CONCEPT REVIEW: To be enforceable, contracts must have legal subject matter and

Question

CONCEPT REVIEW:

To be enforceable, contracts must have legal subject matter and must be able to be performed legally. They cannot violate either state or federal law. A contract overturned for illegal subject matter or for being illegal to perform is generally declared void. A contract need not be in violation of a statute to be illegal; agreements against generally accepted public policy are also illegal and unenforceable.

Read the hypothetical below and answer the accompanying questions.

Eugene's dream is to open his own restaurant. The only problem is he does not have the financial backing for this endeavor. He repeatedly tries to get a loan from a bank or other commercial lender, but he's denied each time. Desperate for the funds, Eugene gets the contact information for a loan shark and decides to enter into a private loan agreement. The only catch is that Eugene will have to pay an interest rate of 20%, which is double the maximum allowed interest rate in his state. Although Eugene has some reservations about entering into the agreement, he accepts anyway.

1. The situation in the case study above is an example of what type of generally illegal agreement? Explain why this type of agreement is generally illegal.

2. What would happen if this agreement actually occurred? In other words, how do states treat this type of illegal agreements once they are formed?

3. Suppose that a court determined that both parties were at fault for this illegal agreement. What would the effect of the illegal agreement be? In other words, what would happen to the agreement if both parties are at fault?

Explanation / Answer

Q1. The situation in the case study above is an example of what type of generally illegal agreement? Explain why this type of agreement is generally illegal.

Answer -

Above mentioned case is an example of illegal agreement which is referred as Usury. Usury is the practice of lending money at interest rate exceeding the legally allowed limit. In mentioned case, loan shark is charging double interest from Eugene which is beyond the legally allowed limits. So, the agreement between them is illegal.

Q2. What would happen if this agreement actually occurred? In other words, how do states treat this type of illegal agreements once they are formed?

Answer -

Treatment of such illegal agreements depends upon state to state. But no state legally allows the lender to recover amount of interest more than the statutory limits.

Some states make such type of agreements completely void. Some state’s law allow lender to recover only principal amount without any interest. Some states allow lender to recover principal amount and interest up to the statutory limits of prevailing interest rate in that state.

Law of any state never allows the lender to recover interest amount higher than the prevailing legal interest rates.

Q3. Suppose that a court determined that both parties were at fault for this illegal agreement. What would the effect of the illegal agreement be? In other words, what would happen to the agreement if both parties are at fault?

Answer –

In case if both the parties are at fault then court will declare such type of agreements void. No party can held each other responsible and cannot ask for recovering anything. Agreement will no longer be enforceable on any of the party.

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