Contracts Defined
Definition of Contract
In simple terms, a contract is an agreement between two or more parties. Legally speaking, a contract is considered an enforceable agreement between two or more parties, either orally or written. It does not matter if it is an express or implied contract, the parties involved are required to adhere to all terms. Breaching a contract results in what is referred to as a misconduct for which suit can be filed. An agreement , be it either oral or a written one, must consist of three basic components to be considered a contract. There must be an offer, acceptance of the offer, and consideration. When any of these elements are missing, the agreement may not be enforceable in a court of law. In other words, there is no legally binding contract. It is important to note that it only takes one party to face legal action for breach of contract.
Covenants Defined
The definition of "covenant" is narrower than that of a "contract." A covenant is generally a promise that some particular act may or may not be done. A contract, on the other hand, is a promise that something will be done. Covenants can either contain affirmative promises to do something (an "affirmative covenant") or they can contain negative promises to abstain from doing something (a "negative covenant"). See Lawrence D. Dorr & Stephen Ernst, "Covenants," in Commercial Real Estate Leases: Preparation, Negotiation and Forms (Law Journal Press, 2d ed. 2017).
Covenants are typically contained in real estate documents including leases, mortgages, and easements, as well as in documents relating to the sale or purchase of goods or services. In the context of real property, covenants are used to ensure the value of the property. See Richard R. Powell, "Covenants," in Powell on Real Property § 22.01[1] (Michael Allan Wolf ed., 2018). In real estate, covenants are used for three main purposes: to protect land value from adverse uses, to enforce limitations on use, and to impose obligations as part of a collective decision about the underlying real property. Ibid.
There may be covenants included in a covenant not to compete. Covenants have more specific purposes.
Major Differences Between Contracts and Covenants
In legal terms, a contract must be supported by consideration, meaning the promise to do something or forbearance of an act which one is legally entitled to do. Consideration can take the form of payment of money, provision of services or some other way of attachment of value. A promise is binding in the law even if it is not supported by consideration if it is made under seal. In contrast, covenants do not require consideration. A promise is enforceable in equity under seal if it is made under seal and either the promisee relied on the representation of the covenanter and changed his position as a result or the covenanter will receive a benefit in addition to the promise, such as the benefit of the covenantor being bound by the promise in law. Covenants are often included in deeds such as sale deeds, mortgages, leases, conveyance of shares in corporations, licenses of trade etc. Covenants deal with the fast changing market conditions and situations and have similar force to contracts but are more appropriate than contracts in situations where the parties have relatively large bargaining powers.
The intention of the parties to a contract or covenant makes substantial difference to the negotiators and the result of the contract or covenant. In the case of a contract, the intention of the parties is that the contract once signed shall become enforceable within its terms subject to the extent of the obligations undertaken. The intention in a covenant, however, is that the parties will fulfil their duties arising from the covenant unless brought to an end as stated in the covenant. The contracting parties are concerned with the exchange of promises whereas the covenanting parties are concerned with the observance of that promise.
Contracts and Covenants in Action
Contracts and covenants find application in myriad legal contexts. In business, for example, an express contract is the purchase agreement you sign when you buy a house or a car. In these cases, state laws codify your rights under the contract, and include items such as the amount of time you have to file suit and what remedies are available if there is a breach of the purchase agreement.
A covenant, on the other hand, is a promise by one party to act or not act in some way. If someone promises to paint their house green and makes that statement in a deed, that promise is a covenant. That deed will be recorded, thus establishing that there is a covenant running with the land. If the promise is not fulfilled, typically the neighbor will sue. Here, the remedy will be injunctive relief ordering the person to stop painting the house or paint it green. Where the remedy for breach of contract is compensatory damages, the remedy for breach of covenant is, generally, specific performance.
Covenants also appear in employment contexts. For instance, confidentiality covenants or non-compete covenants for employees often depend on the scope of work. In case of a breach of the confidentiality covenant, the remedy will be the same as for breach of contract. i.e., a damage award. Where there is a breach, however, of a non-compete covenant, the remedy will typically be injunctive relief.
In summary, although both involve promises, the nature of the promise, the relief sought, and the manner in which it is enforced differ.
The Legal Ramifications and Consequences
The remedies for breach of contract and breach of covenant typically differ due to the varying natures of the two types of agreements. Breach of a contract usually gives rise to a civil action, where the non-breaching party can seek compensatory damages for material losses. This means that if a promise made in a contract isn’t carried out, the victim usually has a right to sue for monetary damages. However, if a civil action will not redress the breach of an affirmative contractual promise, a victim may be able to seek the remedy of specific performance. Specific performance is an extraordinary judicial act that makes one party carry out promises made in the contract. Breach of a contract to buy land or other unique subject matter may see an equitable remedy of specific performance .
A breach of covenant, on the other hand, usually gives rise to an offense and the wrongdoer is liable to a criminal prosecution because such agreements mostly impose obligations on the covenantor’s conscience. If the bond is broken, the loser is deemed to be guilty of a crime at common law and he can be punished with fine and/or imprisonment. Where there is an obligation as well as a duty to perform, or where the covenant is given to the state in respect of a public account, the courts are inclined to treat the bond as a contract—hence breaching the agreement will only allow the aggrieved party to recover damages.
In most cases, a covenant may be enforced by a suit for an injunction but if it is personal in nature, the desired redress will be an action for equity.
Contract versus Covenant: How To Decide
Choosing between a contract and a covenant requires careful consideration of the type of result you want to achieve. One of the factors that influences the decision is the relationship between the parties. A contract is suitable for a one-off transaction or if the parties do not have an ongoing relationship. A covenant is more appropriate if the parties have a longer-term relationship. If the parties have been in a long-term relationship, for example an employer and employee or landlord and tenant, the parties are likely to expect a covenant to be used where they intend for a generated benefit to continue if something that would have caused the benefit to cease were it not for the covenant occurs, such as a breach or default. Covenants are unlikely to be appropriate for a short-term or one-off transaction, though.
There are legal and practical factors that come into play when choosing between the two. Legal advice can aid the decision-making process along with consideration of the drafting considerations that will influence the choice.
Conclusion: The Importance of Making Informed Legal Agreements
As we have seen, there is a clear distinction between a contract and a covenant, both in characteristics and enforceability of commitments made by the parties. While either might be appropriate under certain circumstances, it is critical when drafting and executing agreements to ensure that they are clear and precisely drafted, and to confirm whether the commitment made is intended to create legal obligations or to be more of a moral obligation. For the drafters of contracts and covenants, it is important to keep the enforceability of the promise in mind , especially if it is intended that there will be consequences for not honoring the promise. It is also important in these circumstances to make sure that the commitment is specific and has clear performance criteria.
Few things are as important in the business world as the enforceability of a promise to perform certain tasks in exchange for value. When making promises in a business relationship, ensure that the promise is created in a formal, legally enforceable document. And for those who will live with the consequences of the promise, you are well advised to review the draft documents carefully to make sure that the promise itself and any remedies for breach are what they purport to be.