In common law jurisdictions, three elements are required for the formation of a legally binding contract: offer and acceptance; intention to create legal relations; and consideration. Of these three elements, perhaps the most difficult to understand is consideration. This article examines how consideration operates in common law jurisdictions, draws a comparison with the position in other jurisdictions (including China) and discusses the related concept of privity of contract.
Consideration in common law jurisdictions
Under the doctrine of consideration, as it is often described, a promise will only be enforceable if it is supported by consideration. Consideration is best defined as something of value that is given by each party to the other party. It may take various forms. For example, it might be an act, such as the payment of money by one party in return for the sale of goods or the provision of services by the other party. Alternatively, it might take the form of forbearance to act, where one party agrees to refrain from doing something.
The courts have formulated various rules in relation to the doctrine of consideration. These include the rule that consideration must be “sufficient” in terms of having some value; however, it does not need to be “adequate” in terms of reflecting the price that the market might place on the consideration. For example, if one party agreed to lease a building to the other party in return for the monthly payment of $1 in rent, this would be treated as sufficient consideration, even though the market monthly rent might be thousands of dollars. In this context, the rent has traditionally been described as “peppercorn rent”, the term “peppercorn” being used to refer to something that has a small or nominal value. Its usage comes from medieval times in England, when peppercorns were valuable and rent was sometimes paid in peppercorns. Another important rule that is well-established in common law jurisdictions is that the consideration must be given as part of the process of entering into the contract. What this means is that consideration that one party has already provided – known as “past consideration” – will not be sufficient. For example, the performance of obligations under an existing contract will not be sufficient consideration for a new contract, nor will a promise to perform a duty to which the party providing the consideration is already subject.
In most contracts, verbal or written, the requirement for consideration does not cause any problems as it will be relatively easy to demonstrate that each party is giving something of value to the other party. But what about the situation where only one party is providing something of value? Take, for example, the situation where one party promises to make a gift of a watch to another party. In common law jurisdictions, a promise to make a gift will in general not be enforceable because the party to whom the promise is made does not provide any consideration. I say “in general”, because the promise will be enforceable if it is contained in a deed. This is because a deed does not require consideration (see China Business Law Journal volume 2 issue 2: Contract or agreement – which is correct?).
Note that from the perspective of property law, the gift will be effective, i.e. complete and irreversible, once the watch has been given to the other party. This is because title to the watch will have passed to the other party.
By comparison, in many civil law jurisdictions, the promise to make a gift will be enforceable so long as the offer has been accepted by the other party. This is because the necessary requirements for the formation of a contract have been satisfied. This is also the case in China, as confirmed by the Supreme Court in its Certain Explanations of Questions under the Contract Law, which came into effect on 13 May 2009.
The historical origin of the doctrine of consideration is the subject of some debate among scholars. It was a requirement to show consideration in the old form of action called assumpsit, under which one party could sue another party for a breach of contract. In addition, there was a philosophical justification for the requirement on the basis that a contract should be conceived to be the product of an exchange or bargain between two or more parties as a result of the exercise of free will.
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A former partner of Linklaters Shanghai, Andrew Godwin teaches law at Melbourne Law School in Australia, where he is an associate director of its Asian Law Centre. Andrew’s new book is a compilation of China Business Law Journal’s popular Lexicon series, entitled China Lexicon: Defining and translating legal terms. The book is published by Vantage Asia and available at law.asia.