The short answer
A heads of agreement can be legally binding, partly binding, or not binding at all. It depends not on the label at the top of the document but on what the document says and how the parties behaved. That is the trap: people sign a "non-binding" heads of agreement believing it is a handshake on paper, and later discover a court reads it as a concluded contract, or the reverse, that the deal they thought was locked in was never enforceable at all.
How courts decide
Australian courts have dealt with this question for nearly a century, and the framework comes from the High Court's decision in Masters v Cameron (1954). When parties agree on terms and intend to record them in a later formal contract, the arrangement falls into one of three classes:
- Bound immediately. The parties intend to be bound now, even though a fuller document will follow. The later contract just restates the deal. The heads of agreement is binding.
- Bound, but performance awaits the formal document. The parties are bound at once, but some obligations only operate once the formal contract is signed. Still binding.
- No binding agreement until the formal contract is signed. The heads of agreement is a record of negotiations, nothing more. Either side can walk away.
Later cases recognise a fourth class: the parties intend to be bound immediately by the terms agreed so far, while expecting to negotiate further terms in the formal document. Binding as to what was agreed, open as to the rest.
Which class you are in is decided objectively, from the words of the document and the surrounding circumstances, not from what either party privately intended.
The phrases that matter
Wording does the heavy lifting:
- "Subject to contract" or "subject to the preparation of a formal contract" points strongly to the third class: no binding deal yet.
- "The parties agree to be bound immediately" does the opposite.
- A "binding" clause listing specific paragraphs (commonly confidentiality, exclusivity and costs) makes those paragraphs enforceable while the commercial terms stay non-binding. This is the structure done properly.
But no phrase is bulletproof on its own. If the parties start performing, paying money, transferring possession, commencing work, a court may conclude they intended to be bound regardless of the "subject to contract" label.
Where it goes wrong in practice
The disputes we see follow a pattern. Two businesses agree commercial terms over a few meetings. A heads of agreement is signed so everyone can "get moving". Lawyers are told the formal contract is a formality. Then the relationship sours before the contract is signed, and each side reaches for the reading that suits it: one says the deal was done, the other says there was never a deal. Both readings are arguable, which means both sides pay lawyers to argue them.
We wrote about the commercial side of this problem in Don't Sign That Heads of Agreement: even a genuinely non-binding heads of agreement changes negotiating leverage, because walking back a "agreed" term is commercially costly even when it is legally free.
Doing it properly
A heads of agreement is a useful tool when it is drafted deliberately:
- Say expressly which clauses bind and which do not.
- Keep confidentiality, exclusivity and costs binding; keep the commercial terms conditional if that is the intent.
- Set a deadline or lapse date for the formal contract.
- Do not start performing before the formal contract is signed unless you are content to be bound.
- Have it read before you sign, not after. The review takes a fraction of the time a dispute does.
The same discipline applies to option arrangements in property transactions, where the binding-or-not question carries six or seven figures. See our guide to put and call option agreements.
The takeaway
"Are heads of agreement legally binding?" has a lawyer's answer: it depends on the drafting. Which means the practical answer is entirely in your hands. Decide what you want to be bound by, say so expressly in the document, and behave consistently with it. If a heads of agreement is on the table in your transaction, have it reviewed before anyone signs.
Quinn & Quinn advises Brighton and bayside businesses on heads of agreement, term sheets and commercial contracts. If you are about to sign one, contact us first.