Objective Theory of Contract

A principle in U.S. law that the existence of a contract is determined by the legal significance of the external acts of a party to a purported agreement, rather than by the actual intent of the parties.

Some disagreement exists as to whether the COMMON LAW governing contracts required judges to determine the subjective intent of the parties in order to recognize the existence of a contract, or whether judges were required to view the external acts of the parties and then determine, in an objective manner, whether a contract had been formed. Some scholars maintain that the common law had long employed an objective test for recognizing a contract. Other scholars and writers claim that the widespread use of the objective theory of contracts in the courts was a much more recent phenomenon, perhaps developed during the late nineteenth century.

Whatever the specific origin of objective theory may be, it is clear that by the late nineteenth century American law had generally adopted it. Since then the theory has been heatedly debated among legal experts, and contracts scholars often take firm stances as either "objectivists" or "subjectivists." Within each of these theories are variations regarding the application of either a subjective or an objective view of contracts.

Legal historians note that many of the top judges and legal scholars of the late 1800s and early 1900s adhered to the objective theory of contract. Among these judges and scholars were CHRISTOPHER COLUMBUS LANGDELL, OLIVER WENDELL HOLMES, and SAMUEL WILLISTON. Judge LEARNED HAND of New York summarized the objective theory of contracts in a famous quote from a 1911 case (Hotchkiss v. National City Bank, 200 F. 287 [S.D.N.Y. 1911]):

A contract has, strictly speaking, nothing to do with the personal, or individual, intent of the parties. A contract is an obligation attached by the mere force of law to certain acts of the parties, usually words, which ordinarily accompany and represent a known intent. If, however, it were proved by twenty bishops that either party when he used the words intended something else than the usual meaning which the law imposes on them, he would still be held, unless there were mutual mistake or something else of the sort.

The sharp dichotomy between the objective and subjective theories of contract should not suggest that an ordinary, everyday agreement would commonly be considered a binding contract under one theory but not under the other. If two parties enter into an agreement, subjectively intend to be bound by the agreement, and make external acts showing their intent to be bound by the agreement, then a court applying either the subjective theory or the objective theory of contract law would reach the same conclusion—that the parties had entered into a binding contract.

The major differences in the two theories arise when one party claims that he or she did not intend to enter into the agreement. For example, party A owns an automobile valued at $20,000. His neighbor, party B, asks party A for the amount of money which party A would be willing to sell the car. Party A, who has no intention of selling the car, and who knows that party B cannot afford to pay $20,000, says "I'd sell it to you for $1,000." Party B replies, "OK, it's a deal." Party A states that his offer was not serious, and that he never intended to sell the car for that amount of money. Nevertheless, a court could find that parties A and B had entered into a binding agreement—selling the car for $1,000—if a reasonable person in party B's position would have believed that party A intended to enter into such an agreement. However, if party A were to tell party B that he would sell the car for $5, then a court may be more likely to find that a reasonable person would not have believed that party A intended to be bound. Under a subjective theory of contract, party A could dispute the formation of a contract by introducing evidence that he did not actually intend to be bound by his statement (of either the $1,000 or the $5 sales price).

Although the objective theory of contracts applies in virtually all jurisdictions in the United States, some aspects of subjectivity are nevertheless present in American law. For instance, many of the grounds by which a party or parties may avoid a contract, such as mistake or duress, are based upon the subjective beliefs or intentions of the parties. Likewise, if the two parties specifically indicate that they agree not to be bound by an agreement, then a court will not recognize the agreement as enforceable. The court would similarly refuse to find the existence of a contract if one party did not intend to be bound and the other party knew or should have known that the first party did not intend to enter into a binding agreement.