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A. Kinds of illegal contracts: There are many kinds of illegal contracts, ranging from those that are explicitly barred by statute, to those that are rendered illegal only by judicial decisions that they are “against public policy.” See Rest. 2d, § 178. (The Restatement does not use the term “illegal,” but refers to such contracts as unenforceable on grounds of public policy. See Ch. 8, Topic 1, Introductory Note.) Because the effects of illegality on contractual recovery are more important to the contracts student than a cataloging of the various kinds of illegal contracts, we summarize here only a few classes of illegal contracts:

1. Gambling contracts: Contracts involving wagering are generally held illegal, and thus unenforceable. The most common types of unenforceable gambling contracts are: (1) a bet between the plaintiff and the defendant (that is, the court will not allow the winner to sue the loser to collect on the bet); and (2) contracts involving the lending of money which the lender knows will be used for gambling (e.g., a casino that gives credit to one of its customers may ordinarily not recover against the customer, absent special legislation allowing casinos to do so—but such legislation exists in the few states that have legalized casino gambling).

a. Legality of underlying wager: The legality of a particular wagering contract will generally depend on whether the underlying wager is made a crime. For example, in a state where lotteries are run by the government, an agreement between two people that they will share ownership of what turns out to be a winning ticket will normally be enforced, whereas an agreement by two people to share ownership of an entry in an illegal numbers game would presumably not be upheld because the underlying wager itself is illegal.

2. Contract to buy an illegal business: Contracts relating to the ownership or operations of a business that both parties know or should know is principally engaged in illegal operations generally will not be enforced. For instance, a contract to purchase a business which the buyer knows to be a criminal enterprise typically will not be enforced against either party.

Example: D agrees to purchase from P a corporation that is mainly in the business of manufacturing drug paraphernalia, such as bongs and roach clips. D signs promissory notes as part of the purchase price, then fails to pay on them. P bring suit on the notes.

Held, for D, on grounds of illegality. There is a strong public policy against manufacturing paraphernalia that facilitates the use of an illegal drug. “Refusal to enforce the instant contract will further that public policy not only in the present circumstances but by serving notice on manufacturers of drug paraphernalia that they may not resort to the judicial system to protect or advance their business interests.” Bovard v. Amer. Horse Enterprises, Inc., 247 Cal.Rptr. 340 (Cal. App. 1988).

3. Usurious contracts: Every state has its own usury statute, under which the legal rate of interest for particular kinds of loans is limited to a specified figure. A contract calling for interest to be paid above the legal rate is generally unenforceable (and the creditor cannot recover even a lower, legal, interest rate).

a. Limits: But the usury laws of most states apply only to loans made to individuals, not to those made to corporations. Furthermore, most statutes do not apply to purchase money mortgages, whereby the seller of real property gives the buyer credit, and retains a security interest in the property. In many but not all states, the usury statutes apply to retail installment credit sales, i.e., purchases made “on time.”

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