A letter of intent is a tool that is sometimes used by parties who may desire to enter into a contract, but who typically do not wish to be bound by specific provisions until future negotiations are held. Despite this common understanding, in its decision published on January 27, 2015 in Falls Garden Condominium Association, Inc. v. Falls Homeowners Association, Inc., Maryland’s highest court affirmed that a letter of intent can constitute a valid contract under which enforcement can be ordered. The fact that a letter of intent contemplates future agreements does not alone render the terms unenforceable. Under certain circumstances when a letter of intent is signed by both parties who believe it to be a letter of commitment, the letter is a memorial of a contract and can be enforced.
Letters of intent fall into four categories:
- The parties may say specifically that they intend not to be bound until the formal writing is executed, or one of the parties has announced to the other such an intention.
- The parties clearly point out one or more specific matters on which they must yet agree before negotiations are concluded.
- The parties express definite agreement on all necessary terms, and say nothing as to other relevant matters that are not essential, but that other people often include in similar contracts.
- The parties expressly state that they intend their present expressions to be a binding agreement or contract and such an express statement is conclusive on the question of their ‘intention.’
Generally, letters of intent that fall within the third and fourth category are considered valid contracts.
For all valid contracts, mutual assent is a requirement of contract formation. To determine if there is sufficient mutual assent, courts will look for (1) intent of the parties to be bound, and (2) definiteness of terms in the letter. Maryland has adopted the New York structure for evaluating intent to be bound. Courts will consider (1) the language of the preliminary agreement, (2) the existence of open terms, (3) whether partial performance has occurred, (4) the context of the negotiations, and (5) the custom of such transactions, such as whether a standard form contract is widely used in similar transactions. Other potential considerations may include (1) whether the agreement has few or many details, (2) whether the amount involved is large or small, and (3) whether it is a common or unusual contract.
Maryland follows the objective theory of contract interpretation. This objective approach requires the courts to determine what a reasonably prudent person in the same position would have understood the meaning of the contract to be. Further, if contract language is plain and unambiguous, as in not susceptible to more than one meaning, then courts will presume the parties meant what they expressed and apply the contract terms as written. What the parties actually intended the contract to mean is not the test. The issue actually turns on what a reasonable person in the same position of the parties would have thought the contract to mean.
Finally, the courts will consider the terms of the letter of intent and whether those terms are definite or indefinite. While definite terms further support an intent by the parties to be bound, the courts are really looking to see if the essential or material terms of the contract are defined. Not all contract terms need to be included in a letter of intent for it to be considered a valid enforceable contract, however, the letter must contain all essential contract terms. When essential contract terms are missing, mutual assent is generally not found. Ultimately, a letter of intent could be considered a valid contract even if it contemplates certain terms will be agreed upon in the future, so long as those terms are not essential.
Before signing a letter of intent careful consideration needs to be given to its purpose. If the primary purpose is meant to start or facilitate contract negotiations, it is important to take steps to ensure the letter falls within the first two categories delineated by the Court of Appeals. If not, a party could very well find itself bound to the terms and conditions of a contract it did not think it had entered into.