Letter of Intention (LoI) – A harmless agreement?
Summary (generated with support from AI tools):
- Letters of Intention (LoIs) are often treated as harmless and nonbinding, yet they can still be interpreted as creating binding commitments, depending on their wording and context.
- Even a formally nonbinding LoI may influence how a court interprets the parties' intentions in later agreements, giving it practical legal effect.
- LoIs also carry significant negotiation weight. Once something is written into an LoI, it becomes difficult to argue the opposite when negotiating later.
- Because they are seen as low-risk, LoIs are often drafted quickly and without scrutiny, which increases the danger of unintended commitments.
Is the Letter of Intention (LoI) as harmless as it is perceived? The LoI is frequently regarded as a harmless and non-binding agreement that can safely be used for mere intentions between the parties. However, World Commerce and Contracting calls it "probably the most dangerous written form a contract can take".
This statement refers to the fact that even though an LoI is intended to be nonbinding, it might still be interpreted as having binding force. This creates uncertainty to whether and to what degree the parties have made a binding commitment, contrary to the intended nonbinding character.
Moreover, in many systems of law, even when an LoI is formally nonbinding, a court might nonetheless include it in the overall interpretation of the parties' intentions in subsequent agreements, thereby potentially giving the LoI binding effect indirectly.
Furthermore, the parties should not underestimate the weight an LoI will have in future negotiations. It is difficult to argue contrary to the content of an LoI. The content of an LoI will be the benchmark, containing compelling arguments when the parties start negotiating a later agreement.
Due to the perception that the LoI is a harmless document, it is frequently drafted in a hurry without involving professionals. The parties do not scrutinize the content of an LoI as they would with any other type of agreement. The LoI can be a powerful business tool when it is used correctly. However, inherit dangers in an LoI makes it even more important to be thorough in the drafting or reviewing.
The LoI carries many names, e.g. Memorandum of Understanding (MOU) or term sheet. This article applies equally to all such agreements, regardless of name. The name of the agreement is not what matters, the content is.
You can read more about my work with commercial agreements on the Commercial relationships and contracts service page.
For LoIs, I generally recommend a contract risk assessment before signing.