Elements and types of consideration in contracts. Research resources such as practice notes and templates
contract law • elements of contracts • consideration
A contract is an agreement between two or more parties that is enforceable by law. The word enforceable means that if a party fails to perform part of its obligations, the other party can approach a court of competent jurisdiction to make the first party perform its promise or pay damages for not performing.
Certain basic elements must be present to form a legally enforceable contract. These include offer, acceptance, capacity, consideration, etc. There can also be additional elements based on the type of contract. It is widely accepted that consideration is a very important part of any contract. This is because, in a commercial contract, it is comparatively easy to prove the existence of an offer and acceptance.
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Templates, practice notes, and more
Consideration explained
Consideration is defined as,
Something (such as an act, a forbearance, or a return promise) bargained for and received by a promisor from a promisee; that which motivates a person to do something, esp. to engage in a legal act.
12th Edition
In common parlance, consideration can be defined as an act or omission by a person that is done in return for an act or omission by another person. Consideration can be a negotiated promise between the parties that gives a benefit to one party or is to the detriment of the other. Consideration is always something of value to the person. Recently, ExxonMobil acquired Pioneer Natural Resources by paying around $59.5 billion in stock. This amount of $59.5 billion paid by ExxonMobil is the consideration for the contract.
For a consideration to be valid, there must be a bargain for the exchange. In most cases, as long as an adequate opportunity to negotiate or bargain is provided, a court will not question the validity of consideration just because a party has made a bad bargain.
A valid consideration can be services, money, jewels, or other goods. It can also involve refraining from an act that you are legally entitled to perform. A simple example would be a contract to not drive a vehicle even though the party possesses a valid driver’s license. Another scenarios might be giving up the usage of a valid easement in exchange for money or other consideration.
Consideration can be different for both parties. In a contract involving the sale of a vehicle, while the delivery of the vehicle is a consideration for the buyer, the payment of money for the car is a consideration for the seller.
What are the essential elements of a valid consideration?
The most basic element of consideration is that it must be a promise to perform an act or a forbearance to do an act. However, for a consideration to be valid, it must also satisfy some other conditions.
The consideration must be legal
A contract will be invalid if the consideration is contrary to the laws of the jurisdiction or is aimed at defeating the purpose of the law. For example, a contract to murder a person, an agreement to create a monopoly in the market, or a consideration induced with fraud are all invalid.
The consideration should not be moral or past
Moral obligations or past actions are insufficient for a binding contract. In Mills v. Wyman, the plaintiff cared for the defendant’s adult son without prior request. The defendant’s promise to reimburse was deemed unenforceable as it lacked legal consideration, highlighting that moral obligations alone do not constitute valid consideration.
The consideration must be adequate
The value of consideration must be fair to both parties. The consideration does not have to be equal in value to the goods or services being provided. However, it must be sufficient and must have some value, no matter how small, in the eyes of the law.
The consideration must not be illusory
A consideration that is illusory or does not have any value in the eye of the law, will not be considered to be valid. An illustration of illusory consideration may be an agreement to bring back a person from the dead.
There must not be a pre-existing legal obligation to perform the obligation
If a person performs their pre-existing legal duty, that would not be a valid consideration. For example, if a policeman enters into a contract to prevent crime, that would not be a valid contract. This is because the policeman is already under a legal obligation to do that as part of his job.
There should be a flow of consideration from both sides
In the case of Oscar v. Simeonidis, the Appellate Division of the Superior Court of New Jersey observed that for a contract to be enforceable there must be a flow of consideration, that is both parties must get some consideration out of the exchange.
An example where there is not a flow of consideration can be a gift, where only one party provides consideration. Typically, failure to deliver on a promise to gift does not result in a breach of contract.
Types of consideration
In contract law, there can be three types of consideration; past, present, and future.
A past consideration can be put in the head of a moral consideration and is typically not enforceable.
A present or executed contract consideration is when a party to a contract has performed their part of the promise at or around the time of entering the contract. An example of this may be paying in advance for the delivery of a consignment.
A future or executory consideration is when either party decides to act on a future date. The contract has been executed. However, the consideration to perform the obligation is in the future and has not yet been performed. A contract to deliver the goods in the future, with corresponding payment upon delivery, will fall under the category of executory consideration.
Failure of consideration
A failure of consideration — also known as a failure of basis — is when a party has either failed or refused to perform a substantial part of their contractual obligation, which leads to defeating the purpose and basis of the contract. It may also be where the value of the consideration decreases significantly from the time of entering into the contract.
This means that the consideration at the time of contract performance is not sufficient. If the price of the goods falls at an unprecedented rate or the value of the currency drops significantly, then it may be considered a failure of consideration.
What can be the consequences of failure of consideration?
When there is a partial or complete failure of consideration, then the contract may be terminated by the parties. In case one of the parties has performed their part of obligation then they can claim restitution of benefits. In some cases, the party whose consideration has failed can also be ordered to pay other equitable monetary damages such as the cost of getting the contract performed by a substituted party.
Court’s interpretation regarding consideration of a contract
Consideration forms an essential element of any legally enforceable contract. However, what would be defined as adequate consideration?
Here are a few leading case laws that provide the interpretation of adequate consideration.
The Court of Appeals of Virginia in 2023, in the case of CSE, Inc. v. Kibby Welding, LLC held that the guarantee of a company was supported by adequate consideration because the agent of the company had signed on the credit application, which showed an intention to the creditor to extend credit to the company. Signing the name was thus held to be adequate consideration.
The Supreme Court of Kentucky, in the case of Grimes v. GHSW Enterprises LLC, interpreted adequate consideration in an employment dispute. The court held that it was not important whether there was an equal division of benefits and obligations between the parties. It was whether the consideration was adequate to support the contract. If each party gets something valuable in return for their promise, the court should not intervene. The bench further stated that in the state of Kentucky, if there is adequate consideration, there is no need to look for mutuality of obligation.
Exceptions
Sometimes, a contract is enforceable even when there is no bargain-for exchange of consideration or there is no consideration.
Promissory estoppel
A contract may be enforced even without consideration when a party relies on the promise of another and acts to its detriment or for the benefit of the other party. This principle is based on public policy, ensuring that a party cannot back out of a promise if doing so would harm the other party.
Repayment of time-barred debts
A promise to repay a time-barred debt, or partial repayment of it, can be enforced even without new consideration. This is because the person promises to revive a debt that would otherwise be barred by the statute of limitations.
Promise to repay a debt discharged in bankruptcy
A promise to repay a debt that has been discharged in bankruptcy can still be enforced, even without new consideration. Once the bankruptcy court has discharged the debt, a voluntary promise to repay it creates a new legal obligation, making the promise enforceable.
Contracts of guarantee or surety
In contracts of guarantee or surety, the guarantor’s promise is enforceable without new consideration, as it provides security for the primary obligation, making the promise legally binding even without an exchange of value.
More resources
Ultimately, the purpose of the contract relates to what it provides: the consideration. When a contract is formed, it is not enough to write the term ‘consideration’. To form a valid contract, a well-drafted clause must be provided detailing what exactly a party is giving up and what the other party is getting to prove that the consideration is adequate.
