Law of contract: Illegal agreements

Reading time: 8-10 minutes.

In order to understand the concept at hand with utmost clarity and in detail, it is essential to begin from the basics of ‘contracts’. Two parties enter into a legal relationship of a contract after making a proposal followed by the acceptance of such proposal. A contract consists of three essentials, which form its definition. These essentials are –

  1. Offer
  2. Consideration
  3. Acceptance

In addition to this, for an agreement to be considered as a valid contract, free consent of the parties should be involved, along with the assurance that the “object” of such a contract is lawful. Without these certain conditions being fulfilled, a contract cannot be considered to be valid in the eyes of law. Under the Indian Contract Act, an important determinant of an illegal agreement is the ‘object’ of consideration. This can be formulated into an illustration for a more precise understanding –

A enters into a contract with his friend B. One of the terms of the contract states that B will be paid a sum of Rupees 10,000/- by A on the condition that B commits theft of a prized artifact from the house of a third party, C.

In the aforementioned illustration, A has made an offer to B, receiving an acceptance from him. However, the object of this contract, i.e. commission of the offence of theft by B, is not lawful and is of a criminal nature. This very object of the agreement makes it an illegal agreement. Both parties to this contract are criminally liable for their actions which fall under the scope and ambit of the Indian Penal Code (IPC). Additionally, this contract is void ab initio, i.e. void from the beginning. This contract cannot be enforced lawfully as it requires the performance of a specific act that is prohibited by law and is a punishable offence.

What are Illegal agreements?

To define Illegal Agreements in their most basic form, they are considered to be those agreements that violate existing laws in the particular domain and are of criminal nature. Agreements that are immoral and opposed to public policy also fall under the category of illegal agreements. Under the Indian Contract Act, there exists another concept of ‘Void’ agreements. A common misunderstanding exists in this domain where the concepts of Void and Illegal agreements are assumed to be overlapping. This however is not the case. There exist substantial differences between the two, in matters of nature and even consequence.

Differences:

Contrary to an Illegal agreement, a void agreement can be defined as an agreement that is not legally binding. Such agreements carry no enforceability in the eyes of law as they do not bind the parties under any rights or obligations. No transactions made in relation to a void agreement are considered valid and effective. Agreements can either be void ab initio, i.e. void from the beginning; or they can turn void later after losing their legal enforceability due to an act committed in the duration of performance. Illegal agreements are illegal from the beginning due to the object of consideration being unlawful and punishable in the eyes of law.

Additionally, the scope and ambit of void agreements is wider than that of illegal agreements. Not all void agreements can be categorized as illegal; however, all illegal agreements are void from their inception. Void agreements are not punishable in the eyes of law. The parties are not criminally liable for entering into void agreements. On the contrary, illegal agreements are governed under the Indian Penal Code and thus, parties to an illegal agreement are criminally liable for their actions as a part of performance of such agreements.

Legal provisions:

All contracts in the whole of India are governed by the Indian Contract Act, 1872. This particular legislation deals with various types of contracts, along with enumerating essentials that are fundamental to the formulation of valid, enforceable contracts. The Act also puts into place various definitions that make their way into the legal jargon concerning contracts. In addition to this, the Act also clarifies what objects and considerations are lawful and what are not. A limitation gets created on the freedom of a person with respect to entering into contracts, subject considerations of the public policy and other contingencies mentioned under the provision. As mentioned before, the term “object” is given adequate importance even under the ambit of this section, which connotes to mean the “purpose” of a contract.

This does not fall into the same meaning as consideration and is not used in the same sense. Following this connotation, if a contract has a lawful and real consideration, it will not prevent the contract from being rendered illegal of the object, i.e. purpose of the contract is illegal an opposed to public policy. In order to determine the illegality of a contract, the thumb rule that is generally followed is to pose the question – “Are the parties doing something opposed to law by engaging themselves into the contract?” If this question yields a positive answer, then the contract is illegal and unenforceable. Section 23 of the Indian Contract has various parts to it that determine the illegality of a contract.

This provision is not extended to the motive or reasons that might be applicable for the parties entering into illegal contracts. In the case of Neminath v. Jamboorao, the court highlighted three main principles on which Section 23 of the Indian Contract Act is based. This was done with an aim of providing a clearer perspective for future references. Firstly, a contract is deemed void if the purpose of it is the commission of an illegal act. Secondly, an agreement is rendered void if it is either expressly, or impliedly prohibited by any law in force at the time of the contract formulation. Lastly, a contract is void if its performance is not possible to be executed without the disobedience of any law in force. These principles, explain in a concise manner, the aim and objectives along with the substance of Section 23.

There are a few key elements of section 23, which are discussed herewith:

  1. Forbidden by law

A generalized confusion persists with regard to the meaning of the phrase “forbidden by law” to mean the same as ‘void’. Both these terms, however carry different meanings which make them non-interchangeable in the legal context. What is considered to be ‘void’ does not necessarily have to be ‘forbidden by law’. This argument was approved by the court in the case of Gherulal Parakh v. Mahadeodaswhere the Supreme Court held that it was the intention of provisions under Section 23 to have a restricted meaning. This was put in pace in order to avoid overlapping of two concepts.

  • If permitted, it would defeat the provisions of any law

This particular provision of the Indian Contract Act deals with the intention of the parties. In this case, if the court finds that the parties intend to transgress a particular law or mutual benefits, the contract will be rendered illegal, without enforceability. This particular object of the contract deems it to be invalid and with punishable consequence.

  • Fraudulent

In case the consideration or the object of the agreement is unlawful, it is ‘fraudulent’ in the eyes of law. However, the court has observed certain exceptions in various precedents and has laid focus on various occasions over the phrase pacta convent quae neque contra leges neque dolo mall inita sunt omnimodo observanda sunt. Every contract that the parties enter into, must be fair to both participants of a transaction, and must not put either of them in an unfair position with respect to transactions involved and performance of the contract.

  • Injury to person or property

No claim is sustainable for any contract that requires parties to cause harm to the person or property of any individual. Because such conditions are punishable under criminal laws, courts cannot enforce such contracts, rendering them void in its entirety.

  • Opposed to public policy

In the legal context, it is very difficult to award one particular definition to the concept of ‘public policy’. It has a huge scope and is equivalent to the policy of law. On various occasions, it is considered to be a variable quantity that expands its ambit and definition according to situations and circumstances at hand. Even in the opinion of the Court, public policy should be given a wider meaning to connote matters which concern public interest and good. What is harmful or helpful for the public changes from time to time and the same should apply to the definition of public policy.

With respect to determining the definition of Public policy and what falls under its scope and ambit, Lord Atkin in the case of Fender v. St. John Mildayopined that the term Public Policy is vague and unsatisfactory in nature, which causes errors and uncertainty while its application is being decided upon. According to him, the term in its most ordinary sense includes actions that are best for common good. In his opinion, while applying the doctrine of a contract being ‘opposed to public policy’; not only focusing on harmful effects of the contract is important. Harmful tendencies also have to be taken into adequate consideration due to the ground being less safe and treacherous. This analysis of his has also been taken as basis for a few Indian precedents, including the Gherulal Parekh case.

In addition to Section 23, Section 24 also mentions illegal contracts under the Indian Contract Act. According to this provision, contracts that have considerations or objects which are partially unlawful are also considered illegal. Additionally, one or any part of one of several considerations for a single object of a contract is unlawful; such an agreement is considered void in the eyes of law.

Critical analysis:

The particular provision of the Indian Contract Act in question at the current instance provides in detail, what objectives behind entering into a contract might render it illegal and void. These provisions are clear and detailed, and have been commented on by judicial experts in multiple precedents over the years. However, the segment involving ‘opposed to public policy’ still creates an area of ambiguity with respect to determining if a contract is illegal or not. As mentioned in a few cases, public policy is generally construed to be something for public good; however its definition keeps evolving according to circumstances. Therefore, the interpretation of this provision does not stay uniform and concrete. It has to be determined based upon the situation, which sometimes is largely based on opinions. Such opinions are subjective and fall on how a particular person choses to analyze a given situation. This creates an ambiguous and unsettling circumstance for decision makers.

Conclusion:

Section 23 of the Indian Contract primarily focuses on the object, i.e. the purpose of entering into a contract. It determines that if such object is illegal and opposed to public policy, the contract itself is illegal and void, having no legal enforceability. Such types of contracts create no valid obligations of the parties of its performance, and bind them with criminal liability in case the act performed in lieu of consideration is illegal in nature.

In the article, various principles enshrined under the provision have been explored along with the aid of case laws in order to determine judicial position on illegal contracts. Additionally, these provisions have been analyzed in order to determine their meaning and application based on the situations and circumstances in which they are used. The three important principles illustrated in the article are essentially the governing principles and determinants of illegal contracts and agreements in the Indian judicial system.

Author: Kanishka Mittal from Symbiosis Law School, Hyderabad.

Editor: Anmol Mathur from Symbiosis Law School, NOIDA.

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