Overview

For a contract to exist the parties must have contractual capacity. There are certain persons and classes of persons that lack the capacity to enter into a contract with the consequence (normally) that resulting contracts will not be enforceable against them. Lack of capacity now often stems from a fear of vulnerability to exploitation. This area has become more complex as a result of statutory developments at a state level (calls for national law reform have not yet met with success) which result in a variety of different rules.

• Mental disorder

• Intoxication

• Bankrupts

• The Crown

• Minors

• Companies

Mental disorder

A contract is voidable at the option of a party who, as a result of mental disorder, is unable to understand the nature of the contract being made - provided that the other party knew, or ought to have known, of that person’s disability. The party seeking to withdraw from the contract has the onus of proving both these requirements:

(a) that they were suffering from such a disability and

(b) that the other party was - or ought to have been - aware of it.

For purposes of the first requirement, the question is whether the party seeking to avoid the contract was incapable of ‘understanding the general nature of what he is doing by his participation’: Gibbons v Wright. It is not essential that the resulting contract be 'unfair' (although this might provide some evidence of lack of understanding).

• Gibbons v Wright (1954) 91 CLR 423

• Blomley v Ryan (1954) 99 CLR 362

A party may ratify a contract made while suffering a mental disorder after that disability ceases to operate upon them. Statute (eg Goods Act 1958 (Vic) s 7(1)) generally also provides an exception in relation to necessities; thus, if a person who suffers from a mental disorder which renders them unable to understand the nature of what they are signing, contracts to pay for a delivery of grocery products, the seller, while unable to enforce the contract against that person, will be able to recover a reasonable price for those goods.

Intoxication

A contract is voidable at the option of a party who, as a result of intoxication, is unable to understand the nature of the contract being made - provided that the other party knew, or ought to have known, of that person’s disability. The party seeking to withdraw from the contract has the onus of proving both these requirements:

(a) that they were suffering from such a disability and

(b) that the other party was - or ought to have been - aware of it.

For purposes of the first requirement, the question is whether the party seeking to avoid the contract was incapable of ‘understanding the general nature of what he is doing by his participation’: Gibbons v Wright. It is not essential that the resulting contract be 'unfair' (although this might provide some evidence of lack of understanding).

• Blomley v Ryan (1954) 99 CLR 362

• Gibbons v Wright (1954) 91 CLR 423

A party may ratify a contract made while intoxicated after they cease to be intoxicated. Statute (eg Goods Act 1958 (Vic) s 7(1)) generally also provides an exception in relation to necessities; thus, if a person is intoxicated to such an extent that they are unable to understand the nature of what they are signing, contracts to pay for a delivery of grocery products, the seller, while unable to enforce the contract against that person, will be able to recover a reasonable price for those goods.

Bankruptcy

A bankrupt person may make a contract but unprofitable contracts made prior to bankruptcy may be disclaimed by the trustee.

Legislation may also restrict the nature of contracts a bankrupt person may enter into (for example, the extent of credit they may obtain) and makes entering into some types of contract without disclosure of bankruptcy an offence.

Crown

At common law proceedings could not be taken against the Crown, but legislation has removed this immunity in most cases. Key limitations include:

the power of the Crown to contract may be restricted by statute

Crown is not permitted to fetter the future exercise of its discretionary powers

A parliamentary appropriation is needed to pay damages

Minors

Both the common law and statute operate to restrict the capacity of minors to contract. The existing mix of common law and multiple different state legislative rules in relation to the capacity of minors has rendered the assessment of the contractual capacity of minors exceedingly complex.

Common law

The general rule at common law is that a contract made by a minor (a person under the age of 18) is voidable. There are, however, a number of exceptions (some of which now have statutory force).

Contracts for necessities

A contract by a minor for necessities is binding on both parties. Necessities are determined by reference to the minor’s ‘existing life style’ and must be necessary for maintaining that lifestyle. This is given statutory force in Victoria by the Goods Act s 7. 

• Nash v Inman [1908] 2 KB 1

• Goods Act (Vic) s 7

Beneficial contracts of employment

A contract by a minor for employment is binding provided beneficial (not unfair or oppressive). A minor can, however, repudiate such a contract upon adulthood.

The effect of minority at common law

Contracts not falling within either of the above exceptions are voidable. However (apparently for the sake of causing confusion) the Courts treat ‘voidable’ in this context differently from voidable as normally understood in contract. Where the contract results in the minor permanently acquiring property (eg land) or involves ongoing obligations (eg partnerships) then the contract is binding unless and until avoided by the minor – the minor remains bound by any obligations that arising prior to that point.

All other contracts entered into a minor are not binding unless ratified (taking positive steps to affirm) by a minor when they become an adult.

Statute (Victoria)

In Victoria (as in NSW and SA) there is significant legislation dealing with the obligations of minors under contracts. The Supreme Court Act (s 49) makes certain contracts with minors void:

• Contracts for the repayment of money lent or to be lent

• Contracts for payment for goods supplied or to be supplied (other than necessities)

• Accounts stated

This does not include contracts for the purchase of land, provision of services or employment – the common law still applies for those contracts. While these contracts are ‘void’, this does not always mean ‘void’ in the normal sense of the word! (which is of no affect at all). In particular, it has been held property can still pass under a ‘void’ contract, and money paid by a minor can be recovered only where there is a total failure of consideration (eg, they pay money under a contract of sale and receive nothing in return). The provisions also permit loan contracts and contracts for the sale of goods to be enforced by a minor.

In addition, protection is given to minors who purport to ratify after becoming an adult. In particular, section 50 effectively provides that a minor cannot ratify a contract made during minority (an entirely new contract would need to be entered into). Section 51 further provides that a minor who contracts alone cannot (in most cases) effectively agree (after obtaining full age) to repay all or part of that loan – any such agreement is void.

• Supreme Court Act (Vic)

Statute (other)

Other states have different rules relating to the capacity of a minor and consequences of contracting with a minor. See, for example, Minors (Property and Contacts) Act 1970 (NSW).

Companies

Common law

At common law a company only had contractual capacity to the extent it was given such capacity by its constitution – parties to a contract with the company were taken to have been aware of any restrictions contained in the constitution.

Statute

Section 124 gives a company the same legal capacity as ‘an individual’ including the power to make an agreement and s 125 effectively provides that the performance of an act – including entry into an agreement – by a company will not be invalid merely because it is beyond the power of the company’s constitution.

A company may make a contract either by using its common seal (s 127(2)) or through an agent acting on its behalf (s 126) – the latter is the more common method and s 126 empowers a person acting on behalf of the company with its express or implied authority to ‘make, vary, ratify or discharge a contract.’

A contract made by a promoter of a company on behalf of the company but before it has been formed is not enforceable at common law but is enforceable now under s 131(1) of the Corporations Act 2001provided that the company, once forms, ratifies that pre-registration contract within an agreed time or, if no time is set, a reasonable time. If the company does not form or ratify the contract the individual responsible for making the contract on its behalf may also be liable (s 131(2)).

An unincorporated association has no legal personality and therefore lacks contractual capacity. Thus a contract that purports to be with the association will be void. However, if the contract intends to be with members of the association then there can be a valid contract with those persons.

• Corporations Act 2001 (Cth)

Last updated: 15 October 2019