15 Types of Contracts You Need to Know About

No matter what kind of business you’re in, you have to deal with a lot of contracts. Up to 80% of business transactions are governed by contracts, according to a study completed by Cottrill Research. Contracts are an essential part of hiring employees, doing business with other companies, and making sure your business is protected from lawsuits and other liability issues. However, there are several different types of contracts you need to know about if you want to make the most of your business.

Some of the most popular contracts include fixed-price contracts, cost-plus contracts, and time and materials contracts. While you can use software and other tools to help you generate professional agreements, you should still understand the basics of different types of contracts as a business owner. The better you understand types of contracts, the easier it will be to choose the right contract type and protect your business. If contracts are somewhat of a mystery to you as a business owner, here’s everything you need to know.

This blog post is offered for general information purposes only. It does not constitute, and is not a substitute for, legal advice.

Why different types of contracts exist

You might be wondering why there are different types of contracts in the first place. You may think a basic contract is enough for your needs, but there are a lot of things to consider when you’re authoring a contract. The whole point of these contracts is to protect your business and make sure you receive what you’re owed as part of an agreement.

The bottom line is, there are different types of contracts because each contract type is a little different from the next. This means that certain kinds of contracts are better suited for certain situations, so understanding the types of contracts allows you to draft better agreements.

To understand the purpose of the different types of agreements, you need to understand what’s included in a contract. A contract generally includes information about the rights and responsibilities of the parties involved, the expectations between those parties, payment arrangements, how many parties are involved, and more. These details are essential if you want to maximize efficiency and profit.

General types of contracts

As a business owner, it can be helpful to have a basic understanding of the different types of commonly used contracts. In the section below, we’ll cover some of the most commonly used contracts and what you need to know about them.

Fixed-price contracts

Fixed-price contracts, also known as lump-sum contracts, are contracts in which the parties involved decide which goods or services will be exchanged and determine a set price for said goods or services. These contracts can be particularly effective when you can determine the scope of a project before you get started. Because fixed-price contracts are simpler than some other types of contracts, they can be useful for accelerating the agreement process.

Cost-plus contracts

With cost-plus contracts, one party is paid for all the expenses they incur while completing a project in addition to an extra fee when the job has been completed. These contracts can be effective when it’s difficult to determine the scope of a project from the jump.

By having the customer pay for expenses, contractors can share some of the risk that comes with a long-running or over-budget project. Cost-plus contracts are common in construction and other industries where raw material costs can be unexpectedly high.

Time & materials contracts

Time and materials contracts are another popular type of contract for construction projects as well as those that heavily rely on labor and materials.

With a time & materials contract, one party agrees to pay a fixed amount for each hour of labor as well as the cost of materials. If a project takes longer than expected or a contractor needs more materials, that cost is rolled into the contract. While these contracts are fairly simple, they can also lead to high project costs for the customer.

Unit pricing contracts

With unit pricing contracts, a contractor provides a set price for each unit (or segment) of work that needs to be completed. While material and labor costs are used to determine the price of each unit of work, the price per unit is what the customer will immediately see. However, it’s not uncommon for contractors to include an itemized list of the calculations they used to reach that unit price.

Unilateral contracts

In a unilateral contract, there is an offer made by one party, where the other party is only paid after they perform the outlined actions within the contract. Essentially, unilateral contracts are one-sided, meaning only one of the parties involved has an obligation. That said, most contracts include obligations for both or all parties involved.

Bilateral contracts

Bilateral contracts are similar to unilateral contracts, but both parties agree to perform something for each other. The parties that enter into a bilateral contract have what are called “reciprocal obligations,” which are obligations owed by one party to another and vice versa.

Simple contracts

A simple contract is an oral or written agreement that two parties enter into despite not legally recording or sealing the contract at any point. These contracts may or may not be legally binding, and breeches may be ruled on by a court. Simple contracts are generally better for minor agreements.

Implied contracts

An implied contract is a contract that’s derived from the actions or circumstances of the parties involved—meaning there is no written or oral agreement.

An example of an implied contract would be the agreement that is established when you order a round of drinks at a bar.

Express contracts

Express contracts are contracts that two or more parties willfully agree to either verbally or in writing. Express contracts clearly define the terms of the agreement and all parties are aware of what they’ve committed to.

These contracts are legally binding and a court may rule on breaches of contract. Express contracts are sometimes used in conjunction with an e-signature solution, but that depends on whether the contract is written or oral.

Unconscionable contracts

If a contract is deemed to be unfair or abusive to one of the parties involved, the court may determine that the contract is unconscionable. Contracts are generally determined to be unconscionable due to either unfair bargaining practices or unfair substantive terms.

Types of contracts commonly used in business

Understanding the types of contracts that are commonly used in business settings can help you streamline your contract lifecycle and improve efficiency when it comes to dealing with contracts. In the business world, there are a lot of different types of contracts that are frequently used, but having a basic understanding of the five below is a good starting point:

General business contracts

General business contracts include partnership agreements, indemnity agreements, non-disclosure agreements or NDAs, and property and equipment lease agreements. Terms and other specifics can vary quite a bit from contract to contract, so the details are important.

Bill of sale

A bill of sale is a legal document that allows one party to transfer ownership of property to another party in exchange for money. These contracts are used when a business sells something, such as a car or an order of materials. Fortunately, this is one of the simpler types of contracts to implement.

Employment contracts

When you hire an employee as a business owner, you may have that employee enter into an employment contract to work for you. This employment agreement includes details about the duties an employee will perform, the compensation they will receive, and other essential terms.

Licensing agreement

In a licensing agreement, one party agrees to allow another party to use a licensed product or service in exchange for royalties. The specific details regarding royalties and permissions will be outlined in the contract.

Promissory note

A promissory note is a written agreement by one party (the borrower) to pay back a certain amount of money to another party. With a promissory note, the payment is due when the lender requests it, although lenders must give advance notice according to the terms of the contract.

Why it’s important to understand the types of contracts

For business owners, there are several benefits of understanding the different types of contracts. For starters, being able to distinguish between the various types of contracts means you can choose the right type of agreement for each situation your business encounters. You’ll also know what you’re dealing with when agreements are presented to you and what you should expect in those circumstances. Contract knowledge also plays into the bigger picture of operating your business smoothly and improving your customer relations.

Operate your business with the proper contract management

Contract management is one of the most important parts of running a successful business, whether that means managing employment agreements or licensing agreements. As a business owner, it’s your job to have a basic understanding of contracts and what they’re used for.