Importance of Consideration in an Agreement

The importance of consideration in an agreement serves as a fundamental pillar of contract law, distinguishing a legally binding commitment from a mere promise or gift. This article examines the statutory requirement that something of value must be exchanged between parties—whether it be money, goods, services, or a forbearance—to render a contract enforceable in a court of law. By analyzing the “benefit-detriment” theory, the text highlights how consideration acts as the essential “price” that validates the mutual intentions of the participants.

Understanding these legal nuances is essential for drafting robust commercial contracts and avoiding disputes over the validity of an agreement. Without sufficient consideration, a contract may be deemed “nudum pactum” and fail to provide the necessary legal protections for the involved entities. This guide serves as a strategic resource for legal professionals and business owners seeking to ensure their contractual arrangements are backed by recognized legal value.

What Is Consideration in Contract Law?

In contract law, consideration is meant to be the exchange of one thing of value for another. It is one of the important elements that must be present for a contract to be legally enforceable.

Legal Definition of Consideration

According to Section 2(d) of the Indian Contract Act, 1872 consideration is defined as: “When at the desire of the promisor, the promisee or any other person has done or abstained from doing, or does or abstains from doing, or promises to do or abstain from doing something, such act or abstinence or promise is called consideration for the promise”.

Consideration as a Requirement for a Valid Contract

Under Section 10 of the Contact Act (am sure the situation would be the same in other countries too), a lawful consideration is included among other requirements to constitute a valid contract. In simple words, consideration means something in return of a promise which may either be benefit gained by one party or something lost by the other.

It broadly means what the parties are doing under an agreement on their part. For anything done by a party under the agreement, there is a corresponding benefit to the other party.

The agreement must clearly demarcate why the parties are getting into an agreement – which party is going to give / receive what benefit under the agreement.

If there is no consideration for each party, the agreement is void.

Consideration and Stamp Duty

It is necessary to mention consideration to calculate the stamp duty payable on an agreement under Indian Stamp Act, 1899. Section 27 of this Act mandates that the consideration should be fully and truly set forth in an agreement.

The Problem of Under-Reporting Consideration in India

In India, we have had the malaise of under-reporting the consideration particularly under property related agreements. This was to evade payment of stamp duty and registration fees and payment in unaccounted cash.

However, all this resulted in catastrophic consequences for the parties in cases of dispute. A party could claim the actual consideration in the event of default by the other party.

With the Government of India’s emphasis on better compliance, these practices are being reduced if not completely eliminated. It is now mandatory to make big payments only through cheques or digital modes. The stamp duty and registration charges are being reduced. The tax authorities can question any undervalued deals.

Validity of Consideration

Further, not only there should be a consideration, the consideration should be valid under law. An Illegal or immoral consideration or one that is against established public policy may not be enforceable.

Acknowledging Receipt of Consideration

An agreement can contain the acknowledgement of receipt by way of a separate receipt in an annexure or in the body of the agreement itself.

About the author:

Bhumesh Verma is a lawyer with over 2 decades of experience in advising domestic and international clients on corporate transactions (M&A, Venture Capital, Private Equity, Startups, corporate advisory, etc.) and features in “The A-List – India’s Top 100 Lawyers” by India Business Law Journal. He keeps writing frequently on FDI, M&A and other corporate matters and is a guest faculty as well. He can be reached at bhumesh.verma@corpcommlegal.com.

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