Agreement in restraint of trade under Indian Contract Act

restraintThe Constitution of India guarantees the freedom of trade and commerce to every citizen and therefore No person is at liberty to deprive himself of the fruit of his labour, skill or talent, by any contract that he enters into. Certain types of agreements are declared as void by statues as they are harmful to society and they are called ‘Agreements Opposed to Public Policy’. Out of them agreement in restraint of trade is one.

In the leading case of Mitchel v Reynolds (1711) Lord Smith LC said,

“it is the privilege of a trader in a free country, in all matters not contrary to law, to regulate his own mode of carrying it on according to his own discretion and choice. If the law has regulated or restrained his mode of doing this, the law must be obeyed. But no power short of the general law ought to restrain his free discretion.”

Section 27 of the Indian Contract Act, 1872 declares agreements in restraint of trade as void. Section 27 declares, ā€œEvery agreement by which any one is restrained from exercising a lawful profession, trade or business of any kind, is to that extent void.ā€

It stipulates that an agreement, which restrains anyone from carrying on a lawful profession, trade or business, is void to that extent.

Madhub Chander vs. Raj Kumar (1874) – An agreement whereby one of the parties agrees to close his business in consideration of the promise by the other party to pay a certain sum of money is void, being an agreement is restraint of trade, and the amount is not recoverable, if the other party fails to pay the promised sum of money.

Exceptions for Restraint of Trade

The following are some occasions on which agreement in restraint of trade attains Validity.

  1. Sale of Goodwill: In case where sale of Goodwill takes place, the person who has paid for Goodwill can restrict the other on reasonable base from doing the business concern.
  2. With retiring Partner: At the time of retirement of the partner, the existent partners can restrict the retiring partners from carrying on the same business.
  3. Among Partners: Partners of a firm may enter into an agreement in restraint of trade according to which no one of them should carry-on the same business individually. It is Valid.
  4. At the time of dissolution: Partners of a firm can make an agreement in restraint of trade at time of dissolution of firm according to which no one of them should do the same business without prior permission from others.
  5. Elimination of Competition: An agreement in restraint of trade can be made to eliminate competition on reasonable basis. In Madhub v. Rajkumar, the objective of their agreement is elimination of competition but it is not on reasonable basis. Hence it is held to be Void.
  6. Trade Unions: A trade Union may restrict an entrepreneur or an enterprise from doing certain business for the purpose of labor welfare. It is Valid but it should be a registered trade union.
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