978-0077733735 Chapter 10 Lecture Notes

Type

Quiz

Book Title

Business Law with UCC Applications 14th Edition

ISBN 13

978-0077733735

April 10, 2019

Chapter 10 - Capacity and Legality: The Final Elements

Chapter 10

Capacity and Legality: The Final Elements

I. Key Terms

Abandoned (p. 239) Majority (p. 238)

Affirmance (p. 242) Minority (p. 238)

Blue laws (p. 246) Necessaries (p. 240)

Capacity (p. 237) Noncompete agreement (p. 249)

Conspiracy (p. 250) Nondisclosure agreement (p. 249)

Disaffirm (p. 238) Public policy (p. 247)

Emancipated (p. 238) Ratification (p. 242)

Exculpatory clause (p. 248) Rebuttable presumption (p. 237)

Illegal agreement (p. 237) Restrictive covenant (p. 249)

In pari delicto (p. 250) Restrictive employment covenant (p. 249)

Local option (p. 246) Usury (p. 246)

II. Learning Objectives

1. Identify the age of minority and the age of majority.

2. Explain the legal status of a contract made by a minor.

3. Differentiate between ratification and disaffirmance.

4. Identify the effects of mental impairment on a contract.

5. Discuss the contractual capacity of a drugged or intoxicated person.

6. Explain the legality of agreements to commit torts and crimes.

7. Identify those agreements made illegal under statutory law.

8. Enumerate those agreements contrary to public policy.

9. Explain what happens under the doctrine of in pari delicto.

10. Explain the effects of illegality.

III. Major Concepts

10-1 The Final Elements

The third element essential to a legally effective contract is the legal ability to enter into a

contractual relationship. This legal ability is known as capacity. Under the law, there is a

rebuttable presumption that anyone entering a contract has the legal capacity to do so.

Because the presumption is rebuttable, a party can attack it. Minors are allowed this

privilege. Minority means that an individual has not yet attained the age of majority. An

exception to the rule about minors and contracts involves necessaries. By statute and

court decision, certain other types of contracts have been excepted from the general rule

that the contracts of minors are voidable at the minor’s option.

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Chapter 10 - Capacity and Legality: The Final Elements

10-2 Other Capacity Problems

Contracts of persons who are mentally infirm or mentally ill, but not legally declared

insane, may be valid or voidable, depending on the seriousness of the mental problem.

Persons declared to be insane by competent legal authority are denied the right to enter

into contracts, and contracts entered into may be declared void. Incompetence related to

alcohol or drugs must be of such a degree that the contracting party has lost the ability to

comprehend or be aware of the obligations being accepted under the contract.

10-3 Agreements to Engage in Unlawful Activity

An agreement might have offer, acceptance, mutual assent, competent parties, and

consideration and still be invalid if the objective of the agreement is to do something that

is illegal. These contracts include those to commit crimes, to commit torts, or to violate

statutory law. Public policy is a general legal principle that says no one should be allowed

to do anything that tends to hurt the public at large. Agreements found void for a violation

of public policy include agreements to obstruct justice, agreements interfering with public

service, agreements to defraud creditors, exculpatory agreements, and agreements in

restraint of trade.

10-4 Consequences of Illegality

Contracts that involve illegal agreements are invalid. Moreover, promises to commit

illegal acts may lead to indictment and prosecution. If an entire agreement is illegal, no

binding contract results. If only part of an agreement is illegal, the court may rescind only

those parts found to be illegal. When both parties are equally at fault in creating an illegal

agreement, the court will award no damages to either. When the parties are not in equal

fault, relief will often be granted if sought by the innocent party.

IV. Outline

I. The Final Elements (10-1)

A. The Nature of Capacity and Minority

1. Introduction

a. Capacity is a rebuttable presumption.

b. The law allows minors the privilege to disaffirm a contract.

c. A few states deduct something from the amount due back to the minor if goods

are damaged.

2. Definition of Minority

a. The Twenty-Sixth Amendment to the U.S. Constitution lowered the voting age in

federal elections form 21 to 18 years.

b. Thereafter, most states lowered the age of majority to 18 years.

c. Some states differ in regard to matters such as the legal ability to purchase

alcoholic beverages.

d. Some states tie the age of majority to high school graduation.

e. Young men must register for selective service at age 18.

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Chapter 10 - Capacity and Legality: The Final Elements

3. Emancipation and Abandonment

a. In some jurisdictions, minors who became emancipated, no longer under the

control of their parents, are responsible for their contracts.

b. Emancipated minors include those who are married, those in the armed forces,

and those who leave home and, in the process, give up all right to parental

support.

c. A few states still hold to the minority rule that emancipated minors do not give up

the legal advantages associated with minority simply because they leave home or

become married.

4. Misrepresentation of Age

a. Despite a misrepresentation of age, most states will allow a minor to disaffirm the

contract involved.

b. Some states require the minor to place the adult in the same situation that he or

she was in before the contract.

c. Some states allow the adult to use tort law to sue the minor for fraud.

d. Some states have passed statutes allowing recovery against a minor who is

engaged in business and misrepresents his or her age in a commercial contract.

B. Contractual Capacity of Minors

1. Introduction

a. Executory contracts may be repudiated by a minor at any time.

b. If goods delivered to a repudiating minor are still in the minor’s possession, it is

the minor’s duty to return them to the other party.

2. Contracts for Necessaries

a. Necessaries are those goods and services that are essential to a minor’s health and

welfare.

b. If a minor makes a contract for necessaries, he or she will be liable for the fair

value of those necessaries.

c. To determine whether goods and services qualify as necessaries, the court will

inquire into the minor’s family status, financial strength, and social standing or

station in life.

d. Rules related to necessaries apply only to executed contracts.

e. Unless parents have cosigned or have neglected or deserted the minor, parents are

not liable for a minor’s contract for necessaries.

3. Other Contracts not Voidable

a. Minors may not at their option disaffirm a valid marriage or repudiate an

enlistment contract in the armed forces based on a claim of incapacity to contract.

b. Minors may not repudiate a contract for goods and services required by law.

c. Minors may not terminate contracts with financial institutions for educational

loans.

d. Other exceptions vary from state to state.

4. Shield or Sword Doctrine

a. The right to rescind contracts was given to minors as a shield against

unscrupulous adults.

b. An unprincipled minor can take the shield and transform it into a sword that

violates the rights of the other party.

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Chapter 10 - Capacity and Legality: The Final Elements

c. Courts deny rescission rights to minors when rescission is used as a weapon

against another contracting party.

5. Voidable Contracts and Innocent Third Parties

a. Provisions of the UCC protect the rights of an innocent third party who purchases

goods from an individual who originally purchased those same goods from a

minor.

b. When a sale of real property to an innocent third party is involved, the minor,

upon reaching adulthood, may disaffirm the sale and recover the property.

6. Ratification and Disaffirmance

a. People may ratify their contracts made during minority only after reaching their

majority or within a reasonable time thereafter.

b. Ratification may be express or implied by ways including doing nothing about the

contract after reaching majority.

c. An individual may disaffirm an agreement made during minority before or within

a reasonable time after reaching adulthood.

d. Failure to disaffirm within a reasonable period of time would imply that the

contract has been ratified.

e. Disaffirmance may be implied by acts, or by an oral or written declaration of

disaffirmance.

II. Other Capacity Problems (10-2)

A. Persons Mentally Impaired

1. Under the orthodox rule of competency, a contract made by a person who is mentally

infirm, has brain damage, is suffering from an illness such as Alzheimer’s disease, or

suffers from a psychological disorder may be voidable if the person’s impairment is

severe enough to rob that person of the ability to understand the nature, purpose, and

effect of that contract.

2. An incompetent person must return all consideration received unless the other party

knew of and took advantage of the mental impairment.

3. Under the second rule recognized by the Restatement of Contracts and by some

states, a person’s contractual obligations may be voidable if that person suffers from a

mental impairment that prevents him or her from acting in a reasonable manner.

4. A person declared to be insane by competent legal authority is denied the right to

enter contracts.

B. Persons Drugged or Intoxicated

1. A contract agreed to by someone under the influence of alcohol or drugs may be

voidable.

2. Incompetence related to either alcohol or drugs must be of such a degree that a

contracting party would have lost the ability to comprehend or to be aware of

obligations being accepted under the contract.

3. A person who enters into a contract while in this condition may either affirm or

disaffirm the agreement at a later time.

4. Disaffirmance requires the return of all consideration received unless the other party

took advantage of the person’s impaired condition.

III.Agreements to Engage in Unlawful Activity

A. Agreements to Commit Torts and Crimes

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Chapter 10 - Capacity and Legality: The Final Elements

1. The law will not uphold any contract that obligates one of the parties to commit a tort

or crime.

2. A contract that involves conduct that is allegedly outlawed by a vague statute might

not be void.

B. Agreements Made Illegal Under Statutory Law

1. Some agreements that may not seem wrong on the surface may have been made

wrong by specific statutory enactments.

2. The illegal practice of charging more than the amount of interest allowed is called

usury, and agreements to charge more interest than allowed are illegal.

3. Any agreement or promise concerning a wager or some other form of gambling is

invalid and may not be enforced unless an exception is in place for certain activities

such as horse racing, lotteries, or charitable activities.

4. Certain businesses and professions must be licensed before they are allowed to

operate legally.

a. If a license is required to raise revenue, the lack of a license will not necessarily

make a contract void.

b. If the licensing requirement is designed to protect the public, it is likely that

unlicensed persons will not be able to enforce their contracts.

5. A court will not enforce a contract or any part of a contract that it regards as

unconscionable.

6. Sunday agreements, also known as blue laws, regulate the making and performing of

contracts on Sunday with the enforcement of such laws varying in different

geographical laws.

C. Agreements Contrary to Public Policy

1. The general principle of public policy says that no one should be allowed to do

anything that injures the public at large.

2. Agreements to obstruct justice are void and include agreements to protect someone

from arrest, to suppress evidence, to encourage lawsuits, to give false testimony, to

bribe a juror, to refuse to prosecute someone, and to refuse to serve as a witness in a

trial.

3. Agreements interfering with public service are illegal and void and include

agreements to bribe or interfere with public officials, to obtain political preference in

appointments to office, to pay an officer for signing a pardon, or to illegally influence

a legislator for personal gain.

4. Agreements to defraud creditors are void such as agreements to sell and transfer

personal and real property for far less than actual value if done for the purpose of

hiding assets from creditors.

5. All parties should be liable for their own wrongdoing, and the law looks with disfavor

on any agreement which allows a party to escape that responsibility.

a. One device used in an attempt to escape liability is an exculpatory clause which

states that a party will not be liable for any economic loss or physical injury even

if that party caused the loss or injury.

b. Exculpatory clauses have been found to be a violation of public policy, however,

some courts enforce them if they do not offend public policy and there is no

inequality of bargaining power between the parties.

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Chapter 10 - Capacity and Legality: The Final Elements

6. An agreement for the sale of a business contains a restrictive covenant restricting the

seller from entering the same type of business, but this type of agreement is usually

upheld if it is reasonable in time and geographic area.

7. A restrictive employment covenant limiting a worker’s employment options after

leaving a current job are upheld only if they are reasonable in the type of work they

prohibit, the length of time involved, and the geographical area covered.

8. Nondisclosure agreements require employees to promise that, should they leave their

present place of employment, they will not reveal any confidential trade secrets

learned at work.

a. Nondisclosure agreements do not deprive people of their employment and,

therefore, do not constitute an extensive limit on competition.

b. Under certain circumstances courts will prohibit the revelation or utilization of

trade secrets even in the absence of a nondisclosure agreement.

IV. Consequences of Illegality (10-4)

A. In Pari Delicto Contracts

1. When both parties to an illegal agreement are equally wrong in the knowledge of the

operation and effect of their contract, they are said to be in pari delicto (in equal

fault), and the court will not award relief to either party.

2. When parties are not in pari delicto, relief will often be allowed if sought by a more

innocent party who was not aware that a law was being broken and had no intent to

do a wrong.

B. Partial Illegality in an Agreement

1. Sometimes an agreement will be partly legal and partly illegal.

2. In an agreement that is partly legal and partly illegal, if the legal part can be separated

from the illegal part without changing the essential nature of the contract, the court

will enforce the legal part.

V. Background Information

A. Cross-Cultural Notes

1. British Parliament passed the Infant Relief Act in 1874, which protected persons under

age twenty-one from their lack of experience and the persuasions of merchants and

moneylenders. The act made contracts “absolutely void” for repayment of money

loans and for goods other than necessaries. The act also provided that no action could

be brought to charge a person for ratification of such a contract after reaching full age.

2. In Kenya, it is common practice to pay a bribe to a public official. According to the

website of the Nairobi, Kenya U.S. Embassy at

http://nairobi.usembassy.gov/doing-business-local.html, public contracting law is not

effective to limit government officials from steering contracts to those offering bribes.

Title to land is uncertain, and there is widespread violation of intellectual property

rights. The website also notes that foreigners have much less political clout than

Kenyan citizens.

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Chapter 10 - Capacity and Legality: The Final Elements

B. Historical Notes

1. Some unusual laws have been enacted in an apparent attempt to keep Sunday as a holy

day of rest and worship for Christians. Such laws can be found in the history of

Evansville, Indiana, where hamburgers were not to be sold on Sundays, and in

Louisiana, where it was unlawful to whistle on Sundays.

2. As set forth by Lord Truro in Egerton v. Earl Brownlow, 4 H.L. Cas. 1, 196 (1853),

"Public policy is that principle of the law which holds that no subject can lawfully do

that which has a tendency to be injurious to the public, or against the public good,

which may be termed, as it sometimes has been, the policy of the law, or public

policy in relation to the administration of the law."

3. Blue Laws are established to prohibit certain behavior on Sundays. For example,

Florida prohibited women from parachuting on Sundays. Salem, West Virginia

prohibited eating candy less than an hour and a half before church service, and

Winona Lake, Wisconsin, prohibited eating ice cream at a counter on Sunday. For

more examples of restrictive laws, see

https://www.legalzoom.com/articles/top-craziest-laws-still-on-the-books.

C. State Variations

1. Oklahoma law provides as follows in regard to rights of minors:

In all cases other than those specified herein, the contract of a minor

may be disaffirmed by the minor himself, either before his majority or

within one (1) year's time afterwards; or, in case of his death within

that period, by his heirs or personal representatives. Provided, that any

minor between the ages of sixteen (16) and eighteen (18) who has paid

for any repairing, supplying or equipping on any type of a motor

vehicle may disaffirm said contract in like manner only by restoring

the consideration to the party from whom it was received.

2. In regard to minors providing artistic or creative services, the Tennessee Protection of

Minor Performers Act provides at T.C.A. § that “[i]f a contract is approved by the

appropriate court pursuant to this part, then the minor may not, either during minority

or after reaching majority, disaffirm the contract on the ground of minority, nor may

the minor assert that the minor's parent or guardian lacked the authority to make the

contract personally as an adult.”

3. In Georgia, a contract made by an intoxicated person is not void, even though the

intoxication is brought about by the other party, but is merely voidable by the

intoxicated person.

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Chapter 10 - Capacity and Legality: The Final Elements

4. Viva R. Moffat, Making Non-Competes Unenforceable, 54 Ariz. L. Rev. 939 (2012),

discusses the confusion and differences in state law regarding employment

non-competition clauses leading to forum shopping.

D. Quotations

1. After being criticized for his actions toward Cuba, President Kennedy replied “I think

that your attention might well be directed to the burglar, rather than those who caught

the burglar.”

— John F. Kennedy to Earl Russell, October 26, 1962

3. Perhaps the sentiments contained in the following pages, are not yet sufficiently

fashionable to procure them general favor; a long habit of not thinking a thing wrong,

gives it a superficial appearance of being right, and raises at first a formidable outcry

in defence of custom. But the tumult soon subsides. Time makes more converts than

reason.

— Thomas Paine, Common Sense

4. The public good is in nothing more essentially interested, than the protection of every

individual’s private rights.

— Sir William Blackstone (1723–1780), British jurist

VI. Terms

1. Minor is Middle English from Latin meaning “smaller, less.”

2. Usury is an archaic term for interest that is often used today to refer to exorbitant

interest rates.

3. Culpa means blame in Latin. Separate exculpate into its Latin origins (ex + culpa) to

illustrate how the word has come to refer to clearing someone of guilt.

4. Originally, covenant meant agreement, whereas contract meant “to pull together.”

Today, the meaning of covenant is similar to that of contract, with covenant implying

a more formal or solemn agreement.

VII. Related Cases

1. Sixteen-year-old William Wallace purchased a car from Whitley’s Discount Auto

Sales. According to the credit application that he was eighteen. Within eight months,

Wallace had two car accidents. He decided to return the car and get his money back.

The court held in Gillis v. Whitley’s Discount Auto Sales, 319 S.E.2d 661 (N.C. App.

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Chapter 10 - Capacity and Legality: The Final Elements

1984) ruled that Wallace was entitled to the money he had paid and that

misrepresentation of age did not bar him from disaffirming his contract.

2. At the age of ninety, Viola Farnum sold her home to Joseph Silvano III, her

landscaper, for approximately half its fair market value. Viola’s mental competence

had been failing for three years prior to the sale. A brain scan revealed Viola was

suffering from an organic brain disease. The court held that Viola lacked capacity to

enter into a contractual relationship for the sale of her house and stated she was

entitled to rescind the conveyance. Farnum v. Silvano, 540 N.E.2d 202 (Mass. App.

1989).

3. Burke wrote a note promising to pay $200,000 to Byer. In exchange for this note,

Byer agreed not to sue Burke for prior gambling losses. When Burke reneged on his

promise, Byer sued to enforce the note. The court ruled for Burke and dismissed the

case, stating “any note or contract with any part of the consideration thereof involving

money won or lost at gambling is absolutely void (citing South Dakota statute

53-9-2).” Byer v. Burke, 338 N.W.2d 293 (S.D. 1983).

4. A member of a Michigan health club was injured while using some of the club’s

equipment. Her membership agreement included an exculpatory clause stating that a

member could not sue the club if injured. However, the court ruled that the

exculpatory clause would not protect the club from injuries if gross negligence was

present, i.e., failure to maintain the equipment and to train employees and members

regarding proper use. Universal Gym Equipment v. Vic Tanny Intern, 526 N.W. 2d 5

(1994).

5. Dr. Herron signed an employment contract with Dr. Stringer that included a covenant

not to compete within a 15-mile radius of the three veterinary offices if he left his

employment. When he left, he filed suit to rescind the contract. The court agreed,

stating that the covenant was unreasonable because the 15-mile radius was overbroad.

The overwhelming majority of the former employer’s clients lived much closer than

15 miles from at least one practice location and the radius reached into adjoining

counties and another state. Stringer v. Herron, 424 S.E. 2d 547 (S.C. Ct. App. 1992).

VIII. Teaching Tips and Additional Resources

1. Detailed information regarding emancipation of minors, including the court process

involved, can be found at http://family.findlaw.com/emancipation/.

2. On the Web MD Internet site at

http://www.webmd.com/mental-health/alcohol-abuse/blood-alcohol information

regarding blood alcohol and how specific amounts of alcohol affects behavior can be

found.

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Chapter 10 - Capacity and Legality: The Final Elements

3. At http://www.nimh.nih.gov/statistics/index.shtml information from the National

Institute of Mental Health regarding specific mental disorders and their frequency in

the U.S. can be found.

4. Opinion 9.02 from the American Medical Association Code of Medical Ethics

involving restrictive covenants in physician contracts can be found at

http://www.ama-assn.org/ama/pub/physician-resources/medical-ethics/code-medical-

ethics/opinion902.page.

5. An article for the FBI’s website titled “Online Gambling – Don’t Roll the Dice” is

available at https://www.fbi.gov/news/stories/2007/june/gambling_060607.

6. Ask students to investigate the existence of blue laws in their home states.

Information on Blue Laws from Massachusetts is available at

http://www.mass.gov/lwd/labor-standards/dls/mass-blue-laws/overview.html. The cite

notes that businesses may open on Sunday but restricts the sale of alcohol to certain

hours.

7. Students may think that a minor cannot enter into a legal contract. The proof that a

minor can is that the other party is legally bound by the contract. Emphasize that,

depending on state law, a minor can enter a legal contract and then void the contract.

8. Why do minors need to be protected from contractual obligations any more than

adults? Have two student groups prepare and present opposing arguments on this

question. Then ask students what their real opinions are on this issue. Have them

defend their viewpoints.

9. Introduce this section by having students review their experiences in making

contracts when they were minors. For each experience shared with the class, discuss

what kind of protection would have been afforded the individual by the law.

10. How does the fact that minors in the United States are allowed to drive lead to

contracts between adults and minors? Have students work in groups to answer this

question. Students may suggest that minors’ ability to drive leads them to buy cars, to

have insurance, to buy car stereos, to apply for gasoline credit cards, and to have

work performed on their cars. Discuss the following questions: Would increasing the

legal driving age to the age of majority eliminate the need for laws enabling minors to

void contracts that are related to driving? How would increasing the driving age to

eighteen or twenty-one be harmful to minors? How would it protect them? Do minors

need special protection for driving-related contracts?

11. Ask students whom the laws that limit minors’ contractual capacity are designed to

protect. Discuss ways that these laws protect minors, parents and guardians, and

adults who enter into contracts with minors. Review the laws that enforce contracts

for necessaries. Which laws protect the interests of adults who enter the contracts, and

how do these laws also serve the interests of minors? Finally, discuss why the fact

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Chapter 10 - Capacity and Legality: The Final Elements

that wholly executory contracts may be repudiated by minors serves the interest of

minors.

12. Does enrolling in a school, signing up for a Girl Scout troop, or joining a fraternity

create a contract between a minor and an organization? If so, what are the obligations

of the parties in the contract? Is the contract violable? If not, how do the schools and

clubs deal with the problem of the unenforceability of minors’ contractual

obligations? Have students investigate these questions by contacting the board

members of schools or the legal advisers or national offices of fraternities, sororities,

and clubs.

13. Consider whether minors or their parents may sign enforceable releases from liability.

In Rogers v. Donelson – Hermitage Chamber of Commerce, 807 S.W.2d 242 (Tenn.

Ct. App. 1990), the court ruled that while a parent may release the parent’s own cause

of action for a child’s injuries, the parent may not release the child’s cause of action.

14. Describe several examples of contracts and ask students to identify them as either

legal or illegal. When discussing illegal contracts, have students consider whether any

part of the contract is enforceable. Ask students their opinions about the consequences

of enforcing illegal contracts.

15. In his book Law in America, Lawrence Friedman, a noted legal scholar at Stanford

University, explains that, “Nowadays, we take it for granted that the main way of

punishing criminals is to clap them into some sort of prison. But this was, in fact, not

the general rule before well into the nineteenth century…Punishment then almost

never meant loss of freedom. Punishment was money (fines), physical pain

(whipping), shaming (sitting in stocks, for example), or in extreme case banishment

or death. The main idea was to hold the wrongdoer up to public obloquy. The

community played an important role in criminal justice. Public degradation would

force the wrongdoers to see the error of their ways, and help to integrate them back

into the community—a basic goal of the system.” Have students discuss whether the

way to prevent people from entering into contracts involving criminal activity or torts

might be to threaten to use one of the pre-nineteenth-century methods outlined above.

What merits does the old system have in light of the new system and vice versa? Is

there even any place for such an approach in today’s legal system? Explain.

16. Have students work in pairs to investigate local licensing requirements for various

businesses and professions. One member of the pair can interview business owners to

learn about the licensing process and their personal views on licensing. The other

member of the pair can find out about the requirements from local government

officials.

17. Make a list on the board of local traders and professions that are licensed by the state.

Discuss whether each license is for revenue or regulatory purposes. Also discuss the

reasons behind licensing these professions but not others.

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Chapter 10 - Capacity and Legality: The Final Elements

18. Pose contractual scenarios to the class and direct students to think of examples of

unconscionable agreements.

19. In his book, About Law, Tony Honore explains the purposes of tort law in the

following way: “(Tort law) tries to keep wrongdoing under control and in that way

supplement criminal law. It also tries to ensure that people who are harmed by others

get compensation.” Have students discuss whether or not exculpatory clauses

promote or defeat these purposes.

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