3.1 - Contract Law

Contract Law

Capacity to Contract

To enter into a contract, an individual must have the capacity, meaning they must be an adult and of sound mind. Ensuring a client possesses this capacity is crucial for the contract's validity.

Contract Validity

Contracts can be classified as either void or voidable.

  • Void Contracts: These are unenforceable from the outset. For example, a contract that contradicts the Conduct of Business Sourcebook (COBS) is void.

COBs Example:

A firm is obligated to provide best execution to its clients. A contract stating the firm does not offer best execution would be void because it contradicts COBs.

  • Voidable Contracts: These contracts are valid unless a party chooses to void them. For instance, if a client opens an account with an unauthorized firm, the contract is voidable at the client's discretion.

Unauthorized Firm Example:

If a client makes money through an unauthorized firm, they might choose to enforce the contract. Conversely, if they lose money, they can void it.

A voidable contract remains in force until one party decides to terminate it.

Protection from Contractual Obligations

The law protects certain entities from being bound by contracts:

  • Bankrupt Individuals: Restrictions apply to certain types of contracts.
  • Mentally Incapable Persons: Incapacity can be specific to certain matters.
  • Intoxicated Individuals: Protection applies if the other party was aware of their intoxication.
  • Minors: Certain contracts are permissible (e.g., a 16-year-old opening a cash ISA), while others are not (e.g., opening a stocks and shares ISA).
  • Companies: A company's constitutional documents (memorandum and articles) dictate the authority of its directors. If a director acts beyond these powers, it is considered an "ultra vires" act.

Ultra Vires:

If a company director acts beyond the powers specified in the company's constitutional documents, that director must indemnify the company against any loss and justify any profit.

Powers of Attorney

A power of attorney grants a third party the authority to act on someone's behalf. This can include signing documents, making purchases, disposing of property, or handling affairs.

Types of Powers of Attorney
  • Specific Power of Attorney: Grants specific powers (e.g., selling a house).
  • General Power of Attorney: Allows handling of all affairs during the donor's absence.

Both specific and general powers of attorney are automatically revoked if the donor becomes mentally incapable.

  • Lasting Power of Attorney (LPOA): Created when the donor is mentally sound, designating someone to manage their affairs if they become incapable in the future.

Wills

A will dictates how assets are distributed after death and specifies who will care for any young children.

Capacity to Make a Will

To create a will, one must have the capacity to make a contract which entails being an adult of sound mind and over the age of 18.

Personal Representatives

The individuals responsible for managing the estate. In England and Wales, they are known as either executors or administrators.

  • Executor: Appointed when there is a valid will. They receive a grant of probate to execute the will's instructions.
  • Administrator: Appointed when there is no valid will. They receive a letter of administration.
Deed of Variation

An amendment to a will made by the beneficiaries, within two years of the death. This allows beneficiaries to alter the distribution of assets.

Deed of Variation Example:

A surviving spouse who is the sole beneficiary might use a deed of variation to give assets to their children.

Letter of Administration

Issued when there is no valid will or when the will has issues (e.g., a beneficiary being a witness).

The national intestacy rules typically take precedence when someone dies intestate (without a valid will).

National Intestacy Rules

Legislation dictates who receives assets when there is no will.

Examples:

  • If there is a spouse but no children, everything goes to the spouse.
  • If there is a spouse and children, the first 250,000250,000 goes to the spouse, and half of the remainder goes to the spouse with the other half divided proportionally among the children.
  • If you don't have a children, if you don't have a spouse. Those rules kick in, but we don't need to know this for the exam

Property

Types of Property
  • Real Property: Physical assets like land and buildings, often with intangible rights (e.g., access rights).
  • Personal Property: Chattels such as jewelry.
Property Registration
  • Registered Property: Ownership is recorded in a registry (e.g., the UK Land Registry).
  • Bearer Property: Ownership is determined by physical possession of a certificate.

Bearer Bonds Example:

In some markets, securities are issued as bearer bonds, with no central register of ownership. Physical possession of the certificate proves legal entitlement.

Joint Ownership
  • Joint Tenancy: Ownership transfers to the survivor upon death. Often a 50/50 split.
    US Equivalent: Rights of survivorship
  • Tenants in Common: Ownership can be divided unevenly (e.g., 90/10). Upon death, the share passes to the beneficiaries of the deceased.
    US Equivalent: No rights of survivorship

Bankruptcy and Insolvency

Bankruptcy

Applies to individuals who cannot pay their debts. The court attempts to distribute assets fairly to creditors.

  • Individual Voluntary Agreement (IVA): A court-sanctioned alternative to bankruptcy, allowing individuals to pay back creditors.
Insolvency

Applies to companies unable to pay debts. Insolvency doesn't always lead to liquidation.

  • Company Voluntary Arrangement (CVA): The corporate equivalent of an IVA, formalized through the courts.
  • Administration: An administrator attempts to restructure and salvage the business.
  • Liquidation: Occurs if restructuring fails, assets are sold, and the company is dissolved.