In the realm of legal agreements, clauses are the building blocks of contracts. A contract clause defines the specifics of an agreement, and makes sure all parties to the contract are made aware of their rights and responsibilities. That means a clear understanding of clauses is essential for creating precise and enforceable agreements.
Here, we’ll define what contract clauses are, and provide you with examples of several common types used in business. From general categories to specialized provisions, we’ve got you covered. So let’s dive in and explore the fascinating world of contract clauses together!
What is a clause in a contract?
A clause in a contract is a section that defines a party’s rights and responsibilities. For example, a clause might specify a deadline, require written notice of a change, outline a service to be provided, restrict a signer from disclosing confidential information, or explain what will happen if one of the parties fails to uphold their responsibilities. Across all these areas and more, the purpose of each clause is to clear up potential confusion by stating terms explicitly.
In general, standard clauses fall into three broad categories:
- Interpretation clauses, which specify how the contract should be interpreted;
- Enforcement clauses, which establish the rights and obligations of the parties; and
- Execution clauses, which include information like signatures and dates of signing.
As we’ll see below, most types of clauses fall into the “interpretation” and “enforcement” categories, while a contract typically includes just one execution clause for signers.
Why are clauses in agreements important?
Contract clauses are important because they define the scope, rights, and duties within an agreement.
Agreement clauses are crucial for all the following reasons:
- Precision and clarity: Clauses provide specific details about the terms of the agreement, reducing ambiguities and potential misunderstandings.
- Risk management: By outlining the obligations and responsibilities of each party, clauses help in managing and mitigating risks associated with the contract.
- Legal protection: Well-drafted clauses can protect parties from legal disputes and liabilities, ensuring that the agreement is enforceable in a court of law.
- Flexibility and customization: Clauses allow for customization of agreements to address the unique needs and circumstances of the parties involved.
- Dispute resolution: They set out the process for resolving disputes, saving time and resources that might otherwise be spent in litigation.
- Compliance with laws: Clauses ensure that the contract complies with relevant laws and regulations, thereby avoiding legal penalties.
In all these ways, incorporating well-thought-out clauses is key to crafting strong and effective contracts, ensuring clarity, compliance, and protection for all parties involved.
How should you use contract clauses?
You can use clauses to shape almost any aspect of a legal agreement. Although clauses can appear in any part of a contract, they’re most commonly placed toward the end, after the main terms of the agreement. In fact, clauses often make up the bulk of a contract, because they have to cover every possible way a person might try to interpret the agreement’s language.
Many organizations cover their bases by including a library of pre-written clauses – known as “boilerplate” – across a wide range of different contracts. At the same time, many contracts also need to include special provisions that are custom-tailored to the specific type of agreement.
Although most customers and contractors may not read most of the terms of an agreement, clauses become essential in the realm of dispute resolution. If someone takes legal action against your organization, carefully worded clauses can protect you from having to pay damages – while some boilerplate sections, like arbitration clauses, can actually help protect you from having to go to court at all.
Examples of contract clauses
To help clarify what they can do, let’s take a closer look at some of the most common types of contract clauses.
Frequently used contract clauses include the following 24 types:
- Arbitration clauses
- Assignment clauses
- Cancellation clauses
- Change control clauses
- Choice of law clauses
- Confidentiality clauses
- Conflicts of interest clauses
- Data protection and privacy clauses
- Dispute resolution clauses
- Exclusion clauses
- Escalation clauses
- Force adjustment clauses
- Force majeure clauses
- Indemnity clauses
- Intellectual property (IP) clauses
- Liability limitation clauses
- Penalty clauses
- Non-compete clauses
- Payment clauses
- Severability clauses
- Statute of limitations clauses
- Subcontracting clauses
- Termination for convenience clauses
- Warranty clauses
A detailed explanation of 24 types of contract clauses
Here’s a detailed explanation of each of these types of contract clauses, including sample wording:
- Arbitration clauses: These clauses require parties to resolve disputes through arbitration rather than litigation. They often include details about the arbitration process, such as the choice of arbitrator and the rules governing the proceedings.
Sample wording: “Any dispute arising out of or in connection with this contract shall be resolved by binding arbitration in accordance with the rules of [Arbitration Association].”
- Assignment clauses: Address the ability of one party to transfer their rights and obligations under the contract to another party.
Sample wording: “Neither party may assign this agreement or any rights or obligations herein without the prior written consent of the other party.”
- Cancellation clauses: These allow either party to terminate the contract under specific conditions, often requiring advance notice.
Sample wording: “This agreement may be terminated by either party by providing 30 days written notice to the other party.”
- Change control clauses: Manage how changes to the contract or project scope are handled.
Sample wording: “Any changes to the scope of work must be made in writing and agreed upon by both parties.”
- Choice of law clauses: They determine which jurisdiction’s laws will govern the contract. This is crucial for contracts spanning multiple legal areas.
Sample wording: “This contract shall be governed by the laws of the State of [State], without regard to its conflict of law provisions.”
- Confidentiality clauses: These clauses prevent parties from disclosing sensitive information. They are common in NDAs.
Sample wording: “The receiving party shall not disclose any confidential information to any third party for a period of [X] years from the date of this agreement.”
- Conflicts of interest clauses: Require disclosure of any potential conflicts of interest and often include terms for how they are to be managed.
Sample wording: “The Contractor shall disclose any relationships or interests that could be perceived as a conflict of interest.”
- Data protection and privacy clauses: Ensure compliance with data protection laws, defining how personal and sensitive data should be handled.
Sample wording: “Both parties agree to comply with all relevant data protection laws and ensure the confidentiality and security of any personal data processed as part of this agreement.”
- Dispute resolution clauses: Outline the process for resolving disputes, potentially including negotiation and mediation before arbitration or litigation.
Sample wording: “In case of a dispute, parties shall first attempt to resolve the issue through mutual negotiation and, if needed, through mediation before resorting to arbitration.”
- Exclusion clauses: These limit or exclude liability for certain events or actions. For instance, a company might use an exclusion clause to limit liability if a product is misused.
Sample wording: “The company shall not be liable for damages resulting from improper use of the product by the customer.”
- Escalation clauses: These allow for adjustments in prices or other contract terms based on specified conditions, like inflation rates.
Sample wording: “The annual fee shall increase by the rate of inflation as determined by the Consumer Price Index published by [Authority].”
- Force adjustment clauses: Similar to escalation clauses, these adjust contract terms based on changes in market conditions or other external factors.
Sample wording: “The price of goods may be adjusted in response to significant changes in market conditions, subject to a maximum of 10% per annum.”
- Force majeure clauses: These exempt parties from fulfilling their obligations due to extraordinary events beyond their control, like natural disasters.
Sample wording: “Neither party shall be liable for any failure to perform due to unforeseen circumstances or to causes beyond their control, such as acts of God, war, or natural disaster.”
- Indemnity clauses: One party agrees to compensate the other for certain kinds of losses or damages. This is often used in supplier contracts.
Sample wording: “The supplier shall indemnify the purchaser against all liabilities, costs, expenses, damages, and losses caused by defective products supplied under this contract.”
- Intellectual property (IP) clauses: Specify the ownership and use rights of intellectual property created or used during the contract.
Sample wording: “All intellectual property developed during this project shall be the exclusive property of the Client.”
- Liability limitation clauses: Limit the amount or type of liability one or both parties may have under the contract.
Sample wording: “In no event shall either party be liable to the other for any indirect, incidental, or consequential damages.”
- Penalty clauses: These impose a financial penalty if a party fails to fulfill part of the contract, such as breaching a lease.
Sample wording: “If the Lessee terminates this lease early, they shall pay the Lessor a termination fee of $1,000.”
- Non-compete clauses: These prevent employees or contractors from working with competitors or starting a competing business within a specified period after leaving the company.
Sample wording: “The employee agrees not to engage in any business activities that compete with the employer for a period of two years following the termination of employment.”
- Payment clauses: Define the terms for payment, including amount, method, and schedule.
Sample wording: “Payment of $500 shall be made by the Client to the Service Provider within 30 days of receiving the invoice.”
- Severability clauses: These ensure that if one part of the contract is invalid or unenforceable, the rest of the contract remains valid.
Sample wording: “If any provision of this Agreement is held invalid, the remainder of this Agreement shall continue in full force and effect.”
- Statute of limitations clauses: They set a specific timeframe within which legal action related to the contract must be initiated.
Sample wording: “Any legal action related to this agreement must be commenced within three years after the cause of action has arisen.”
- Subcontracting clauses: Address conditions under which a party may subcontract work.
Sample wording: “The Contractor may not subcontract any portion of the services to be performed under this contract without the prior written consent of the Client.”
- Termination for convenience clauses: Allow one or both parties to terminate the contract without cause, often with notice.
Sample wording: “Either party may terminate this agreement at any time by giving 60 days’ written notice to the other party.”
- Warranty clauses: Guarantee certain conditions of products or services, often including remedies for breaches of the warranty.
Sample wording: “The Seller warrants that the goods will be free from defects for a period of 12 months from delivery.”
Developing a library of common clauses should be a part of every organization’s contract management process. This preparatory step will help streamline the creation of contracts, and prevent team members from unintentionally drafting agreements whose language is inconsistent with company policy.
Standardizing contract clauses also helps ensure that every agreement is legally binding, saving the legal team significant time they’d otherwise spend checking each contract individually.