When is a person mentally capable of entering a contract?

The English High Court, in the case of Fehily v Atkinson [2016] EWHC 3069 (Ch), has provided a useful reminder of the test to apply in determining whether a person has mental capacity to enter a transaction.

If a contract is entered into for consideration by a person without the mental capacity to understand the transaction, it is not void. It is valid and binding unless the other contracting party was aware of the incapacity (or ought to have been aware), in which case the contract is voidable and the incapacitated person has the right to rescind the contract. (In the case of a voluntary disposition, such as a gift or a will, or a power of attorney, the same will be void if the person entering into it lacks the mental capacity).

However, there is no universal test for determining whether a person has the necessary capacity; it depends upon the nature of the business being transacted.

The English High Court summarised the five general principles to be considered in any case:-

  • A person needs the mental capacity to recognise the issues that must be considered, to obtain, receive, understand and retain relevant information, and to weigh the information in the balance in reaching a decision.
  • Whether a person lacks capacity is issue specific, to be judged in relation to the particular decision or activity in question and not globally. For example, a person may have capacity to authorise someone to deal with their property on their behalf, but insufficient capacity to decide what should be done with it.
  • The question may also be time specific. If a person's capacity varies over time, the court will need to consider the question of capacity in relation to specific times when decisions were required from the person asserting incapacity, taking into account the nature and complexity of those decisions.
  • The question is whether the person had the ability to understand the transaction, not whether they actually understood it i.e. whether they would have understood it, if the consequences had been fully explained.
  • The fact that a person needs help in understanding the transaction does not prevent them from having the capacity to understand it. Where advice is needed, the question is whether they: (1) have the insight and understanding to realise that they need advice; (2) have the ability to find an appropriate adviser and instruct them with sufficient clarity to get the advice; and (3) have the ability to understand and make decisions based on that advice.

It is not therefore sufficient for a person to only have a general impression of the nature of a contract. They must have the ability to "absorb, retain, understand, process and weigh information about the key features and effects of the contract, and the alternatives to it, if explained in broad terms and simple language”.