Letter of Intent vs. Memorandum of Understanding: What’s the Difference?

Reviewed by Charlene RhinehartReviewed by Charlene Rhinehart

Letter of Intent vs. Memorandum of Understanding: An Overview

A letter of intent and a memorandum of understanding are both non-binding documents that outline or establish an agreement by two parties to work toward a mutual goal. However, they are generally used in different situations.

Letters of intent lay out the basics of a deal, including cost, time frame, and contingencies. A letter of intent generally includes more information than a memorandum of understanding. It can vary in length according to the level of specificity and the type of transaction.

A memorandum of understanding (MOU) is generally a shorter and simpler document. It lays out the intent of two parties to enter into negotiations and defines the scope of talks. It is usually produced before a final, formal contract.

Neither term has a strict legal definition, so they are sometimes used interchangeably.

Key Takeaways

• A letter of intent (LOI) declares the preliminary commitment of one party to do business with another and the starting terms that have been agreed on.
• A memorandum of understanding (MOU) communicates the expectations of all of the parties involved in a negotiation or preliminary agreement.
• A letter of intent is not typically binding but at least one U.S. court has held that it can be under specific circumstances.
• A memorandum of understanding is not legally binding but may carry weight in court depending on its terms and the parties’ stated intention.
• Both an LOI and an MOU can later be used as the foundation of a formal contract, which is legally binding.

Letter of Intent

A letter of intent is a document that’s often used in mergers and acquisitions. It records the preliminary terms of an agreement. The broad terms outlined in a letter of intent are used as a starting point for a business arrangement. These terms are usually clarified further in a contract.

Letters of intent are typically drafted by a company’s legal team, and there may be several iterations as the two parties work to agree on the broad scope of their agreement. They are used to:

• Announce an intent to enter into an agreement, such as with a joint venture
• Protect both parties by establishing conditions under which the deal will and will not go forward
• Clarify what points must still be negotiated

Letters of intent may include a variety of clauses, such as a non-disclosure agreement (NDA). They may also specify financing requirements that one or both parties must meet for a final agreement to be reached.

Important

A letter of intent is not typically binding but one U.S. court ruled otherwise in a 2019 decision.

Letters of intent can be used in situations other than business. Parents may use a letter of intent to establish who will care for their children if both parents die. They are also frequently used in grant applications.

Memorandum of Understanding

A memorandum of understanding (MOU) is an agreement between two or more parties outlining the terms and details of an understanding, including each party’s requirements and responsibilities. It is often used as a starting point for formal negotiations, stating both parties’ intent to enter into talks and outlining the scope of those talks.

An MOU usually addresses the:

• Goals and intentions of both parties beginning negotiations
• Timeframes and deadlines for a negotiation or transaction
• Price and method of payment for a planned business transaction

Note

MOUs are often used in international relations because they can be produced relatively quickly and in secret. They may be drafted as the precursor to formal treaties.

Like a letter of intent, a memorandum of understanding is often the first stage in the formation of a formal contract. It doesn’t involve the exchange of money. An MOU is generally not legally binding. However, they may carry weight in a court of law depending on the language used and the stated intentions of both parties.

Term Sheet

The terms memorandum of understanding and letter of intent are often used interchangeably, with little legal differentiation between the two. Another similar type of document is a term sheet, which is also a non-binding document that lays out the basic terms of a negotiation or agreement.

A term sheet can sometimes be called either a letter of intent or a document of understanding, depending on how the parties are using it. However, a term sheet is generally written as an actual list.

All three types of documents are used as the precursor to a formal and legally-binding contract.

Other Terms and Conditions

Other aspects that may be included in a letter of intent or a memorandum of understanding include:

• Warranties of marketable title
• A list of total liabilities and total assets
• The operating condition of all equipment and machinery at the time of purchase

The letter of intent or memorandum of understanding may outline stipulations for the operation of the business until the date that the business is sold. Both may also include a clause known as a drop-dead date. This is a point in time when the parties agree to discontinue negotiations if they haven’t yet reached an agreement.

What Contingency Clauses Should Be Included in a Deal?

Common contingencies include those for licensing, financing, appraisal, and compliance. They can protect your goals and intentions or they can provide you with a legal door out if they’re not met.

Can Terms Be Changed Between a Letter of Intent and an MOU?

At least one U.S. court has held that letters of intent can be binding contracts but issues that haven’t yet been resolved in the document can still be addressed. The catch is that they should be marked as unresolved in the original letter of intent. An MOU can’t or shouldn’t be entered without resolution. Both documents should identify any terms that must reach a resolution before the deal is completed.

Can a Deal Fall Through After an MOU Has Been Signed?

Yes. A memorandum of understanding is a non-binding agreement between the parties, at least initially. This changes if and when an offer is legally accepted, if it includes a legally binding intention, and if consideration is offered. An MOU is typically a preliminary step toward negotiation of these finer points and sometimes even larger issues.

The Bottom Line

An MOU is often the same as a letter of intent under U.S. law. A memorandum of understanding, a memorandum of agreement, and a letter of intent are virtually indistinguishable based on American case law. All communicate an agreement on a mutually beneficial goal and a desire to see it through to completion.

Both types of documents are used in business arrangements, such as mergers, acquisitions, and other large deals. They’re also used by many U.S. and state government agencies, particularly when major contracts or grants are in the planning stages. MOUs also may be used by governments as a precursor to negotiating a formal treaty.

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