Types of Contracts and Their Uses
Types of Contracts and Their Uses
Pocketlaw
Published:
Sep 23, 2024
Contracts can be categorised in several ways, helping people understand their formation, validity, purpose, performance, and payment structure. This article provides a concise overview of the various contract types, along with practical examples.
Contracts are essential tools in legal and business transactions, defining the rights and obligations of involved parties. Whether you’re signing a lease for your new office or working out the finer details of a consultancy gig, contracts are everywhere.
Based on Formation
Contracts can be classified based on how they are formed. This category focuses on the manner in which the agreement between parties is created, whether explicitly stated or implied through actions.
Express Contracts
You know when you get everything in writing? That’s an express contract.
An express contract is one in which the terms are explicitly stated, either orally or in writing. Both parties clearly understand the obligations and responsibilities involved, leaving little room for ambiguity.
A typical example is a written agreement between a landlord and tenant. Non-disclosure agreements (NDAs) are also express contracts as they explicitly outline the confidential obligations of the involved parties.
Comparatively, express contracts differ from implied contracts, which rely on actions rather than direct communication, making express contracts ideal for clarity and enforceability.
Implied Contracts
Not every agreement gets written down. Sometimes, actions speak louder than words.
Implied contracts are not formally articulated but are inferred from the actions, behaviour, or circumstances of the parties involved. These contracts can be "implied-in-fact" (based on actions) or "implied-in-law" (quasi-contracts).
If you visit a restaurant and order food, it's implied you'll pay for the meal, though no words were exchanged about payment. In a consultancy agreement where the scope of work changes over time without written amendments, the new tasks performed by the consultant can fall under an implied contract.
Implied contracts are less rigid than express ones, as they depend more on context than explicit terms.
Quasi Contracts
A quasi-contract isn't an actual agreement but a legal obligation imposed to prevent unjust enrichment. Even without a formal contract, one party may be required to compensate the other to avoid unfair gain.
Imagine you accidentally receive a payment that was meant for someone else. You didn’t sign any contract with the sender, but you’re still obligated to return the money. Quasi contracts are there to stop one party from benefiting unfairly, even if no formal contract exists.
While similar to implied contracts, quasi-contracts arise from legal enforcement rather than mutual consent.
Formal Contracts
Some contracts require a bit more fanfare. Think about situations where the law says, “This contract isn’t valid unless you meet certain requirements.”
Formal contracts require specific formats or methods to be legally binding, such as the need for a seal or notarisation. They are typically used in official or significant transactions.
A deed to transfer property is a formal contract, requiring specific legal procedures. Another example is a shareholder agreement, which may require formal signatures and notarization depending on jurisdiction.
Unlike informal contracts, formal contracts carry legal weight due to their structure.
Informal Contracts
Informal contracts, also known as simple contracts, don't require any special form or process. They can be oral or written and are legally binding as long as they fulfil standard contract principles.
A verbal agreement between two friends to split rent is an example of an informal contract. Compared to formal contracts, informal contracts offer more flexibility but may lack the same enforceability in a court setting.
Based on Validity
Next, let’s talk about validity. Just because you have a contract doesn’t mean it’s enforceable.
Contracts can also be categorised based on their legal standing and enforceability. Whether a contract is valid, void, or voidable depends on its ability to meet the legal requirements for binding agreements.
Valid Contracts
A valid contract meets all the legal requirements for enforceability, including the essential elements of contracts such as offer, acceptance, consideration, and the intention to create legal relations.
A signed agreement for the sale of a car that includes all necessary elements is considered a valid contract. Another common valid contract is an employment agreement, which clearly defines the relationship between employer and employee. Valid contracts are enforceable, unlike void or voidable contracts, which may lack essential legal aspects.
Void Contracts
On the flip side, a void contract is one that’s never enforceable, usually because it’s missing a key legal element or involves something illegal.
If you sign a contract to do something illegal, like buying stolen goods, it’s void. It's as simple as that. It’s not just a bad idea—it’s not enforceable, period.
Void contracts are distinct from voidable contracts, which are initially valid but can later be invalidated by one party.
Voidable Contracts
These contracts are a bit trickier.
Voidable contracts are initially valid but can be legally voided if one party chooses to back out, usually because of issues like fraud or duress. A contract signed under duress can be voided by the affected party.
In employment, if an employee was misled about job conditions during contract signing, the contract may be voidable. Unlike void contracts, voidable contracts are enforceable until one party exercises the option to void them.
Unenforceable Contracts
An unenforceable contract is valid in theory, but something’s preventing it from being enforced—maybe it’s missing a critical component, the lack of proper documentation, or maybe the statute of limitations has run out.
Think about a verbal agreement to buy a house. In most places, real estate contracts need to be in writing to be enforceable, so that verbal agreement? Unenforceable.
These contracts differ from void contracts, as the underlying agreement may still be legitimate.
Based on Purpose of Use
Now let’s look at contracts based on why they exist. This is where we break things down by the specific type of transaction or relationship being formed.
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Sales Contracts
A sales contract is a legal agreement between a buyer and seller that outlines the terms of a transaction, including the price, description of goods or services, payment, and delivery terms. It ensures both parties understand their obligations and rights.
A sales contract can be used in various industries, from real estate to retail. For instance, a real estate sales contract involves a property sale, while a simple retail transaction for physical goods might use a standard sales agreement.
Sale contracts differ from service contracts, which deal with the provision of labour or expertise rather than goods.
Service Contracts
Service contracts outline the terms of service to be provided by one party to another, often involving professional services or labour.
Imagine you hire a company to redesign your website. That’s a service contract. Similarly, if you hire a contractor to renovate your home or office, it falls under a service contract.
These contracts focus on the work or expertise being delivered, unlike sales contracts that deal with the exchange of physical goods.
Lease Contracts
A lease contract allows one party to use property or equipment owned by another for a specified period in exchange for payment. Lease agreements are common in real estate but also apply to vehicles, equipment, and other assets including digital ones.
A rental agreement for an apartment is a standard lease contract. Vehicle leasing agreements for businesses are also common.
Employment Contracts
Employment contracts establish the terms of employment, including salary, duties, benefits, and termination clauses, between an employer and an employee.
Full-time job offers usually come with written employment contracts. Hourly employment contracts are another form, where employees are paid based on the number of hours worked.
Partnership Contracts
A partnership contract defines the roles and responsibilities of business partners, including how profits and decisions are shared.
Two entrepreneurs forming a new business might sign a partnership agreement. These contracts are common in joint ventures.
Unlike employment contracts, which define hierarchical roles, partnership contracts emphasize equal or agreed-upon contributions.
Based on Performance
Contracts can also be classified according to their performance, focusing on whether the terms have been fulfilled or if obligations remain outstanding.
Executed Contracts
An executed contract is a legally binding agreement signed by all parties, confirming their acceptance of the terms and outlining their rights and obligations for successful business transactions.
A purchase transaction is an executed contract once payment and delivery have occurred. A one-time consultancy service agreement, where the project is completed and paid for, is also executed.
Executory Contracts
Executory contracts are those where one or both parties still have obligations to fulfil.
A long-term service agreement where services are provided over several months is an executory contract. Insurance agreements, where payments continue over time in exchange for ongoing coverage, are also executory. The key difference from executed contracts is the remaining performance.
Bilateral Contracts
Bilateral contracts involve mutual obligations where both parties commit to fulfilling certain promises.
A job offer where the employer promises a salary in exchange for the employee’s work is bilateral. Another example is a shareholders agreement where both the company and shareholders have duties to perform.
This differs from unilateral contracts, where only one party has an obligation.
Unilateral Contracts
In a unilateral contract, only one party makes a promise, typically contingent on the performance of the other party.
A reward for finding a lost pet is a unilateral contract, as only the person offering the reward is bound to act. Some insurance contracts also function unilaterally, as the insured party is not obligated unless they make a claim.
Compared to bilateral contracts, unilateral agreements depend on the action of one party to trigger an obligation.
Based on Nature and Terms
The nature and terms of contracts can vary, influencing how risks, conditions, or negotiations are handled. This section looks at contracts classified by their inherent structure or the conditions involved.
Commutative Contracts
Commutative contracts involve the direct exchange of equal values, typically in business transactions.
A contract to sell goods for a fixed price is commutative. A typical example is an agreement for consultancy services, where the value exchanged is clear and balanced.
Commutative contracts differ from aleatory contracts, where the outcome depends on an uncertain event.
Aleatory Contracts
Aleatory contracts involve uncertain events, where one party may gain disproportionately based on chance, such as in insurance contracts.
Insurance agreements, where payouts depend on accidents or events, are classic examples of aleatory contracts. Similarly, some financial derivative contracts, which depend on unpredictable market fluctuations, are aleatory. Unlike commutative contracts, these focus on risk and unpredictability.
Adhesion Contracts
Adhesion contracts are standard-form agreements drafted by one party, usually with little to no room for negotiation by the other.
Signing up for a mobile phone service typically involves an adhesion contract. Data processing agreements between large tech companies and small businesses often follow this form, with little room for negotiation on standard terms.
Contingent Contracts
Contingent contracts depend on the occurrence of a particular event or condition for their execution.
A contract to purchase a house pending inspection results is contingent. Another example is an employment offer contingent on a successful background check. Compared to fixed contracts, contingent agreements hinge on external factors.
Based on Payment Structure
Lastly, contracts can be categorised based on how payments are structured. This section covers the different ways compensation is agreed upon.
Fixed-Price Contracts
A fixed-price contract specifies a set amount for goods or services, regardless of the actual cost incurred during the project.
Hiring a builder for a fixed amount to complete a renovation falls under a fixed-price contract.
In contrast, cost-reimbursement contracts allow for price adjustments based on the actual costs incurred during the project.
Cost-Reimbursement Contracts
Cost-reimbursement contracts allow the provider to recover costs and may include an additional fee for profit.
Research and development projects often use cost-reimbursement contracts because it’s hard to predict the exact expenses upfront. Unlike fixed-price contracts, the final cost can fluctuate based on the actual expenses.
Time and Materials Contracts
Time and materials contracts pay for labour and materials based on actual usage, making them flexible but harder to estimate in cost.
Imagine hiring a home cleaning service that bills you for every hour of cleaning along with the cost of any cleaning supplies. While this arrangement allows for flexibility, the final cost may exceed your initial expectations, as it depends on the actual time and materials used.
Unit Price Contracts
Unit price contracts break down costs based on a specific unit of measurement, such as per hour, per item, or per task.
A moving company might charge per mile travelled to transport your belongings, making it a unit price contract. Similarly, in landscaping, a provider could charge per square meter of lawn mowed.
Flexitime Contracts
Flexitime contracts allow for flexible payment schedules, often based on the progress of a project or varying working hours.
Freelance agreements for creative projects may use flexitime contracts, where payment is tied to milestones. Hourly employment contracts for part-time workers also sometimes offer flexitime options.
Flexitime contracts are more flexible than traditional fixed-price agreements but provide less financial predictability.
Cost-Plus Contracts
Cost-plus contracts ensure reimbursement for all project-related costs, plus an additional percentage as profit.
Government projects often use cost-plus contracts to incentivise contractors. A shareholders' agreement to provide funding for a new business venture may also follow a cost-plus model, allowing shareholders to recover expenses plus a profit margin.
Compared to fixed-price contracts, cost-plus agreements guarantee compensation, even if costs exceed expectations.
Disclaimer:
Please note: Pocketlaw is not a substitute for an attorney or law firm. So, should you have any legal questions on the content of this page, please get in touch with a qualified legal professional.
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