Contracts
By: Warren H.O. Mueller, B.A., LL.B., LL.M., Q.C. of the Ontario Bar, and D. Morgan, B.A., LL.B, LL.M.
I: Basis of Contract
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I.1: Contract Defined
See Canadian Abridgment: CON.I.1 Contracts — Nature of contract — What constitutes contract
A contract is a legally recognized agreement between two or more persons which gives rise to an obligation that may be enforced in the courts. More comprehensively, a valid and operative contract may be defined as an agreement free from vitiating factors such as mistake or misrepresentation, and constituted by the unconditional acceptance of an outstanding offer involving a reasonably precise and complete set of terms between two or more contractually competent parties, who intend to create mutual and reciprocal rights and duties that may be the subject of judicial sanction, if they are expressed in any required form, and are free from the taint of illegality or immorality, and are not subsequently discharged by law, by agreement, by breach, or by sufficient supervening circumstances.
I.2: Consensus Ad Idem
See Canadian Abridgment: CON.III.1 Contracts — Formation of contract — Consensus ad idem
Since mutuality lies at the root of any legally enforceable agreement, a contract requires a meeting of the minds of the parties on all essential matters relating to it (consensus ad idem). However, rather than trying to find the real subjective intention of each party, the courts have generally applied the dispassionate and objective test of the reasonable man. Therefore, whatever a party’s real intention may be, if he or she acts in such a way that a reasonable person would believe that the party was assenting to the terms proposed by the other party, and if the other party, upon that belief, enters into an agreement with him or her, an enforceable contract will come into effect. For a contract to be binding, the parties must come to the same determination, which must be disclosed by written or spoken words, or by some other signification of intention from which an implication of law, or an inference of fact, or both, may arise. In conclusion, the law of contract describes the formation of a contract in terms of rules that order and define the process of contract formation. A contract does not exist until there has been a definite offer and an unqualified and unconditional acceptance of the offer communicated to the offerer. There is also a general rule, however, that a court should interpret a contract, if possible, so as to make it work.
Similarly, whether a statement is to be construed as an offer capable of direct acceptance to form a contract depends upon a reasonable, objective interpretation of the words used.
Occasionally, however, a court’s equitable jurisdiction may be exercised to permit a more subjective assessment of the circumstances of the case. The existence and/or contents of the contract in such cases may be determined by reference to a party’s subjective belief, rather than by reference to the understanding of the reasonable person.
In determining whether the parties have reached agreement for legal purposes, the starting point must be the alleged contract itself. If there is a written contract whose wording reveals a plain and unambiguous intention, that will ordinarily be the end of the matter. But where it is unclear whether or not the parties have in fact agreed, the court may resort to evidence beyond the contractual language, including the factual matrix in existence at the relevant time and the genesis and aim of the transaction. The conduct of the parties during and subsequent to the purported making of a contract is also admissible to determine whether they did in fact make a binding contract, and, if they did, what the contractual terms were.
The absence of real consent to a contract apparently complete and binding may be shown to have resulted from mistake, fraud, or mental incapacity.
An agreement by a husband to remove the religious barriers to remarriage by providing a get or Jewish divorce is consistent with public order and harmonizes Canada’s approach to religious freedom, equality rights, divorce and remarriage generally. Thus, the contractual obligation contained in the agreement is valid and legally binding. The fact that a consent has religious elements does not thereby immunize it from judicial scrutiny.
The burden of proving a consensus between the parties is upon the party seeking to prove its existence, on a balance of probabilities.
I.3: Uncertainty and Incompleteness of Terms
See Canadian Abridgment: CON.III.1.b Contracts — Formation of contract — Consensus ad idem — Certainty of terms
Even when parties intend to contract, the essential terms of the bargain must be agreed and possess a sufficient degree of clarity before a legally binding agreement can be said to exist. Where, therefore, an agreement is incomplete because essential provisions have not been settled, or the agreement is too general or uncertain to be valid in itself, or the understanding of the parties is that their legal obligations are to be deferred until a formal contract has been executed, no binding contract will have been created, even if the parties may have thought they were bound. In such circumstances, the purported contract is often characterized as a mere “agreement to agree” or an agreement to negotiate, which is not legally enforceable. Where, on the other hand, the parties have settled all disputed primary terms and expressed their agreement with sufficient reasonable certainty to allow the court to give it practical meaning, their agreement will bind them, even if a formal written document is thereafter to be prepared and signed.
Although uncertainty and incompleteness are distinct conceptual notions, their application in contract law is often intermingled. Incompleteness refers to parties failing to indicate adequately by their words or actions, objectively determined, that they have completed an agreement. Uncertainty, on the other hand, presupposes that the parties have in principle reached an agreement, but it is impossible for the court, within the rules of evidence, to give any clear or substantial meaning to their bargain. In practical terms, both uncertainty and incompleteness create problems regarding enforceability, since a court cannot make a contract for the parties where they have not sufficiently indicated what their intentions and expectations are.
Accordingly, the failure of contracting parties to agree on one or more essential terms will prevent the creation of a binding contract. Further, the terms agreed upon must be clear and certain, in the sense that they must either be stated with reasonable specificity, or be reasonably ascertainable by application of an agreed formula, method, or principle of determination. Specificity is particularly important in regard to terms of payment, although promises to pay money or perform services “when able to do so” have generally been treated as enforceable. It is permissible, however, to leave for determination during the course of performance of a contract, insignificant details necessarily incidental to the carrying out of the work involved. And the fact that the parties fail to reach agreement on a severable and collateral aspect of their negotiations will not preclude enforcement of a concluded agreement with respect to transfer of an interest in property.
The courts have consistently maintained that they will not supply essential terms necessary to convert a mere “agreement to agree” into a concluded contract, even if the parties themselves believe that they have made an enforceable contract. Similarly, the presence of particularly vague primary terms will preclude the finding of an enforceable contract.
Notwithstanding, where a completed contract exists, but ambiguity remains in what the parties have purportedly agreed upon, some lack of clarity will not necessarily render the “agreement” unenforceable. Courts will strive to give effect to the reasonable expectations of the parties, objectively determined, where it is apparent that they intended some legal relationship to exist between them. Some courts have asserted that a contract will be rendered unenforceable only where a missing term is so essential that the court cannot collect the real intentions of the parties from the language within the four corners of the instrument without it, and so give effect to such intentions by supplying anything necessarily to be inferred. The principles of construction of contracts should be applied liberally to give legal effect to a clause in an agreement if the words used can be given a plain and ordinary meaning that is not in conflict with the agreement as a whole. This is particularly so where the precise nature of what are usually subsidiary or minor (that is, non-essential) contractual terms is in issue, or where there has been partial performance of the agreement. Lastly, it is not for a court to fill in essential terms in an otherwise incomplete agreement.
One means of giving effect to the parties’ contractual intentions is the judicial technique of implying terms to flesh out the agreement in order to give it business efficacy. However, it will be necessary for a court to define the nature of any implied terms with particularity only where there is a live issue and specific facts before it whose effect depends on that aspect of the agreement; otherwise, the court may simply satisfy itself that the absence of an express provision is not such an obstacle to the proper operation of the agreement as to render it unenforceable. Remaining issues of interpretation can be reasonably resolved at a subsequent time by employing the ordinary tools of documentary construction available to the courts.
A reference to the “usual terms” of a particular type of contract has often been sufficient to render a contract binding. Subsequent correspondence may clarify uncertainties in an agreement. A meaningless clause can often be ignored.
The plaintiff has the burden of showing that the contract is so unambiguous that the defendant will not be permitted to set up an alleged misunderstanding. The court must be satisfied with some degree of confidence on an objective basis that it can clearly identify the terms on which the parties have agreed. An agreement to agree does not constitute an enforceable agreement.
I.4: Necessity for Formal Written Contract
See Canadian Abridgment: CON.III.1.b Contracts — Formation of contract — Consensus ad idem — Certainty of terms
Where a tentative agreement is reached as a result of negotiations conducted orally or by correspondence, whether the creation and execution of a formal contractual document embodying the entire agreement is a condition precedent to the formation of a binding contract, or only an unessential means of recording an already concluded contract, depends on the intention of the parties. In practical terms, this depends primarily upon whether or not agreement has been reached on all of the essential terms of the contract.
Certain phrases, such as “subject to contract”, are strong indicia of an intention to have the creation of a contract conditional upon execution of a formal document. However, a document that clearly records all essential terms, even though “subject to” formalization, may signify that solicitors’ approval of its terms is not contemplated as a contractual pre-condition. While a long course of negotiations involving numerous counter-offers increases the likelihood of the court deciding that the parties did not intend to bind themselves without executing a formal document, continuation of negotiations after an agreement has apparently been reached do not necessarily indicate that no contract was concluded. Parties’ retainer of solicitors to assist in negotiating a complex commercial agreement is indicative of an intention not to be bound without execution of a formal written contract. Tentative acceptance subject to a condition, such as approval by senior management, is not binding unless the condition is satisfied.
Where a putative agreement exists in a series of communications between the parties, rather than in a formal note or memorandum signed as evidence of a contract, then everything that has passed between the parties in relation to the agreement should be considered when deciding whether or not a binding contract was made. Bare language phraseology (for example, “confirming verbal understandings”; “points discussed are”) may disclose an absence of the firmness of settled obligations. The conduct of the parties in carrying out an informal agreement in accordance with its terms is a strong indication that the execution of a formal document was not a condition precedent to the creation of a binding contract on the stipulated term, or that the parties have waived such a requirement. Even conduct after a dispute as to whether an agreement was reached may be useful in resolving the issue.
An incomplete antecedent agreement may be looked to as a foundation for a subsequent, more complete arrangement. Where terms are left uncertain after an oral discussion, those terms can be subsequently made certain by further discussions and through draft agreements.
An action for failure to execute an agreement will not lie if the agreement to be executed has never been reduced to writing. In order to prove a party in default of an obligation to execute a formal contract document, the document must have been submitted to the party for signature or, alternatively, the party must be shown to have given an unequivocal refusal to execute any such document. The reasonableness of a person’s refusal to sign a document upon whose execution creation of a contract depends will not be reviewed by the court. However, refusal of a party to execute a document merely reciting the terms of an already concluded agreement leaves that party open to an action for specific performance.
I.5: Intention to Create Legal Obligations
See Canadian Abridgment: CON.III.1.b Contracts — Formation of contract — Consensus ad idem — Certainty of terms
As between conscious parties, competent in law to engage in contractual relations, a contract can only come into existence if there is an intention to make a legally binding agreement.
In the case of a family or household agreement, or an agreement made on the basis of friendship, as distinct from business matters, the usual presumption is that the parties do not intend that the agreement be attended by legal consequences. Even in the case of a business agreement, however, if the parties do not intend that their agreement shall give rise to legal relations, but prefer to rely on mutual good faith and honour to the exclusion of legal remedies, no enforceable contract will result. The conduct of the parties may be examined to see if they intended their arrangement to have legal consequences. But when parties do intend to create enforceable obligations, they cannot completely exclude resort to the courts as a mechanism for resolving disputes.
I.6: Duty to Negotiate in Good Faith
See Canadian Abridgment: CON.III.1.a Contracts — Formation of contract — Consensus ad idem — General principles
In the absence of a special relationship, the common law generally has not recognized an independent duty between parties acting at arm’s length to negotiate in good faith in ordinary commercial transactions. Traditionally, courts have reasoned that agreements to negotiate in good faith, like agreements to negotiate simpliciter, are rendered legally unenforceable by uncertainty where they leave essential terms to be agreed upon in the future. Agreements to negotiate in good faith have been regarded as virtually impossible to judicially enforce, either because a party who has not committed to arrive at a concluded agreement bears no obligation respecting the ultimate conclusion of the negotiations, or because such agreements often lack an objective measure by which good faith may be assessed. Further, judges remain reluctant to impose a duty of care on a party to be mindful of another party’s legitimate interests during contractual bargaining, as it would defeat the essence of negotiation and hobble the marketplace. Notwithstanding this judicial caution toward a duty of good faith in pre-contractual settings, the doctrines of undue influence, economic duress, and unconscionability, as well as potential actions for negligent misrepresentation, fraud and the tort of deceit, remain available to provide protection to negotiating parties. There exists no duty of fairness in employment hiring situations. Lastly, any covenant to negotiate in good faith, as any other contractual obligation, must be interpreted in accordance with the intention of the parties in the context in which the agreement was negotiated and executed.
However, a duty to negotiate in good faith may operate in situations where a special relationship between the parties exists, based upon an inherent vulnerability or power imbalance between them, or arising ordinarily out of the nature of their relationship or the circumstances created by the other party. Special relationships that have given rise to a duty of good faith to negotiate include that of franchisor and franchisee, spouses entering into marriage contracts or separation agreements, insurer and insured, fiduciary relations, and tendering situations.
Some courts have found that an existing (and particularly, a long-standing) relationship between parties should give rise to a duty to negotiate in good faith by virtue of a special relationship or otherwise, although the weight of authority has generally drawn a line between pre-contractual negotiations and performance of an existing contract. A specified duty to negotiate in relation to collateral terms to an otherwise complete and binding contract may be legally enforceable. Parties to an oral contract or interim agreement may be impliedly obligated to negotiate, in good faith, further terms to be inserted in a final written agreement.
Where one party has incurred expenditures in the expectation of completing a contract in a situation where the other party has unreasonably withdrawn from negotiations, the restitutionary remedy of quantum meruit may arise on the basis of unjust enrichment.
II: Formation of Contract – Offer and Acceptance
II.1: Necessity for Offer and Acceptance
See Canadian Abridgment: CON.III.2 Contracts — Formation of contract — Offer; CON.III.3 Contracts — Formation of contract — Acceptance
A promise made under seal by one party becomes immediately binding without the necessity for acceptance by the other party, although that other party may avoid the contract by refusing to assent to the promise. In contrast, a contract not under seal can come into existence only as the result of an offer and its acceptance. It is often difficult to determine whether a communication made in the course of negotiations amounts to an offer or an acceptance.
In a bilateral contract, where both parties undertake obligations through an exchange of promises, acceptance generally occurs when the offeree communicates its counter-promise to the offeror. In a unilateral contract, however, one party makes a promise in return for the performance or forbearance of an act. This promise takes the form of an offer that can only be accepted by other party’s performing the specified act or forbearance. The other party’s performance provides the necessary consideration and allows him or her to enforce the original promise. The courts treat an offer as calling for bilateral, rather than unilateral, performance whenever the contract can fairly bear that construction.
A person who has made an offer cannot dispense with the necessity for acceptance in order to bind himself or herself contractually. Equally, a person’s actions in reliance on another person’s expressed intentions cannot amount to an acceptance capable of forming a contract where there is no offer capable of acceptance.
All essential terms must be accepted by both parties before a contract comes into being.
III: Consideration for Contract
III.1: General
See Canadian Abridgment: CON.IV.1 Contracts — Consideration — General principles
A simple contract not under seal requires consideration to support it in order to be legally binding. This means that each contracting party must exchange something of value, in the sense that the act or promise of one party must be "bought" or "bargained for" by the act or promise of the other. Hence, a gratuitous or voluntary promise or payment cannot be enforced or retained against its maker.
A contract under seal is binding without consideration, because either the formality of the sealing displaces the need for consideration, or the seal is treated as importing consideration. On the latter theory, however, it is possible for a party to assume the burden of proving that there was in fact no consideration and the contract is therefore unenforceable. In any event, a gratuitous promise under seal cannot be specifically enforced. While the mere presence in a contract of the phrase "signed, sealed and delivered" or similar language is often insufficient in itself to make the document a sealed instrument or deed, it may suffice if coupled with other indications of an intention to treat the document as sealed. Generally, some indication of a seal is required, and not merely an indication of where a seal should be placed. The contract form as a whole may indicate whether the parties intended it to be a sealed instrument.
A "mere" option (as opposed to an option under seal) is simply a promise whose binding effect depends on its having been given for consideration. The retention by one party of a unilateral right of rescission at any time results in the apparent agreement being illusory and, in fact, a mere option because of the absence of mutuality of obligation.
An acknowledgment of receipt of consideration can be rebutted by proof of the actual facts, whether the contract containing the acknowledgment is under seal or not. Similarly, the presumption that every party whose signature appears on a promissory note has received valuable consideration may be rebutted by the party alleging lack of consideration.