it. In such cases, consideration isn’t necessary if the promisee suffers harm or loss by relying on the promise.

Charitable Pledges

Pledges or promises to make charitable donations are often enforceable without consideration. However, most courts have eased the criteria for pledges and donations by making it easier to demonstrate an exchange of values or reliance. The primary reason for implementing a charity subscription is public policy—as a desired societal goal. 

Contracts under Seal

Contracts made under seal, or deeds, were traditionally binding without consideration.  It only had to be in writing, sealed, and delivered to be legally valid. The use of a seal historically indicated a more formal and solemn promise. While not as common today, some jurisdictions still recognize contracts under seal as exceptions to the consideration requirement.

Unilateral Contracts

In a unilateral contract, one party makes a promise or an offer that calls for the performance of a specific act. In such cases, the performance itself counts as acceptance and consideration. This "performance as consideration." makes the contract legally binding. 

Pre-Existing Duty

While a promise to perform an existing legal duty is generally not valid consideration, modifying a pre-existing duty under certain circumstances can be enforceable without additional consideration. It often occurs when there is an unforeseen circumstance or a practical benefit to both parties from modifying the contract.

Conclusion

Consideration plays a central role in the creation of enforceable contracts. They’re the key elements distinguishing a binding agreement from mere promises or gratuitous arrangements. Understanding the significance and implications of consideration is essential for parties entering contractual relationships. 

They can take various forms, including money, goods, services, promises, or forbearance. The dynamic nature of consideration allows parties to tailor their agreements to meet the specific needs and terms of their business relationships. Clear contractual terms, mutual assent, and the exchange of valuable consideration contribute to the formation of contracts that are not only legally binding but also promote fairness and equity in commercial dealings. That is why businesses must take special care while drafting legal agreements. 

Dock 365 makes it easier for the legal team and organizations to produce competent legal agreements with their end-to-end contract management software. From pre-approved templates to clause library, the platform offers diverse tools to ensure the enforceability of contracts across the board.