It can be tempting to sign memorandums of understanding (MOUs) or heads of agreement (HOAs), believing that these documents will adequately capture the arrangement between the parties.
One may be motivated by administrative speed and convenience or believe that the subject matter does not warrant the cost of lawyers.
They may also sometimes be a good way to avoid a full legal commitment when one is not yet sure that one wants to create clear obligations.
However, the MOU or HOA presented may contain hidden pitfalls, even if it looks simple or standardised.
If the parties begin to fall into dispute, they face an additional interpretation challenge.
When MOUs or HOAs come before a court, the first issue that must be decided is often whether the document has the status of an agreement that binds the parties.
In other words, the court must decide if the document has the status of a contract – with rights that can be exercised and obligations that must be complied with.
One benefit of avoiding an MOU or HOA (in the right circumstances) would be to reduce the legal costs involved in debating the legal status of the document.
Lawyers carefully select the right combination of words and phrases to create a right or obligation.
Take the word ‘shall’. A layperson drafting an MOU might look to a legal document for inspiration and find that word used liberally.
Yet even lawyers can fall into the trap of preferring the easy way to draft a document because of time constraints or habit. Hence it would not be unusual to find a contract that liberally uses the word ‘shall’ even though there are alternatives such as ‘will’ or ‘must’. Yet all three words have different purposes.
The word ‘shall’ is typically used to place an obligation on the actor. In this example, the obligation is on the lessee: ‘The lessee shall pay rent monthly’.
On the other hand, the word ‘must’ could be more appropriate when imposing a condition or being focused on a task. For example, ‘The rent must not be increased by an amount greater than CPI.’
Finally, the word ‘will’ typically refers to a consequential act or an intention to do something. It might be appropriate to use this word when not seeking to impose an obligation on the actor. For example, ‘If the rent is not paid by the due date, the lessor will become entitled to issue a notice of default’.
The lessor becomes entitled but is not obliged to issue the notice.
Greater clarity in the choice of word or phrase means there is less scope for interpretation. That, in turn, reduces the capacity for dispute later.
A clause may read well and make sense. However, it could still need to be completed or improved.
For example, an MOU or HOA might contain a clause that states that either party may terminate it on giving 30 days’ notice.
Depending on the subject matter of the MOU or HOA, giving notice might be relatively inexpensive and convenient. However, it is not unusual to see an MOU or HOA without a detailed termination process clause. This can give more scope for dispute. An aggrieved party could argue that implied terms in the ‘contract’ give them a right to damages if termination does not happen the way they want it to.
A comprehensively drafted contract would likely contain a termination process clause that leaves less room for valid opposition.
One cannot underestimate the significance of a few keywords in an agreement.
For example, adding the word ‘reasonable’ can mean a world of difference to a clause and the obligations under it.
Inserting such a word changes an obligation from being unequivocal to one that is subject to interpretation by a third party. The most significant third party in such instances is the judge in a trial.
Where parties negotiate over an MOU or HOA (without qualified advisers), they can lose their objectivity. It can be easy to agree to insert (or remove) a word or phrase in the spirit of trying to achieve an informal agreement.
Where there is less rigour, there is less cost at the outset. However, in the event of a dispute, the costs saved will be outweighed by the costs of resolving that dispute.
The author has seen MOUs where major gaps exist in the detail of obligations to be performed by the government agency. He has also seen MOUs where a local government has unintentionally (because of lax drafting) handed over some of its statutory discretions.
This problem would probably have been avoided if the MOU had been rigorously drafted and negotiated by lawyers on both sides.
In practical terms, it would have cost far less to engage lawyers to prepare the contract than engage them to rectify the issues when the dispute arose.
So remember, be very wary of the MOU or the HOA. They may look less threatening than a full-blown contract and may promote a climate of friendly cooperation.
Consider, though, whether a formal contract should be made when an MOU or HOA is offered to you.
And if you decide to execute the transaction as an MOU or HOA, then obtain legal advice before you sign it.
Managing Principal
Mob: 0421 302 541
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