A verbal agreement (also referred to as an oral contract) is an agreement made without a formal written contract.
For example, you might lend your lawnmower to your neighbor for a few days with the expectation that they return it in good condition or in exchange for some other favor. No document is executed showing that one party will provide a lawnmower in exchange for a favor, but the agreement is there and understood in spoken words and physical action. The binding powers of these verbal agreements, however, can be a bit of a gray area for those who aren’t familiar with contract law.
While most verbal contracts are legally binding, there are exceptions based on how the agreement is constructed and what the purpose of the contract is. For instance, many states require a written contract, such as a Bill of Sale, for sales of goods over $500.
In this post, we’ll explain the basic elements of a contract (what needs to be in place to create a legally binding agreement), how they work in oral agreements, and what kind of agreements cannot be made verbally. We’ll also explain why it might be best to create a written agreement to avoid disputes.
For the purpose of clarity and understanding, we’ll use the example of an aunt loaning her nephew $200 to replace a flat tire to illustrate how the elements of a contract come into play in verbal agreements and how they create binding terms.
What Are the Elements of a Valid Contract?
For a verbal agreement to be binding, the elements of a valid contract need to be in place.
Depending on your source, there are anywhere between four and six elements that make a contract legally binding. This is only because some sources consolidate elements under the same title.
Using our loan example, these elements are usually:
- Offer and Acceptance: an offer is made by one party which is accepted by another, e.g. the aunt offers to loan $200 to her nephew to get a new tire, he accepts the money with the promise to pay her back in full at a later date.
- Lawful Purpose: the purpose of the contract must be lawful, e.g. the aunt can create a verbal loan agreement with her nephew so he can get a new tire, but she can’t give him money to do something illegal like steal her neighbor’s TV and have it considered an enforceable contract.
- Lawful Consideration: there must be an exchange of value (monetary or otherwise) between the parties, and the thing exchanged must be legal, e.g. the exchange of the aunt’s money for the tire and the nephew’s return of the money to pay back the loan, which is all legal. The nephew could not, for instance, substitute his repayment of money with illegal drugs.
- Certainty of Terms: the terms of the contract cannot be vague, incomplete, or mistaken/misrepresented, e.g. the terms between the aunt and nephew are very clear; the aunt loans the nephew $200 for the purchase of a new tire (and nothing else) on the condition that he pay her back the $200 at a specific time (such as when he gets his next paycheck).
- Free Consent of the Parties: the parties, both being of sound mind, consent to the terms of the agreement freely, meaning without undue influence, coercion, duress, or misrepresentation of facts, e.g. the nephew and aunt both consent to the terms of the contract without strong-arming each other and with the intention of fulfilling their obligations.
In some cases, competency and capacity are separate elements, requiring both parties to be of sound mind while the agreement is made, but this can also fall under the “free consent of the parties” element.
When Are Verbal Agreements Not Binding?
Oral contracts are usually binding as long as all the elements of a valid contract are present in the agreement. However, there are some scenarios where a written contract is required to make an agreement valid.
These rules can differ from state to state, but generally a written contract is necessary:
- For the sale or transfer of land or real estate
- When the terms of the contract outlast the lifetime of one of the parties, e.g. copyright
- When selling goods valued greater than $500
- In agreements related to marriage or divorce
- If the terms of the contract will take longer than one year to carry out
- If the contract involves someone’s promise to pay someone else’s debt
Once again, these can differ between states (and countries), so be sure to check your state’s laws or Statutes of Fraud.
Verbal vs. Written Contracts
Although most verbal contracts like the one in our example are legally binding, the possibility that a party doesn’t fulfill their obligation still exists.
For instance, after getting his new tire, the nephew might decide he doesn’t want to pay his aunt back when he gets his next paycheck (or ever). The aunt can hound him for the cash, and if he doesn’t pay up, she can even take him to court. This case would be a civil matter rather than a criminal one which means the burden of proof (the obligation or standard to prove something as true in court) is based on the balance of probabilities rather than beyond a reasonable doubt. That means one party’s case just needs to be more probable than the other in order to win.
Without documentation of the agreement it just becomes a matter of he-said-she-said. Of course, in this case, it’s likely the aunt could prove she loaned her nephew money by providing bank statements showing money transferred from her account to her nephew’s on the day in question, and could even get a hold of the receipt showing the use of the money for the tire purchase. But she still doesn’t have physical evidence that the nephew ever agreed to pay her back, especially if he denies it (committing perjury in the process). Without a witness to the agreement, the aunt could be out $200—and a decent nephew.
When in Doubt, Write It Out
In cases like the one above, it’s usually best to document an agreement. This can cause some awkwardness between family members or friends because requesting a written contract can make it look like one party doesn’t trust the other.
However, something as simple as a Promissory Note that details the nephew’s promise to pay his aunt back can easily prevent or resolve any disputes about their agreement. After all, it’s less awkward to ask for a written loan agreement with your family than it is to take them to court.