Posted February 1, 2014 by advocateguru in Learning Centre

Formation of contract

We enter into contracts day after day. Taking seat in a bus amounts to entering to a contract. When you put a coin in the slot of a weighing machine, it’s a contract. You go to restaurant and take snacks; you have entered into a contract. In such cases, we do not even realize that we are making a contract. While In case of people engaged in trade, commerce and industry, they carry on business by entering into contracts. The law relating to contracts is to be found in the Indian Contract Act, 1872. The law of contracts differs from other branches of law in a very important respect. It contains rather a number of limiting principles, subject to which the parties may create rights and duties for themselves, and the law will uphold those rights and duties. Thus, we can say that the parties to a contract, in a sense make the law for themselves. So long as they do not transgress some legal prohibition, they can frame any rules they like in regard to the subject matter of their contract and the law will give effect to their contract.


Thus, the word CONTRACT is common to all of us and virtually no business transactions take place without any contract.


Genesis of a contract lies in an agreement. Every day we enter into so many agreements, not necessarily in the formal sense of written agreement but consciously or unconsciously whatever personal, social or for that matter day to day interactions take place in our life they are agreement in one way or other. For example in the morning we go to a milk booth, buy milk and pay for it. It is an agreement whereby we pay or agree to pay the vendor on delivery of milk. Non-delivery of milk or non-payment of price to the vendor may amount to breach of contract, for which remedy can be sought. Suppose you paid for the milk but the milk turned out to be contaminated. How to deal with such situations.

The way to deal with all these situations is provided in the Contract Act.


In business dealings, offers for sale are made and accepted, consideration is agreed, and conditions of sale are specified. Disputes arise when an offer or acceptance is violated, consideration is unpaid, and conditions of transactions are violated. The Contract Act, 1872 takes care of all these matters and provides remedies for all such disputes.

Before enactment of Indian Contract Act, 1872, the courts in India used to apply English Common laws as suited to Indian conditions, customs and usages. Some difficulties were noticed in using English Common laws. Accordingly later the courts started deciding cases based on Hindu personal laws and Muslim personal laws. But the same were still not found fit to address the business complexities. Accordingly separate Indian Contract Act, 1872 was enacted. This Act is based on English Common law, which is to a large extent made up of judicial proceedings.


The Indian Contract Act, 1872 is not an exhaustive Act as it does not cover all branches of the law of contract. There are other acts to deal with other types of contract like Sales of Goods Act for Sales of goods, Partnership Act for Partnership Contract, Transfer of Property Act for contract relating to Sale of immovable property etc. Again it does not deal with all types of agreements, it deals with only those agreements which are enforceable by law or which gives rise to legal consequences.


Section 2 of the Act defines various terms used in the Act.


Section 2:-

(a)    When one person signifies to another, his willingness to do or to abstain from doing anything, with a view to obtaining the assent of that other to such act or abstinence, he is said to make a proposal;

(b)   When the person to whom the proposal is made signifies his assent thereto, the proposal is said to be accepted. A proposal, when accepted, becomes a promise;

(c)    The person making the proposal is called the “promisor”, and the person accepting the proposal is called the “promisee”;

(d)   When, at the desire of the promisor, the promisee or any other person has done or abstained from doing, or does or abstains from doing, or promises to do or to abstain from doing, something, such act or abstinence or promise is called a consideration for the promise;

(e)    Every promise and every set of promises, forming the consideration for each other, is an agreement;

(f)    Promises which form the consideration or part of the consideration for each other are called reciprocal promises;

(g)   An agreement not enforceable by law is said to be void;

(h)   An agreement enforceable by law is a contract;

(i)     An agreement which is enforceable by law at the option of one or more of the parties thereto, but not at the option of the other or others, is a voidable contract;

(j)     A contract which ceases to be enforceable by law becomes void when it ceases to be enforceable.


After understanding the various terms and expressions defined in section 2 of the Act, let us first understand what the term contract stands for. For that purpose we need to define the term “contract”.


What is contract?

A contract is an agreement made between two or more parties which is enforceable in court of Law.


Section 2(h) defines the term contract “an agreement enforceable by law.”

Pollock defines contract as “Every agreement and promise enforceable at law is a contract.”

According to Salmond, a contract is an “agreement creating and defining obligations between the parties.”


So to understand the term “Contract” we have to first define or understand the term agreement in terms of which the term contract is defined by various authorities.


The term agreement has been defined in section 2(e) as “every promise and every set of promises, forming consideration for each other”. Again another term “promise” has been used, which has been defined as “when the person to whom the proposal is made signifies his assent thereto, the proposal is said to be accepted. A proposal, when accepted, becomes a promise.”


Section 2(b) defines promise in these words: “When the person to whom the proposal is made signifies his assent thereto, the proposal is said to be accepted. A proposal when accepted, becomes a promise.”

Thus, Agreement = Proposal or Offer + Acceptance.

So, agreement and its enforceability lead to formation of a contract. An agreement to become a contract must give rise to a legal obligation or duty. Thus,

                    Contract = Agreement + Enforceability by Law.


Hence, an agreement is an accepted proposal. The two elements of an agreement are:

(i) Offer or a proposal; and

(ii) An acceptance of that offer or proposal.

What agreements are contracts? All agreements are not studied under the Indian Contract Act, as some of them are not contracts. Only those agreements which are enforceable at law are contracts. The Contract Act is the law of those agreements which create obligations, and in case of a breach of a promise by one party to the agreement, the other has a legal remedy. Thus, a contract consists of two elements:

(i) An agreement; and

(ii) Legal obligation, i.e., it should be enforceable at law.

However, there are some agreements which are not enforceable in a law court. Such agreements do not give rise to contractual obligations and are not contracts.

Example; A invites B for dinner in a restaurant. B accepts the invitation. On the appointed day, B goes to the restaurant. To his utter surprise A is not there. Or A is there but refuses to entertain B. B has no remedy against A. In case A is present in the restaurant but B fails to turn-up, then A has no remedy against B.

So, In the above example promises are not enforceable at law as there was no intention to create legal obligations. Such agreements are social agreements which do not give rise to legal consequences. This shows that an agreement is a broader term than a contract. And, therefore, a contract is an agreement but an agreement is not necessarily a contract.

What obligations are contractual in nature? As law of contracts is not the whole law of agreements. Similarly, all legal obligations are not contractual in nature. A legal obligation having its source in an agreement only will give rise to a contract.

Similarly, agreements to do an unlawful, immoral or illegal act, for example, smuggling or murdering a person, cannot be enforceable at law. Besides, certain agreements have been specifically declared void or unenforceable under the Indian Contract Act. For instance, an agreement to bet (Wagering agreement) (S. 30), an agreement in restraint of trade (S. 27), an agreement to do an impossible act (S. 56). An obligation which does not have its origin in an agreement does not give rise to a contract. Some of such obligations are

1. Torts or civil wrongs;

2. Quasi-contract;

3. Judgements of courts, i.e., Contracts of Records;

4. Relationship between husband and wife, trustee and beneficiary, i.e., status obligations.

These obligations are not contractual in nature, but are enforceable in a court of law.


Thus, Salmond has rightly observed: “The law of Contracts is not the whole law of agreements nor is it the whole law of obligations. It is the law of those agreements which create obligations, and those obligations which have their source in agreements.”

Law of Contracts creates rights in personam as distinguished from rights in rem. Rights in rem are generally in regard to some property as for instance to recover land in an action of ejectment. Such rights are available against the whole world. Rights in personam are against or in respect of a specific person and not against the world at large.

Example; A owns a plot of land. He has a right to have quiet possession and enjoyment of the same. In other words every member of the public is under obligation not to disturb his quiet possession and enjoyment. This right of A against the whole world is known as right in rem. While when A is indebted to B for Rs. 100. It is the right of B to recover the amount from A.

This right of B against A is known as right in personam. But no one else (except B) has a right to recover the amount from A.