When Do Liquidated Damages Become an Irrecoverable Penalty?
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The document summarizes guidelines from the case Makdessi v Cavendish for determining whether a contractual sum is an unenforceable penalty or a valid liquidated damages clause. It outlines seven guidelines from the case, including that a sum is more likely to be considered a penalty if it is extravagant compared to possible losses or applies to breaches of different types. It also notes that the guidelines have limitations and contracting parties have freedom to agree terms, making penalties difficult for courts to invalidate.
![The Author
Sarah Fox of Enjoy Legal Learning wrote this note. She is a speaker and trainer who cuts through the
complexities of construction law. She provides confidence to construction companies to read, use
and understand their contracts. She is also author of the 500-Word Contractâ˘.
To find out how Sarah can help you love your terms and conditions, contact her on: 07767 342747 or
by email: sarah@enjoylegallearning.co.uk
Footnotes
1
Makdessi v Cavendish Square Holdings BV & Anor [2013] EWCA Civ 1539.
2
Robophone Facilities Ltd v Blank [1966] 1 WLR 1428, Workers Trust & Merchant Bank Ltd v Dojap Investments Ltd
[1993] AC 573, Dunlop Pneumatic Tyre Company Ltd v New Garage and Motor Company [1915] AC 79, Alfred
McAlpine Capital Projects Ltd v Tilebox [2005] EWHC 281, Philips Hong Kong Ltd v Attorney General of Hong Kong
[1993] 61 BLR 41.
3
Paragraph 71.
4
Paragraph 117.
5
Paragraphs 72-75.](https://image.slidesharecdn.com/noteonpenaltiesvlads-140320090152-phpapp02/85/When-Do-Liquidated-Damages-Become-an-Irrecoverable-Penalty-2-320.jpg)
When Do Liquidated Damages Become an Irrecoverable Penalty?
- 1. How the Courts Decide Whether a Sum is a Penalty or Genuine Pre-Estimate of Loss Makdessi v Cavendish1 provides a useful summary of the law on interpreting sums in contracts as irrecoverable penalties or deductible liquidated damages After making reference to the key authorities on liquidated damages2 , Lord Justice Clarke set out the guidelines for determining whether the clause is a genuine pre-estimate:3 Guidelines i) A sum will be penal if it is extravagant in amount in comparison with the maximum conceivable loss from the breach; ii) A sum payable on the happening or non-happening of a particular event is not to be presumed to be penal simply because the fact that the event does or does not occur is the result of several breaches of varying severity; iii) A sum payable in respect of different breaches of the same stipulation is not to be presumed to be penal because the effect of the breach may vary; iv) The same applies in respect of breaches of different stipulations if the damage likely to arise from those breaches is the same in kind; v) But a presumption may arise if the same sum is applicable to breaches of different stipulations which are different in kind; vi) There is no presumption that a clause is penal because the damages for which it provides may, in certain circumstances, be larger than the actual loss; and vii) Where there is a range of losses and the sum provided for is totally out of proportion to some of them the clause may be penal. He also said that even where the amounts were not genuine pre-estimates of loss, and were extravagant and unreasonable, this was ânot necessarily conclusive. A commercial justification may mean that a clause which is not a genuine pre-estimate is not penal.â4 General Guidance He then stressed that there are limitations on the applicability of these guidelines003A5 1. The correct interpretation is fact and case dependent 2. Each of the guidelines is a rebuttable presumption 3. The wrong-doer has to prove that the term is penal based on the contract as a whole and the context in which it was made. 4. The court ârecognises the utility of liquidated damages clauses and that to hold them to be penal is an interference with freedom of contract. It is, therefore, predisposed to uphold clauses which fix the damages for breach.â 5. âA pre-estimate does not have to be right to be reasonableâ. 6. The bargaining power of the parties does not mean the court cannot intervene Purpose of the Amount The court said that âthe fact that a payment on breach may not really be a pre-estimate of loss does not mean that it must be penal. If there is a good commercial justification for the provision that may be a ground for deducing that deterrence of breach was not the dominant purpose of the term.â Conclusion The starting point is that the parties have freedom to contract which means they can choose the terms on which they want to do business. You will have an uphill struggle to persuade the courts to allow you to avoid agreed terms.
- 2. The Author Sarah Fox of Enjoy Legal Learning wrote this note. She is a speaker and trainer who cuts through the complexities of construction law. She provides confidence to construction companies to read, use and understand their contracts. She is also author of the 500-Word Contractâ˘. To find out how Sarah can help you love your terms and conditions, contact her on: 07767 342747 or by email: [email protected] Footnotes 1 Makdessi v Cavendish Square Holdings BV & Anor [2013] EWCA Civ 1539. 2 Robophone Facilities Ltd v Blank [1966] 1 WLR 1428, Workers Trust & Merchant Bank Ltd v Dojap Investments Ltd [1993] AC 573, Dunlop Pneumatic Tyre Company Ltd v New Garage and Motor Company [1915] AC 79, Alfred McAlpine Capital Projects Ltd v Tilebox [2005] EWHC 281, Philips Hong Kong Ltd v Attorney General of Hong Kong [1993] 61 BLR 41. 3 Paragraph 71. 4 Paragraph 117. 5 Paragraphs 72-75.