Start Here: 5 Things You MUST Know
A contract must have a legal purpose — illegal contracts are void or unenforceable
Insurance is NOT a wager because it requires an insurable interest
Exculpatory clauses are NOT always illegal but courts interpret them narrowly
Severable contracts: illegal parts can be cut; legal parts may still be enforced
Three types of insurance illegality: contraband, no insurable interest, profiting from wrong
1. Types of Illegal Contracts
For a contract to be enforceable, it must have a legal purpose. Contracts involving illegal activities or violating public policy are generally void or unenforceable. There are 10 categories:
1. Contracts to Commit Crimes or Torts
Any contract requiring a party to commit a crime or tort is illegal and void.
Example: A business owner hires someone to commit arson on a competitor's warehouse. The arsonist cannot sue for payment — the contract is void.
2. Contracts Harmful to the Public Interest
Contracts to influence government officials, bribe voters, or otherwise harm the public interest are unenforceable.
3. Usury Contracts
Usury = charging an illegally high rate of interest. Each state sets maximum rates. Contracts charging above are partially or wholly unenforceable.
Example: A lender offers 75% interest in a state capping at 25%. A court may void the contract or reduce to the legal maximum.
4. Wagering Contracts
Gambling contracts are generally illegal except where authorized by state law (lotteries, licensed casinos).
Key Distinction: Insurance vs. Wagering
Insurance is NOT a wager because the insured must have an insurable interest — they must stand to lose something. A wager creates a NEW risk; insurance covers an EXISTING risk.
5. Unlicensed Practitioners
If a profession requires a license (doctors, lawyers, insurance agents), contracts by unlicensed practitioners may be void.
6. Sunday Law Violations
"Blue laws" restricting Sunday business. Increasingly rare — many states have repealed or modified these.
7. Exculpatory Clauses (Transfer Negligence Liability)
Exculpatory clauses attempt to excuse a party from liability for negligence. They are often (but NOT always) illegal. Courts interpret them narrowly against the party trying to limit their own liability, especially when there is a bargaining disadvantage.
Example: A parking garage sign says "Not responsible for any damage." An attendant negligently crashes your car. The court will likely enforce your claim despite the clause — the garage had superior bargaining power.
8. Restraint of Marriage
Contracts discouraging or preventing marriage are generally unenforceable as against public policy.
9. Restraint of Trade (Noncompetes)
Noncompetes are valid when restrictions are necessary to protect the parties and impose no undue hardship. Courts examine geographic scope, duration, and activities restricted.
10. Unconscionable Bargains
A contract is unconscionable when one party has overwhelming bargaining power and the terms are grossly unfair. Courts may refuse to enforce all or part.
2. Illegality in Insurance Contracts
Coverage of Contraband
A policy covering illegal drugs, stolen goods, or other contraband is illegal and unenforceable.
No Insurable Interest
Without an insurable interest, insurance becomes a wager. The insured must stand to lose something for the contract to be valid.
Profiting From Wrong
A policy that would pay the insured for losses from their own intentional criminal acts is illegal.
Real-World Scenario: No Insurable Interest
The Setup: A person takes out a life insurance policy on a stranger with no family or business connection.
What Happens: The stranger dies.
The Result: The policy is unenforceable. The policyholder lacks an insurable interest. This is essentially a wager on someone's life.
3. When Illegal Contracts Are Still Enforceable
Not all illegal contracts are completely void. Some may still be totally or partially enforceable:
Protective Laws
When a law protects one party (like a consumer), courts may enforce the contract to protect that party while penalizing the other.
In Pari Delicto
An illegal transaction where both parties are equally at fault. Generally, neither can enforce the contract. BUT if parties are NOT equally at fault, the less-guilty party may get relief.
Severable Contracts
A contract with 2+ promises that a court can enforce separately. If one part is illegal, the legal parts may still be enforced.
Example: A contract has 10 provisions. Provision #7 is an illegal restraint of trade. If the contract is severable, the court can strike #7 and enforce the remaining 9 provisions.
Cheat Sheet
Print this page for quick reference10 Types of Illegal Contracts
- 1. Crimes/torts — 2. Harmful to public interest
- 3. Usury — 4. Wagering
- 5. Unlicensed practitioners — 6. Sunday laws
- 7. Exculpatory clauses — 8. Restraint of marriage
- 9. Restraint of trade — 10. Unconscionable
Insurance Illegality
- Contraband coverage = illegal
- No insurable interest = wager = illegal
- Profit from intentional wrong = illegal
- Insurance vs. wager: insurance covers existing risk
Exceptions
- Protective laws — protect the weaker party
- In pari delicto — less-guilty party may get relief
- Severable contracts — cut bad, keep good
Key Terms
- Usury = illegally high interest
- Exculpatory = tries to escape liability
- In pari delicto = equally at fault
- Unconscionable = grossly unfair terms
Exam Trap Alerts
1. Insurance Is NOT a Wager
A wager creates a NEW risk. Insurance covers an EXISTING risk. The key is insurable interest — the insured must stand to lose something.
2. Exculpatory Clauses Are NOT Always Illegal
The exam may try to trick you. Exculpatory clauses are often but not always unenforceable. Courts interpret them narrowly, especially with bargaining imbalances.
3. Severable vs. Entire Contracts
If a contract is severable, illegal portions can be removed and legal portions enforced. If not severable, the whole contract may be void.
4. In Pari Delicto — Equally at Fault Matters
If BOTH parties are equally at fault, neither can enforce. If NOT equally at fault, the less-guilty party may still get relief.
Quick Reference Summary
Legal Purpose
4th element of a contract. Illegal = void/unenforceable.
Usury
Illegally high interest. State max rates apply.
Exculpatory Clause
Tries to escape liability. Narrowly interpreted by courts.
Insurance Illegality
Contraband, no insurable interest, or profit from wrong.
Severable Contract
Illegal parts removed, legal parts enforced separately.
In Pari Delicto
Both equally at fault = neither can enforce.