In most cases it is a document which contains the essential terms of an agreement between two or more parties but is not intended to create a binding legal agreement. Rather, in most instances, the parties intend that a formal contract will be prepared at a later date.In some cases though a heads of agreement can be found to be an enforceable contract. If the heads of agreement contains all of the essential terms, is signed and does not expressly say it is not intended to be a legally binding contract, there is a good chance that it will be a contract. Calling the document “heads of agreement” or “memorandum of understanding” alone will not be enough to say that it was not intended to be legally binding. There needs to be an express term in the body of the document stating that the parties do not intend to be legally bound by signing the heads of agreement.
Why is care required?
Great care is required with a heads of agreement because a party can be fooled into thinking that they are not legally binding (when it could be) and therefore take less care with the content than may otherwise have been the case.
Further, where a contract is formed at the time of signing the heads of agreement this can trigger other unintended consequences. For example:
- the date of disposal of a CGT asset could be the date the heads of agreement is signed rather than a later date. The parties may not yet have considered the taxation consequences and may find out at a later date this is an undesirably outcome for them.
- a heads of agreement often fails to deal with key issues such as GST on the transaction, adjustments to the price and termination provisions.
Any document which could create legal obligations should always be reviewed by your lawyer before you sign it.