What Are Contract Terms? Know the Fundamentals
A large part of business success is driven by how your organization manages its contracts. Efficient contract management requires you to know what contract terms are, understand their value to the contract, and track their performance.
Your contract terms are legally binding and can expose your business to risk. So, it’s important that you manage them properly. Contract management software can help streamline the contracting process and increase efficiency, but you should also thoroughly understand the different contract terms out there.
What are contract terms?
Contract terms are the different provisions in a contract. Simply put, a contract comprises different provisions or terms that give the contracting parties rights and responsibilities. Contract terms create an obligation on one or all the parties; when a party doesn’t comply with a term, there is a breach of contract.
Different terms have varying effects on the transaction, which is why parties may gloss over some terms but spend an enormous amount of time negotiating other terms. For example, some common heavily negotiated terms include indemnity, limitation of liability, price, and termination.
You should always scrutinize contract terms to ensure they represent the parties’ intention. Poorly drafted and ambiguous terms can cause issues and sometimes lead to litigation down the line. You can save precious time and resources when you take care and write your agreements in clear, precise language.
What are the types of terms?
Contract terms exist to protect your business interest in every transaction. There are three broad categories of contract terms: condition, warranties, and innominate. They are classified according to the remedies available when any contracting party breaches a term.
Conditions are fundamental contract terms and are a core part of the contract. Conditions are parties’ obligations under the contract, which one or both parties must fulfill in order not to breach the contract. You can determine whether a term is a condition by examining the value either or both parties place on the term. Does this term go to the heart of the contract?
For example, parties in a contract of sale of goods may agree that the goods must meet a certain quality standard, or the vendor will not be entitled to compensation. If the vendor doesn’t meet the standard, the purchaser can rightly refuse to pay for the goods.
The breach of a condition gives the aggrieved party a right to either terminate or affirm the contract. In both cases, they can also sue for damages.
Warranties are statements affirming the existence or accuracy of a fact. A warranty is more like an assurance or a promise a party gives regarding the condition, nature, quality, or quantity of goods or property.
A warranty can be expressly given by a counterparty or implied by the contract law governing the transaction. The breach of a warranty gives the other party the right to claim damages but not the right to terminate the contract.
Innominate terms are contract terms that are neither conditions nor warranties. The court determines the appropriate remedy when a party brings a legal action for the breach of an innominate term.
The court awards remedies based on the term’s significance to the contract and the breach’s impact on the injured party. If the court decides that the innominate term is cardinal to the agreement and the breach affected the injured party severely, the court may treat it as a condition. In that case, the aggrieved party can claim remedies available for the breach of a condition.
However, if the court decides that the innominate term is only a minor term and didn’t cause a substantial loss, the court may treat it as a warranty. The wronged party will be entitled only to claim damages.
Some common contract terms
Contracts govern business relationships and transactions. There are several standard terms that you’ll use in almost every agreement. Some are specific to certain transactions and the parties involved.
A few of the most common contract terms that occur in business contracts include:
Businesses in a contractual agreement may disclose sensitive business information to each other. With a confidentiality agreement, they can ensure the other party won’t disclose such information to others.
In business, circumstances can make a party want out of a once favorable agreement. So, every contract outlines how any party in an agreement can bring the contract to an end.
The contracting parties may not want to involve the court in settling disputes between them. It’s common for parties to decide how they will settle any disagreement arising from the contract.
Unforeseen external circumstances or events, such as natural disasters, may make it impossible for you to fulfill your obligations under a contract. The force majeure clause protects parties from being liable for breach of contract under those circumstances.
Jurisdiction and governing law
Sometimes, it’s important to state clearly what court will hear any dispute under the contract. You can also decide the applicable legal system, especially when parties are in different states or countries.
An indemnity clause is one of the most important clauses in a business contract, where one or both parties agree to compensate the other in case of damages or losses due to one party’s actions. It shifts liability from one party to the other.
How to manage contract terms
Every business uses contracts—to hire employees, sign new customers, or partner with vendors. However, most businesses still struggle with contracting.
Contract management software can help you automate your contract management and eliminate many human inefficiencies that slow contracts down. The best contract management software will help you manage all your organization’s contracts through all contract lifecycle stages. It’s important to keep track of all your contract obligations and have visibility into your contract terms. Fulfilling your obligations will be challenging if locating and tracking your contracts is a hassle.
Contract terms are the key to sound contracts
Contract terms are a core part of your business agreement. However, they’re not equal. Understanding the different types of terms will help you make better contracts and limit risk.
Ironclad is not a law firm, and this post does not constitute or contain legal advice. To evaluate the accuracy, sufficiency, or reliability of the ideas and guidance reflected here, or the applicability of these materials to your business, you should consult with a licensed attorney. Use of and access to any of the resources contained within Ironclad’s site do not create an attorney-client relationship between the user and Ironclad.