How to Avoid Common Mistakes in Business Contracts

Key Takeaways:

Clear, well-drafted business contracts reduce legal risk by explicitly defining scope, payment terms, risk allocation, dispute resolution and termination rights in writing. Verbal agreements and generic templates increase the likelihood of misunderstandings, unenforceable terms and costly disputes. Contracts are most effective when they use precise language, balance risk fairly between parties, and are reviewed or drafted by an experienced contract attorney to ensure enforceability and alignment with the business’s long-term interests.

Contracts play an essential role in your business operations. They define many of the relationships and interactions you have with vendors, customers, contractors, employees and others who engage with your business. When crafted properly, your contracts will provide important protections your business needs to thrive. But when mistakes are made while drafting business contracts, it can open your business up to costly disputes and lawsuits that can have devastating consequences on your long-term success.

Each year, approximately 12 million contract lawsuits are filed against small businesses, and 90% of businesses are involved in a lawsuit at some point in their lifespan. Many of these lawsuits could have easily been prevented with a clearer, more effective contract. By understanding how to avoid the most common mistakes made when drafting business contracts, you can reduce your risk of these costly disputes and lawsuits. Due to the high stakes associated with the contracts you enter into, it’s always best to work with a contract lawyer who can make sure the terms of the contract are spelled out clearly and the final agreement protects your best interests.

Always Put Your Contract in Writing

Entering into “handshake deals” is one of the most common mistakes made in business agreements. While a verbal agreement solidified with a handshake may feel like a strong way to forge a relationship built on trust, this approach carries serious risks that can lead to disputes down the road. Verbal agreements lack the written documentation provided by an official contract, and this creates uncertainty regarding the specific terms of the agreement. Items such as scope, obligations, price and deadlines can easily be misunderstood by each party, and in the event of a dispute, there will be no official document for attorneys and courts to review when trying to resolve the conflict.

Verbal “handshake” agreements pose several serious problems:

Lack of Clear Terms and Conditions – When terms of an agreement aren’t spelled out in writing, there is a greater risk they can be misinterpreted or forgotten over time.
Difficulty Proving Agreement Terms – In the event of a dispute, there will be no evidence to support your interpretation of the contract terms.
Increased Legal Disputes – Disagreements over the terms of a verbal agreement are much more likely to result in costly and time-consuming lawsuits than disputes involving written contracts.
Unenforceability of Agreements – Some contracts may not be enforceable if they aren’t in writing.
Limited Protection for All Parties – When drafted properly, written contracts contain clauses detailing how disputes will be resolved and who is liable in the event of a breach. These protections are important for all parties involved.

These issues can easily be avoided by putting all contracts in writing. Make sure the contract is either drafted or reviewed by your business attorney before singing. This will ensure all terms are clearly stated and the agreement contains the important protections your business needs.

Make Scope and Payment Terms Extremely Clear

For a business contract to be effective, it must clearly state all terms in objective language. Using vague or ambiguous language could result in each party interpreting the terms differently. In addition, failing to define all essential terms and conditions can lead to confusion over what is covered by the contract and the specific responsibilities of each party. These issues increase the risk of a contract dispute down the road

When defining the scope of work in a contract, make sure to include specific language regarding:

Deliverables
Standards
Deadlines
Change-order processes

When defining payment terms, make sure to clearly spell out:

Total price
Pricing model (lump sum vs. cost-plus)
Milestones
Due dates
Interest on overdue balances
Late fees
Allowed payment methods
Process when payments are disputed or delayed

Make Sure Risk and Liability Allocation Is Clearly Stated

Business contracts often place risks on each party in the event that the terms aren’t completed as stated. In order to ensure your interests are protected, it’s critical to clearly state all risk allocation between each party in the terms of the contract, particularly regarding potential liability, indemnification or warranties. When you don’t address the allocation of risk clearly in the terms of the contract, it can potentially make your business susceptible to unexpected financial losses.

When defining risk allocation in the contract, make sure to explicitly state:

Who is responsible for what risks
Who controls the work
Who benefits from the work
Who is best able to manage the risk involved

In addition, a well-crafted contract should balance the risks in a way that is fair to both parties. Make sure your contracts contain the following provisions to prevent your business from shouldering an unfair risk allocation burden:

Mutual Caps – Limiting the damages available to each party from a breach will help make negotiations during a dispute much more straightforward, reducing the risk of costly litigation.
Carve-Outs – Actions that are excluded from damage caps, such as fraud, IP infringement or willful misconduct should be clearly stated in the contract.
Reciprocal Indemnities – Including a statement requiring each party to cover the cost of legal claims associated with their own negligence or misrepresentation will provide important protections that limit the financial losses to the injured party after a breach.

Avoid Relying on Generic Contract Templates

It may be tempting to use a generic contract template if you feel like the agreement you’re entering into is relatively straightforward, or if you’re looking to save money. However, it’s important to understand that all contracts are unique. Using a generic template without any custom modifications will fail to address the unique aspects of your specific agreement, and this can result in an unfair agreement that exposes your business to unnecessary risks.

It’s always best to have your contract lawyer draft every agreement you enter into. This will ensure they’re written clearly, define all important terms, and prevent you from incurring any unnecessary risk. If you do use a generic contract template as a starting point, make sure you customize the details to address the unique needs and objectives of your specific agreement. In addition, always have your lawyer review these contracts before you finalize them.

Include Contract Provisions that Address Disputes and Termination

When you enter into a business contract, the risk of a future dispute is typically not something you’re anticipating. However, contract disputes occur all the time, and it’s critical to outline a process for how disputes will be handled in the terms of your contract. Make sure you spell out clear and enforceable dispute resolution mechanisms that will allow you to resolve these issues as efficiently and affordably as possible. This roadmap should include:

The governing law and jurisdiction for resolving disputes
Required steps that will be taken prior to litigation, such as mediation or arbitration

It’s also important to address terms associated with termination within the contract. Termination clauses should provide a clear exit path that will protect the interests of both parties in the event that business relationships change over time. Include clauses that address:

Termination for Convenience – If a contract has automatic renewals or lacks a clear end date, define a process that allows either party to exit the agreement. To protect the interests of both parties, this clause should require advance notice and any important wind-down obligations that will limit the other party from incurring significant financial or reputational damage due to the termination.
Termination for Cause – Define a termination process in the event of a breach.

Elizabeth Lewis Can Help with Your Business Contracts

The stakes are incredibly high when you enter into a business contract, and there are many potential ways you can make a mistake during the drafting process if you don’t work with an experienced contract lawyer. At the Law Office of E.C. Lewis, we’ll make sure your interests are protected.

Elizabeth Lewis has been providing comprehensive legal services for businesses since 2007, including contract law services. Elizabeth can draft all your contracts to ensure the terms are clear, enforceable and protect your best interests. If the other party’s attorney drafts the contract, Elizabeth will review the terms to ensure they are fair. In the event that a contract disputes arises, she will also provide the representation you need to resolve the matter as quickly and cost effectively as possible.

Contact us today to schedule a consultation. The Law Office of E.C. Lewis serves clients in Denver and throughout Colorado.