Session 12 - Capacity of the Parties

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I. Overview of Capacity as Formation Defense

Context: Capacity is a defense to contract formation. We are still covering formation defenses this semester, along with parole evidence. Burden of Proof: The party lacking capacity has the duty and responsibility to provide sufficient evidence to challenge the validity of the contract. Key Principle: The capacity defense can only be raised by the party who lacks capacity (not the other party).

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II. Valid, Void, and Voidable Contracts

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A. Valid Contract

• Comprises: offer + acceptance + consideration
• Not subject to any valid defenses to formation

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B. Void Contract

• Lacks one or more requisite elements (offer, acceptance, or consideration)
• OR one of the defenses is applicable, making it void
• Examples: contracts involving illegal activities (drug sales, murder, assault)

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C. Voidable Contract

• At least one party has a valid capacity defense to formation
• No other applicable valid defenses present
• Will either become void OR valid depending on actions of the party lacking capacity
• Party lacking capacity may affirm or disaffirm the contract

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III. Minors (Infants)

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A. Age of Majority

• Common Law: Age 21
• Modern Law: Age 18
• Note: UCC does not control age determination

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B. Burden and Rights

• Burden of Proof: Party claiming lack of capacity must prove they were a minor at the time the contract was formed
• Right to Disaffirm: Only the minor can raise the capacity defense (adult party cannot disaffirm)

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C. Ratification by Reaching Majority

• When minor becomes adult, contract becomes binding automatically UNLESS minor disaffirms within a reasonable time
• Failure to disaffirm within reasonable time after reaching majority = ratification/acceptance
• Example: Enter contract at age 14 to buy motorcycle; reach age 18; do nothing until age 19 → likely too late to disaffirm

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D. Statutory Exceptions (Cannot Disaffirm)

Even as a minor, certain contracts cannot be disaffirmed under statutory law:

• Student loans
• Insurance contracts
• Other state-specific statutes (varies by jurisdiction)

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IV. Necessities of Life Exception

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A. General Rule

Even if minor proves lack of capacity, minor is still held responsible for necessities of life.

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B. What Qualifies as Necessities

• Food
• Clothing (basic, functional)
• Shelter
• Medical attention/hospital care
• Medicine

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C. Necessity vs. Luxury Distinction

Key Principle: Just because an item falls within a category (e.g., clothing) does not automatically make it a necessity. Must assess whether it is truly necessary. Examples of Non-Necessities:

• Louis Vuitton bags
• $40,000+ Hermès bags
• $50,000 Tom Ford shoes
• Luxury designer items

Test: Is this for basic life needs, or is it a “nicety”?

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D. Liability for Necessities

• No disaffirmance available for true necessities
• Must pay restitution (reasonable market value), not necessarily contract price

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V. Mental Capacity/Insanity

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A. Two Tests for Establishing Insanity

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1. Cognitive Test

Standard: Individual did not know the nature and extent of what they were doing at the time of contract formation. Methods of Proof:

• Factual analysis (circumstantial evidence proving mental condition)
• Court adjudication (judicial determination of incompetence)

Key Feature: Does NOT require that other party knew or should have known of the insanity. Effect: If court adjudicates party insane, contract is void in most jurisdictions.

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2. Product Test

Standard: Expert testimony establishes that the conduct/contract was the product of mental insanity. Key Requirement: Other party must have known OR should have known of the insanity. Method of Proof: Expert testimony only. Key Distinction: More stringent than cognitive test because it requires awareness by the counterparty.

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B. Comparison: Cognitive Test vs. Product Test

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C. Intoxication as Mental Incapacity

• Intoxication can trigger either test
• If other party knew or should have known of intoxication → contract voidable
• Example: Other party bought all the shots, saw clear signs of intoxication, then had intoxicated person sign contract

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D. Reaffirmation Upon Recovery

• Intoxicated person can reaffirm the contract upon becoming sober
• If person later agrees when sober, contract becomes valid
• Example: Las Vegas marriages contracted while drunk, then reaffirmed when sober

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E. Modern View (Restatement Second of Contracts)

Person incurs only voidable contractual duties if:

• By reason of mental illness or defect
• Unable to act in reasonable manner in relation to transaction
• AND other party has reason to know of condition

Limits on Avoidance: Even if person proves mental incapacity, avoidance terminates if:

• Contract has been performed in whole or part
• Circumstances have changed so avoidance would be inequitable
• Court may grant relief on equitable terms instead

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VI. Restitution (Remedy for Disaffirmance)

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A. Definition

Restitution is a legal remedy designed to place the plaintiff in the position they were prior to formation of the contract.

• Must be definite and certain
• Restores other party to pre-contract position

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B. Modern View - Minority Disaffirmance with Restitution

• Minor can disaffirm, but must pay restitution
• Restitution for benefits received while in possession
• If property is destroyed/damaged, minor must still make restitution for depreciation/damages caused
• Restitution = reasonable value at time contract is rescinded, NOT contract price

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C. Exceptions to Restitution Requirement

No restitution required if:

• Other party took advantage of minor
• Fraud by other party
• Concealment or dishonesty by other party

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D. No Obligation to Return Negligently Squandered Property

• Under modern view, minor can disaffirm even if property is destroyed
• BUT must pay restitution for the value lost/destroyed
• Example: Purchase motorcycle, crash and destroy it → can disaffirm but must pay restitution for damage/loss

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E. Court Determination

• Restitution amount usually decided by court
• Can be a trier of fact issue
• Usually readily ascertainable based on evidence (purchase price, market value, damage assessment)

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VII. Parent/Guardian Consent

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A. General Rule: Parental Consent Does NOT Bind Minor

• Parent’s signature or consent alone does NOT prevent minor from disaffirming
• Parent’s signature has no legal effect on minor’s right to disaffirm

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B. Exception: Guardian Ad Litem

Minor can be bound only if:

• Parent/guardian is formally appointed as guardian ad litem by court
• Guardian ad litem form filed with court
• Court approves the transaction

Without formal guardian ad litem appointment and court approval: Minor retains right to disaffirm regardless of parental involvement.

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VIII. Case Law

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A. Petty v. Liston (Supreme Court of Oregon, 1920)

Facts:

• Minor plaintiff purchased motorcycle for $325
• Down payment: $125; payment plan:$25/month
• Plaintiff used motorcycle for one month, then requested refund
• Defendant refused and demanded $156.65 for wear and tear/damaged parts
• Plaintiff brought action for recovery of $125

Holding:

• Minor can disaffirm, but must account for use and depreciation
• Where contract is fair and reasonable, and minor has paid money and used article:
  • Minor must allow vendor reasonable compensation for use and depreciation
  • Cannot recover full amount paid without accounting for benefit received

Rule:

• If minor has not been overreached, no undue influence, and contract is fair:
  • Minor who paid money and used article must not be allowed to recover without letting vendor get reasonable compensation for use/depreciation

Court’s Balancing Test (factors considered):

• Whether contract executory or executed
• Whether necessity of life
• Whether beneficial to minor
• Whether fair and reasonable
• Whether minor still has property in possession

Important Quote: “Courts in attempting to protect the minor upon one hand, and to prevent wrong or injustice to persons who have dealt fairly and reasonably with such minor upon the other, have indulged in many fine distinctions” Analysis:

• Contract was partially executed (title would transfer after payments)
• Cannot recover benefits without returning benefit/consideration
• Must pay restitution

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B. Retirement Benefits Case (Teacher’s Mental Capacity)

Facts:

• Public school teacher on psychiatric leave after mental breakdown
• Made major change to retirement plan during leave
• Selected payout: larger monthly benefits during lifetime, eliminated survivor benefits for husband
• Also borrowed substantial amount from retirement account
• Two months later, she died
• Husband sought to cancel changes, arguing wife lacked mental capacity

Holding:

• Contract may be canceled if one party, due to mental illness/defect, unable to act reasonably in transaction
• AND other party knows or should know of condition
• This replaced stricter standard requiring total incapacity to understand contract

Facts Supporting Holding:

• Teacher’s mental capacity significantly impaired
• Teacher’s Retirement Board (employer) knew of psychiatric leave
• Board should have been aware of mental instability
• Therefore board had sufficient notice of incapacity

Rule Applied:

• Product test (other party awareness required)
• Contracts of mentally incompetent person not adjudicated insane are voidable
• Modern rule from Restatement Second of Contracts applies

Key Quote: “Well-established rule is that contracts of a mentally incompetent person who had not been adjudicated insane are voidable”

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IX. Problem Analysis & Fact Patterns

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Problem 1: Minor Employee Settlement

Facts:

• 15-year-old employee of Toyota dealership
• Injured back during employment
• Dealership insurance adjuster negotiated settlement with plaintiff and plaintiff’s mother
• Settlement amount: $6,136.40
• Plaintiff signed settlement agreement
• Mother did NOT sign settlement agreement
• Mother was aware of terms and advised plaintiff to accept
• Plaintiff now disaffirms and files petition to reopen claim

Analysis:

• This is a capacity case (minor’s age)
• Minor can disaffirm even though:
  • Parent knew of settlement
  • Parent advised plaintiff to accept
  • Parent did not sign

Result: Minor can disaffirm because:

• No payment made yet (no partial acceptance)
• Not a necessity of life
• Parent was not guardian ad litem (no formal appointment/court approval)

Jurisdiction-Specific Caveat:

• In California: all workers’ comp settlements require court approval regardless of minor status
• Not applicable in Montana (where case occurred)

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Problem 2: Minor on Cruise Ship (Choice of Forum Clause)

Facts:

• Parents bought cruise tickets for themselves and 4-year-old daughter (plaintiff)
• Plaintiff injured on cruise ship (ladder fell)
• Cruise tickets contained forum selection clause: all suits to be brought in Dade County, Florida
• Plaintiff sued in U.S. District Court for Eastern District of Pennsylvania
• Defendant moved to transfer to proper forum (Florida)
• Plaintiff (minor) argues not bound by choice of forum clause

Holding:

• Minor IS bound by clause; venue should be transferred to Florida

Reasoning:

• “A minor cannot claim the benefit of the contract, and at the same time disaffirm a portion of it”
• Ticket was bought by parents as gift
• Parents already agreed to jurisdiction
• Minor cannot selectively accept beneficial terms (discounted ticket) while rejecting burdensome ones (forum clause)
• Since parents signed, both are bound

Key Principle: Cannot cherry-pick favorable contract terms while disaffirming unfavorable ones.

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Problem 3: Minor Misrepresents Age to Buy Airline Ticket

Facts:

• 17-year-old high school senior in New York
• Accepted to Berkeley
• Airline offers discount for under 18: $150 (half of adult fare$300)
• Student cannot afford $150
• Student misrepresents age to get adult ticket for $300
• Gets credit through “Fly Now, Pay Later” plan (adults only)
• Upon arrival, mother gives student $200 (previously promised reimbursement)
• Student disaffirms contract
• Airline sues

Issue 1: Can Minor Disaffirm Despite Misrepresentation? Answer: YES - Minor can disaffirm

• Courts do NOT hold minors to lie as bar to disaffirmance
• General rule: Courts look to whether adult/seller acted in fraud, not whether minor lied
• The whole point of protecting minors is they make stupid/dishonest decisions
• BUT: Misrepresentation is a separate potential tort claim against minor

Issue 2: Restitution Obligation Answer: Although minor lied, still must pay restitution for benefits received

• Restitution = reasonable value of flight, NOT contract price
• In this case: restitution = $150 (youth fare value)
• NOT $200 (mother's reimbursement) or$300 (adult fare)
• Mother’s $200 gift is traceable to consideration; restitution = reasonable value of benefit

Key Teaching Point:

• Restitution must equal reasonable value at time contract rescinded
• Not full contract price
• Not adult price if minor entitled to discount
• Must be definite and certain

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Problem 4: Incompetent Person Buys Rolls-Royce

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Scenario A: Incompetent but Not Adjudicated

Facts:

• Person (Icarus) incompetent since February 1 (no adjudication)
• On March 1, buys Silver Cloud Rolls-Royce with cash
• Deal fair and smooth
• Immediately tries to drive car and destroys it in crash
• Rolls-Royce dealer sues to recover purchase price

Holding:

• Dealer recovers purchase price
• Contract cannot be disaffirmed unless status quo can be restored
• Cannot restore status quo because car destroyed
• Other party had no reason to know of incompetence
• Contract was fair on its terms
• No disaffirmance available

Rule: If incompetent executed contract, it’s voidable only if:

• Contract was fair
• Other party has no reason to know of incompetence
• Status quo can be restored (no loss)

If status quo cannot be restored, transaction will NOT be disaffirmed.

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Scenario B: Adjudicated Incompetent with Guardian Appointed

Facts:

• Same as Scenario A, EXCEPT:
• Person was adjudicated incompetent on February 1 (day BEFORE purchase)
• Guardian of property appointed on February 1

Holding:

• Transaction is VOID (not voidable)
• Guardian can recover purchase price
• If car not destroyed, innocent seller could reclaim vehicle

Rule:

• Judicial adjudication of incompetence = void contract
• Guardian has rights to recover
• Completely different from unadjudicated incompetence
• No need to show status quo can be restored

Key Distinction:

• Unadjudicated incompetence + Fair deal + No knowledge = voidable, need status quo restoration
• Adjudicated incompetence = void, automatic right to recovery

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Scenario C: Loud Behavior Indicating Incompetence

Facts:

• Same as Scenario A, EXCEPT:
• When paying, Icarus makes “paper planes” of money
• When each plane lands in cash register, jumps and shouts: “Not even the sun will stop me now!” (reference to Icarus myth)

Holding:

• Despite bizarre behavior, dealer must make restitution even though car destroyed
• Dealer would have had notice of incompetence from behavior
• Cannot benefit from apparent incompetence of buyer

Rule:

• If other party has notice (actual or constructive) of incompetence from behavior/conduct
• Cannot escape liability by claiming no knowledge
• Even destruction of property doesn’t save the dealer

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X. Exam Tips & Analytical Framework

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A. Issue Spotting for Minors

1. Always look for age references in fact patterns
2. Immediately flag capacity issue
3. Ask: Is person under age of majority?

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B. Analytical Framework for Capacity Cases

1. Is party a minor? → Yes = voidable presumption
2. Is this a necessity of life? → Yes = no disaffirmance available, BUT must pay restitution
3. Has contract been executed/partially executed?
4. Was other party fair and reasonable? → If no = no restitution required
5. Did other party know or should know of incapacity? (product test for mental incapacity)
6. Can status quo be restored?
7. What is restitution amount? → Reasonable value, not contract price

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C. Key Distinctions to Know for Testing

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D. Common Misconceptions

• Misconception: Minor who lies about age cannot disaffirm
  • Truth: Courts look at adult’s conduct, not minor’s honesty
• Misconception: Parent’s signature binds minor
  • Truth: Only guardian ad litem with court approval binds minor
• Misconception: All clothing is a necessity
  • Truth: Only basic, functional clothing is necessary; luxury items are not

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E. Testing Approach

• Acknowledge exceptions and nuances
• Mention necessities exception even when discussing non-necessity contracts
• Discuss Restatement Second of Contracts positions
• Note jurisdiction-specific rules when relevant
• Apply step-by-step analysis to fact patterns

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XI. Introduction to Parole Evidence (Preview)

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A. Foundational Concept

• NOT an evidentiary rule - it’s a substantive rule of contract law
• Called “parole evidence” only because certain evidence won’t be admitted in court

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B. Integration Doctrine

• Integration: Written expression intended by parties as final expression of their agreement
• Key factor: Intent of the parties (determined by judge, not jury)
• If parties intended writing to embody final expression of bargain = integrated writing

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C. Basic Rule

Where parties have integrated their agreement in writing:

• Prior written expressions are inadmissible
• Contemporaneous oral expressions are inadmissible
• Purpose: Prevents varying the terms of the contract
• Cannot add to or modify integrated writing

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D. Policy Rationale

• Courts want to carry out apparent intention of parties
• Facilitate judicial interpretation
• If contract appears full and complete, why allow extrinsic evidence?
• Prevents side deals and oral contradictions

Note: Full parole evidence discussion continues in next session.