This article has been written by Husain Rizvi pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution course from LawSikho

This article has been edited and published by Shashwat Kaushik.

Introduction

A contract is a legally binding agreement between two or more parties that creates legal obligations between them. Such obligations play an extremely crucial role in facilitating transactions, defining relationships, and providing a legal framework for various agreements in both personal and business contexts. Legal capacity to contract shall refer to the legal ability of an entity or an individual to enter into a valid contract that carries legal obligations, rights, and responsibilities. The concept of legal capacity involves the mental and legal competence necessary for parties to understand the terms and conditions of a contract, make informed decisions regarding the same, and be held accountable for their contractual obligations. Legal capacity to contract  stands as a prime doctrine that upholds the functioning of contractual relationships within the ambit of law. In the intricate tapestry of business transactions, personal agreements, and professional dealings, the concept of legal capacity stands as a cornerstone, ensuring the fairness and enforceability of contracts. Legal capacity is a crucial concept in various areas of law, including contract law, family law, and property law. However, this article will be zeroing in on the legal capacity to contract specifically. That being said, the focal point shall be to present an overview of legal capacity with respect to contracts, its types, the evolution of legal capacities, and global perspectives on legal capacity to contract.

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Overview of legal capacity within the context of contracts

In the complex landscape of contract law, the concept of legal capacity stands as an important determinant of the enforceability of contracts. Legal capacity addresses the principle question of whether the parties involved in a contract possess the requisite mental and legal competence to enter into binding agreements. This nuanced concept explores various cognitive abilities, age considerations, and freedom from coercion that reinforces the capacity of individuals and entities to navigate through the terrain of contractual relationships. 

One can say that legal capacity serves as a protective shield, and helps in ensuring that the parties willingly, knowingly, and autonomously undertook contractual obligations. This protective aspect is deeply rooted in the balance between the autonomy of individuals to engage in contractual relationships and the need for safeguards to prevent exploitation or any unfair practices.

It can be stated that legal capacity within the context of contracts provides a deeper understanding of the equilibrium that ensures the fairness and integrity of contractual relationships. The interplay of legal doctrines, ethical considerations, and practical implications emphasises the pivotal role that legal capacity plays in shaping the landscape of contract law.

Categories of legal capacities to contract

Legal capacities to contract are contingent in nature, meaning they depend on the fulfilment of certain conditions. Legal capacities may range from mental capacity to age related capacity or even intoxication. Such legal capacities have been mentioned and described in detail below:

Mental competence

Mental competence can be deemed the foundational element of legal capacity to contract. It refers to the cognitive abilities of an individual. In context with a contract, it refers to the ability to understand the nature of a contract and its implications before entering into it. Mental capacity is closely tied to soundness of mind, therefore, an individual must be in the right mental state to grasp the terms and conditions, legal obligations, risks and benefits of the contract. Any contracts entered into by individuals who are of unsound mind may be deemed voidable. Therefore, an individual is expected to be capable of making well-informed and voluntary decisions when entering into a contract.

Age competence

Age competence can be referred to as the age of maturity that is required to enter into a valid contract. The age of maturity is a threshold defined by legal systems, which is an age when an individual is considered to be mature enough to enter into a valid contract. Various jurisdictions may have a different age of majority. In India, it happens to be 18 years in a normal case; however, it is 21 years if a guardian has been appointed by the court. Any individual below the age of maturity is to be considered a minor. Any contracts that are entered into by a minor shall be legally void. The idea behind the age of maturity is not based on numerical aspects; rather, it indicates that an individual below the age of maturity is simply not experienced enough to actually grasp the implications and obligations of a contract; therefore, a minor will not be able to make well-informed decisions, hence why contracts entered by minors are stated as void.

Intoxication

In cases of intoxication, an individual’s cognitive abilities to understand the nature of a contract can be significantly impacted in a negative way. An individual under the influence of alcohol, drugs or any other substance may not be able to comprehend the obligations and implications of a contract before entering into it; therefore, it may affect their judgement in such an altered state. Contracts that are entered into by an intoxicated individual are often considered void in nature. This means the said individual, upon becoming sober, has the option to void the contract. Also, to disaffirm the contract, the intoxicated party must notify the other party about the same within a reasonable period of time after becoming sober.

Corporate capacity

It refers to a corporate entity’s ability to enter into a business contract. Corporate capacity includes both the expressed and implied powers of a corporation. These powers must be abided by foundational documents like the MOA and AOA of the corporation; therefore, all the contracts that the corporation enters must be within the scope of the corporation’s operations as defined in its documents. Any contracts that may fall outside its domain may be deemed ultra vires and could be declared void. Ultra vires refers to operations undertaken by the corporation that are outside of its powers. It can be stated that the aforementioned foundational documents of a corporation play a significant role in establishing its corporate capacity.

Bankruptcy

Bankruptcy is a legal status that is entered by an individual or entity when they are unable to fulfil their financial obligations. Upon filing for bankruptcy, an automatic stay may be implemented. This shall halt all the legal actions and provide debtors with a temporary reprieve. However, it is important to note that bankruptcy doesn’t automatically regard an existing contract as void; instead, it affects the ability of the debtor to meet financial obligations.

Legal guardianship

Legal guardianship is a legal arrangement established by courts to provide protection and make decisions for individuals who may be incapable of decision-making due to being a minor or disabled. The guardian is granted decision-making authority by the court. However, such authority is limited to only areas such as personal care, healthcare and finance related matters. Therefore, the scope of legal guardianship is very well defined by the courts, and decisions shall not land outside these domains mentioned above. Additionally, the decisions are supposed to be in the best interest of the individual in question, and any contract entered into on behalf of the individual shall be in their best interest.

Violation of a public policy

Public policy represents the standards that a society deems fair, and they are in the general interest of the public. Contracts that violate such fundamental standards may be considered contrary to public policy. Contracts involving illegal activities, fraud, or any actions considered harmful to the public fall into the category of violating public policy. Such contracts are typically deemed unenforceable by courts; therefore, they are considered either void or voidable. A void contract is fundamentally flawed; however, a voidable contract may be set aside at the option of the innocent party.

Consequences of lacking legal capacity

Consequences of lacking legal capacity to contract:

  1. Void Contracts: Contracts entered into by individuals lacking legal capacity are generally void or voidable. Void contracts are considered legally ineffective from the outset, while voidable contracts may be challenged and potentially annulled.
  2. Misrepresentation and undue influence: Parties who enter into contracts with individuals lacking legal capacity may be liable for fraud, misrepresentation, or undue influence. They may be held responsible for taking advantage of the vulnerable party’s inability to make informed decisions.
  3. Protection of minors and vulnerable adults: Legal capacity restrictions aim to protect minors and vulnerable adults from making unwise or harmful contractual decisions. It ensures that contracts involving such individuals are entered into with the necessary safeguards and protections.
  4. Legal representation: Individuals lacking legal capacity may require legal representation or assistance from guardians, conservators, or attorneys. This representation helps ensure that their rights and interests are adequately protected.

Evolution of legal capacity to contract

Over the course of centuries, the legal capacity to contract has evolved and been modified by assorted legal and economic changes. Below are various occurrences that have contributed to the advancement of legal capacity within the relevant timeline:

Early common law

The concept of legal capacity to contract has substantially embedded roots throughout the common law. Although the concept transformed in the later years, even the early common law recognised the significance of free will and mental competence. That being said, parties were required to have a mutual understanding of the nature of the contract they were entering into; moreover, individuals were also expected to have adequate cognitive ability to comprehend the future implications and obligations that may arise after entering into the said contract.

Formalism of contract

During the 17th and 18th centuries, law was more focused on formalising contract requirements, highlighting the significance of written agreements and legal formalities. However, mental capacity and freedom will still remain fundamental considerations in determining the validity and enforceability of contracts.

Doctrine of Laissez-Faire

The doctrine of laissez-faire was introduced in the 18th century, although it gained prominence during the 19th century. The term “laissez-faire” is French, which means “leave it alone.” It emphasises minimal government interference. It states that governments should refrain from interfering in economic affairs and allow the markets to operate without any kind of undue regulation. Under this doctrine, even courts were reluctant to interfere with contracts, assuming that parties entered into agreements voluntarily.

Age requirements

By the 19th century, legal orders, specifically from England, embraced a more formalistic approach to contract law. Legal systems increasingly formalised the age at which individuals were considered adults with full contractual capacity.

Legal reforms in the modern era

The 20th century witnessed legal reforms that further refined the already existing rules regarding contractual capacity. Laws protecting vulnerable groups, such as minors and individuals with mental incapacity, were enacted by countless jurisdictions, along with protective legislation being introduced to address imbalances in bargaining power.

Global perspective on legal capacities to contract

United Nations Convention’s take on Contracts for the International Sale of Goods (CISG)

Contracts for international sale of goods (CISG) happen to be significant international treaties. It lays down a set of rules for the formation of contracts between the buyer and seller in international transactions. It mainly focuses on commercial transactions and its principles can influence the capacity of contracts related to considerations on a global level.

United Nations Convention on the Rights of the Child (CRC)

The CRC stands for the Convention on the Rights of the Child. It is concerned with establishing the rights of children in the formation of a contract that involves minors. It sheds light on the protection of the rights of children, including their right to participate in decision-making as well, which may have implications for matters related to the formation of a contract.

International Trade Practices and Standards

International trade practices tend to have a lot of influence on trade practices, as norms tend to be different from country to country. This is particularly relevant to sectors where global trade plays a crucial role. International trade standards may include uniformity in relations, industry norms, and recognition of cultural and legal differences, which play an important role in overall overseas transactions.

Relevant case laws

Mohori Bibee vs. Dharmodas Ghose (1903) 

Background of the case

In this case, Dharmodas Ghose, who was a minor, mortgaged his property to a person named Brahmo Dutta. When Ghose later tried to void the contract, the court’s judgement was in his favour.

Judgement of the Court

The lower courts in India ruled in favour of Ghose, holding that Mohori Bibee was liable for the debt because she had represented herself as an adult. However, on appeal to the Privy Council, the highest court of appeal for India at the time, the decision was reversed. The Privy Council held that a minor’s contract is void ab initio, regardless of whether the minor misrepresented their age.

The court reasoned that minors are not legally competent to enter into binding contracts, and any attempt to do so is void from the outset. This principle is based on the idea that minors are not fully capable of understanding the legal consequences of their actions and are therefore in need of protection from exploitation.

The Mohori Bibee case established the principle of void ab initio for minor’s contracts in India, and this principle has been consistently upheld in subsequent rulings. It has important implications for both minors and adults who enter into contracts with minors. Minors are protected from being held liable for debts or obligations that they incurred while they were minors, even if they misrepresented their age. Adults, on the other hand, must exercise caution when entering into contracts with minors, as they may not be able to enforce the contract if the minor later repudiates it.

Nash vs. Inman (1908)

Background: In this case law, clothes were supplied to the defendant by the claimant, the clothing included 11 fancy waistcoats in total. However, the defendant happens to be a minor in this scenario, a Cambridge undergraduate to be exact, and he refused to pay for the clothing, simply stating that he doesn’t need them anymore.

Judgement: Here, the defendant was already indeed supplied with clothing, however, it doesn’t amount to any kind of necessity; moreover, Nash, the waistcoat maker, could not sue Inman because having eleven waistcoats is not a necessity, furthermore, since the defendant is a minor in this case as well, similarly to the previous judgement that we discussed earlier, here too, it was held that there’s no valid contract of sale to begin with.

Soundararajan vs. Ramaiah (1985)

Soundararajan vs. Ramaiah is a landmark case in Indian contract law. It was decided by the Supreme Court of India in 1985. The case involved a dispute between two parties, Soundararajan and Ramaiah, over a contract for the sale of a house.

Facts of the case

  • Soundararajan, the plaintiff, entered into a contract to purchase a house from Ramaiah, the defendant, for a purchase price of Rs. 100,000.
  • The contract was subject to the condition that Soundararajan would obtain a loan from a bank to finance the purchase.
  • Soundararajan applied for a loan, but his application was rejected.
  • Soundararajan then informed Ramaiah that he was unable to obtain the loan and that he was rescinding the contract.
  • Ramaiah refused to accept the rescission and filed a suit for specific performance of the contract.

Issues involved in the case

  • Whether the contract was voidable due to the failure of the condition precedent (obtaining the loan).
  • Whether Soundararajan was entitled to rescind the contract.

Arguments

  • Soundararajan argued that the contract was voidable because the condition precedent (obtaining the loan) had not been fulfilled. He also argued that he was entitled to rescind the contract because the failure of the condition precedent was not due to any fault on his part.
  • Ramaiah argued that the contract was not voidable because the condition precedent was not a condition precedent to the formation of the contract. He also argued that Soundararajan was not entitled to rescind the contract because he had not given Ramaiah a reasonable opportunity to cure the breach of contract.

Judgement of the Court

  • The Supreme Court held that the contract was voidable because the condition precedent (obtaining the loan) had not been fulfilled.
  • The Court also held that Soundararajan was entitled to rescind the contract because the failure of the condition precedent was not due to any fault on his part.

Conclusion

In conclusion, we can state that the concept of legal capacity to contract is a crucial aspect of contract law that tends to ensure the fairness of a contract. Moreover, legal capacities are present in various categories, as discussed earlier in this article, and they may be distinct in nature on the basis of circumstances. The evolution of this concept happened over centuries due to the transformations in legal norms at an international level. However, the key elements of legal capacity, including age, mental competence, and adherence to public policy, are recognised by all the jurisdictions worldwide, as discussed earlier. After navigating through the categories of the concept of legal capacity to contract, it can be concluded that the concept continues to evolve and is strongly influenced by technological advancements and cultural shifts. Nonetheless, the final agenda remains the same, that is to ensure that parties entering into contracts possess enough cognitive abilities and mental competence to understand the implications and consequences of entering into a contract.

References

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