We now come to what is sometimes referred to as the third essential ingredient for formation of contract. It is, however, doubtful whether it is an essential ingredient. The reason for this is that it is very rarely an issue and that the intention to create legal relations goes without saying in the vast majority of contracts. It has even been argued (by the United States contract writer Williston) that this is not so much an ingredient of formation of contract so much as part and parcel of the doctrine of consideration. We saw something along these lines in the Australian Woollen Mills case where the High Court argued that what Australian Woollen Mills did was not an acceptance nor was it a consideration. The Court did not mention intention to create legal relations.

So, this question of intention is not of much practical significance. We need to have an overview of this area. You will see from the reading guide that there are four areas dealt with.

Firstly, in ordinary commercial contracts, there is a strong presumption that intention is present. It is possible to displace this presumption, but it is very difficult to do so.

Secondly, in domestic and family arrangements there is a weak presumption that there is no intention to create legal relations. This presumption can be easily displaced.

Thirdly, certain types of government arrangements, of which the wool subsidy scheme in the Australian Woollen Mills case is an example, do not generate contractual relations. But, of course, ordinary government contracts are just contracts in the usual sense.

Finally, there is a bit of a problem in analysing what goes on when a club or other voluntary association makes a contract. A voluntary association which has not incorporated is not a legal entity. It is a collection of individuals. There are problems of contractual analysis when this collection of individuals deals with the outside world and when they make rules for the conduct of their own, joint enterprise.

Business arrangements

It is here that there is a very strong presumption that there is an intention to create legal relations. For anyone to come along after they have made an ordinary commercial contract and argue that there was no intention to create legal relations would be wasting their time.

For such an argument to succeed there must be a very clear and explicit statement. One way in which this can happen is if parties who are negotiating for a contract want to make absolutely sure that their negotiations do not inadvertently become a contract. We looked at this issue earlier when we examined

The way to do this is to use the words "subject to contract" in all correspondence or on any documents which may be used to help the negotiating process, such as a Heads of Agreement document, or suchlike. We saw what the effect of the use of the words "subject to contract" were and that there is a very strong presumption that they delay the creation of contract until a formal document is executed. The words represent a condition precedent to formation of contract.

Another way in which intention may be displaced is to include a clause in the agreement itself saying that this agreement is not intended to be a contract. Of course, why anyone would want to do this is a bit of a puzzle but there is at least some authority for this being a possibility. The case is

This case is discussed in Edwards v Skyways Ltd. In Rose and Frank the three parties entered into agreement in which the following clause appeared.

One of the parties broke this agreement. It was held by the court that the clause was effective to displace contractual relations. This type of arrangement is sometimes called a "gentleman's agreement". It has been said by a judge (Vaisey J) that "a gentleman's agreement is an arrangement which is not an agreement entered into between two persons, neither of whom is a gentleman, with each expecting the other to be strictly bound, while he himself has no intention of being bound at all."

There is a problem if someone drafts a clause like the one in Rose and Frank. It is illegal to attempt to oust the jurisdiction of the court. In other words, it is not possible to make a contract and then say that it is not possible to enforce it in a court. Yet, it is perfectly legitimate to say that the agreement is not a contract. The line between these two can be very fine. In fact, the trial judge in Rose and Frank thought that the clause was illegal and void.

There is one area where attempts have been made to ensure that no contract comes into being and that is with such things as football pools. The terms relating to the competition include an "honour clause" and such a clause has been held to be effective to exclude contract.

The next case which illustrates the intention issue in the commercial context and which underscores the point that it is very difficult to argue that there is no intention to create legal relations in this context is

The airline company promised to make an "ex gratia" payment to its redundant airline pilots. This followed on from an industrial dispute in which BALPA, the pilots' union, represented the pilots. The payment was described as "approximating to the company's contributions for each member of the pension and superannuation fund." Having made this promise, Skyways then decided not to make a payment to the pilots.

The issue was whether the promise to make the ex gratia payment was a legally binding promise. It was conceded that there was a consideration for the promise. What was it?

The argument used by Skyways was that there was no intention to create legal relations because of the words "ex gratia". There was also an argument that the payment was supposed to be a non-contractual payment because it was intended that there would be no tax payable by the pilots when they received it.

Megaw J rejected these arguments. On p 195 end of middle para Megaw J makes the point that the person who is trying to argue that there is no intention in a commercial setting bears a heavy onus. The use of the words "ex gratia" was not, according to Megaw J, significant. They are often used in settlement or compromise agreements yet they are clearly legally binding. See p 196 top para.

In the 2nd para on 196 he turns to an argument that "ex gratia" here had a special meaning because of the tax implications. It was argued that everyone knew and intended that the payments should not be legally binding so that they would not attract tax. But this argument failed too on the basis that the supposed intentions of the parties which was asserted was simply not proved in evidence.

The fourth case in this category is rather different. I have mentioned from time to time that parties who are in the process of negotiating for a contract use various types of documents, such as memoranda of understandings, heads of agreements, letters of intent, etc. The general position is that these types of documents are not contracts, though in a particular case it may be that the surrounding circumstances indicate that such a document is intended to create a contractual relationship. Such a case was the Air Great Lakes case.

In the next case we deal with a document of this kind, but a rather special kind of document which is called a letter of comfort. A letter of comfort is a Clayton's guarantee. It can be used in a variety of situations but a typical situation is where a bank is seeking a guarantee from a parent company to support a loan made to a subsidiary company. The bank asks for a guarantee but the parent company refuses to give one. The bank may be content to be given a letter of comfort instead. This letter usually says things like the parent company stands behind its subsidiary and it is the policy of the parent company to ensure that its subsidiary can at all times meet its obligations, etc.

The issue which arises with a letter of comfort (as with all documents of this ilk) is whether it has any legal effect. Basically, the answer is No. After all, it is not a guarantee. And, indeed, there have been a number of cases where the courts have decided just that. For example, the English Court of Appeal decision in the Kleinwort Benson case, which is discussed on p 198, is an example. Another example of a case where a letter of comfort was found not to have any legal content was Commonwealth Bank of Australia v TLI Management Pty Ltd mentioned on p 202.

This case involves a letter of comfort but, it should be noted, it does not conform to the usual result in cases of this kind. Rogers CJ decided that the letter used in this case did give rise to legal liability. In this case Spedley Securities wanted a loan facility from the bank. The bank wanted some kind of assurance from ANI which owned 45% of Spedley's parent company, Spedley Holdings. A letter of comfort was provided by ANI to the bank. The terms of the letter are set out on p 197. You will see that ANI gave some reasonably precise undertakings, namely, that it would provide notice to the bank if it (ANI) intended to sell its shareholding in Spedley and that, if this did happen, then the debt would become immediately payable. The letter also said that ANI would ensure that Spedley could meet its financial obligations.

What happened was that ANI sold its shareholding in Spedley without giving the bank notice and Spedley then went bust. BBL (the bank) then tried to enforce the letter of comfort.

ANI argued that there were no promissory statements and no intention to create legal relations. Rogers CJ surveyed the somewhat uncertain legal position concerning letters of comfort, including how they are treated in countries such as France and Germany.

He turned to the claim based on contract, that is, that the letter contained contractual promises in 2nd para of p 200. Rogers CJ referred to the Edwards v Skyways case pointing out the heavy onus which rests on a person who tries to argue no intention in a commercial context.

He then let fly in the 2nd para on p 200, starting with a somewhat obscure reference to something apparently said by Lord Justice Scrutton "there will be no Alsatia in England". This is a reference to a precinct in London (White Friars) where thieves and debtors were able to have sanctuary from the law. In other words an area where the normal processes of law did not apply. In the present context, the reference is pertinent to the enquiry whether there are legal consequences flowing from the letter of comfort. The passage in the same para starting "There should be no room in the proper flow of commerce for some purgatory..." is Rogers CJ at his best.

This still left the problem of whether the language in the letter was sufficiently promissory. If, for example, it was merely a statement of intention or of policy, then it could not be the basis of contractual obligation. Rogers CJ pointed out that it was a mistake to subject such a letter to a minute textual analysis and then proceeded to subject this letter to a minute textual analysis. He dealt with this on p 201 and concluded that there were, indeed, promissory statements.

Rogers CJ also considered the possibility that the letter generated legal liability on the alternative grounds of estoppel and under s 52 of the Trade Practices Act but these passages are not extracted in your case book.

Domestic arrangements

Where an agreement is reached between family members or friends in a domestic context, then the presumption is that there is no intention to create legal relations. This presumption is, however, a weak one and is easily rebutted. It is rebutted, in particular, if husband and wife are in the process of splitting up. We saw an example in Popiw v Popiw where, you may recall, the husband and wife had separated and they then made an agreement that he would transfer to her an half share interest in the family home if she returned to live with him. The courts will very readily accept that such an agreement is intended to create legal relations.

An example of a case where the presumption against an intention to create legal relations was not rebutted is

You can see from the extract from Atkin LJ's judgment on p 203 that a promise by a husband to pay his wife an allowance, even if it could be said that there is a consideration for the promise, is not binding because neither party intended that such a promise should generate legal liability. This case is the one which is always cited to support the presumption that domestic or family agreements do not amount to contracts.

There are a number of different domestic arrangements which have come before the courts. Often the issues are not just whether there was an intention to create legal relations, but also issues of uncertainty or possibly consideration. This is because these types of arrangements are often somewhat vague and ill-defined. An example was a 19th century Victorian case called Dunton v Dunton (1892) 18 VLR 114 where a husband promised his estranged wife an allowance so long as she conducted herself "with sobriety, and in a respectable, orderly and virtuous manner". There was no doubt about intention to create legal relations in that case. Instead, the issue was whether there was a consideration. The majority judges concluded that she had provided a consideration, dwelling with some relish on what she might have got up to in the absence of such a promise.

The truth is that in many of these cases the last thing that was in the parties' minds was the possibility of legal consequences. But, when they quarrel, then legal issues arise and, if they are not settled, then a court has to do its best to sort out the mess. Usually, a court will not just dismiss the case on the basis of no intention to create legal relations.

Another group of cases is where someone who is old and unable to look after himself or herself asks another person to live in and look after him or her in exchange for being left the house in the old person's will. In these sorts of cases, the courts have been prepared to interpret the arrangement as a contract. (See Cheshire & Fifoot's Law of Contract (7th Aus ed 1997) para 5.7)

Government schemes

There is really no need to spend any time on this point. The Australian Woollen Mills case is the best illustration of this point. There are some types of government dealings where it is simply inappropriate to pin the label of "contract" on the arrangement. There have been other, similar cases one of which is mentioned in your reading guide, namely,

In this case the government carried out a tick eradication scheme. Government officers carried out the necessary work but the landowner had to provide labour for mustering the cattle. It was alleged that the spraying was done very badly and that this was a breach of contract. The claim failed on the basis that the arrangement was simply not a contract.

Another example is given on top of p 204 of HPH. Where a local council provides information or does something else which it is required to do by statute and it charges a fee for the service, this is not a contract. Coshott v Woollahra MC illustrates.

A further example, is where the government hands out money to individuals or groups to achieve certain public purpose. For example, money is granted to community law centres to provide free legal services to people who cannot afford a private solicitor. These grants usually have detailed conditions attached. Such grants on conditions are almost certainly not contracts. The government would not be able to sue for damages if the conditions of grant were broken and the recipient would not be able to sue for the money if the government failed to pay. The government, of course, does have the ultimate sanction, namely, not to grant money in the next round of grants.

But, remember that in any other respect the government makes contracts just like anybody else, although there are some problems which are peculiar to government contracts (as to which see N Seddon, Government Contracts: Federal, State and Local (Federation Press 1995)).

Voluntary associations

The principal problem here is whether the rules of a club, political party or other voluntary, unincorporated association are binding legally on their members. The traditional answer is that they are not legally binding and that the internal disputes of such bodies are matters for them to sort out and not for the courts.

illustrates this approach. This was a case involving the Australian Labor Party.

In more recent times this hands-off approach has been questioned. You can see the detailed criticism of that approach in

where Wootten J says that it is simply not good enough for the courts to opt out of disputes in important institutions, such as political parties or large sporting clubs. In that case Wootten J was at least prepared to make a declaration - an equitable remedy whereby the court simply declares what the legal position is - as to the members' rights. A similar approach was adopted in a more recent case of Baldwin v Everingham [1993] 1 Qd R 10.

The whole problem can be avoided by incorporating such bodies under legislation which has been specifically designed to meet this kind of problem. The legislation exists in each State and Territory and is called the Associations Incorporations legislation. You can see an example on p 206.

The legislation first of all constitutes the club (or whatever) as a legal entity - a legal person. This solves the problem of making contracts with the outside world. The contract is with the incorporated legal entity and not with a shifting collection of individuals.

The other important feature to note is that the rules of the club (or whatever) are binding between all the members as if they had entered into a deed under seal - see s 11(2) of the Associations Incorporation Act 1983 (NSW).

That is all I am going to say on the subject of intention to create legal relations.