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When you sit down to sign a legal contract, you may not even consider whether you are capable of doing so. This is the oddly specific legal issue that the concept of “capacity” focuses on. This article discusses what capacity is, what may call it into question and how this process affects the validity of your commercial contract.
What is Capacity?
Capacity is a legal concept that describes whether a person can legally enter a contract. Having capacity is more than just having the ability to sign off on a contract. To truly have capacity you must:
- understand all of the facts;
- understand the main choices you can make;
- be able to properly weigh up the consequences of the choices you can make;
- understand how these consequences will affect you or your business; and
- be able to communicate why you have made your decision.
For a contract to be valid, each party that agrees to it must have full legal capacity as outlined above. Capacity is also decision specific. You may have capacity to make a simple financial decision such as how much to spend on groceries. However, you may lack the capacity to make more complex financial decisions, such as where to invest your money.
In light of this list, let us explore some factors that may affect an individual’s ability to commit to a contract.
Intoxication
A contract can be void as a result of intoxication.
Thus, it is insufficient to become intoxicated and claim you were unaware of your actions. To make the contract void, you must show that the other person knew you were intoxicated and could not commit to the contract.
Continue reading this article below the formBankruptcy
If you are bankrupt, you are not generally deprived of your capacity to contract with other people. However, there are rules about whether you can enter a contract at all. The Bankruptcy Act 1966 states that if you sign off on a contract and obtain credit of more than $5,881 without disclosing that you are bankrupt, you have committed an offence and could be liable for fines.
Minors
A minor, or young person, is generally defined as a person under the age of 18. The law considers that since a person is young, they may not be able to exercise full capacity or understand the choices they make. However, it is not very clear and can vary from state to state.
For example, a young person can sign and be bound to a contract for goods and services for ‘necessities’. These necessities are the things that the court may consider as normal for a minor to maintain their existing lifestyle. They may include:
- accommodation;
- food;
- clothing;
- medicine; and
- education (both at school or for hobbies).
Companies
Companies are governed by their constitutions. As such, when it comes to signing contracts, the same rule applies. Companies only have the capacity to legally enter a contract if their constitution says they do.
You will often see a warranty in contracts that states that each party promises that they have the authorisation to enter the contract. Such warranties may specify there are no restrictions on the party, either in their constitution or in the form of bankruptcy, that would prevent them from entering the contract.
When you are ready to sell your business and begin the next chapter, it is important to understand the moving parts that will impact a successful sale.
This How to Sell Your Business Guide covers all the essential topics you need to know about selling your business.
Key Takeaways
Capacity is an important element of your ability to lawfully sign and validly enter a contract. It is a consideration for individuals and companies, can vary from state to state and can be quite complex at times. Factors affecting capacity include age, intoxication and bankruptcy. Additionally, in the case of a company, the company constitution will determine capacity.
If you need help with determining whether you have capacity, our experienced contract lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 1300 544 755 or visit our membership page.
Frequently Asked Questions
Yes. Let us suppose you have a mental illness that affects your ability to make decisions. It may come and go in varying intensity, or affect you differently from week to week. Since the judgement of your capacity is decision specific, you may have the appropriate capacity for one decision, and the next day not have the appropriate capacity.
The list is very long and can vary from person to person. Things that may affect decision-making are the type of decision, the complexity of the decision, the time pressure, the way the decision has been communicated, the physical environment, the personal stress being experienced or any number of other things. These factors can even stray into another legal concept, unconscionable conduct or undue influence.
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