We're sure you've spent many sleepless nights
wondering about liquidated damages. Well, now you can banish
insomnia for good. We take you through all the things you need to
know about liquidated damages provisions in contracts and what to
do if you come across one.
Liquidated damages are a fixed sum payable to a party to
compensate it for a specific breach or failure by another party.
While typically found in the mystical realm of construction
contracts, LD clauses are starting to appear in all sorts of
commercial contracts including manufacturing agreements and those
for the provision of goods and services.
Liquidated damages are designed to compensate an injured party
for a specific breach – not to penalise the defaulting party
or deter it from breaching the contract. Liquidated damages need to
be a "genuine preestimate of the loss" that is likely to
be suffered by a party as a consequence of a breach. If it
isn't, then the obligation to pay that sum will be considered a
"penalty" and be nenforceable. The sum of LDs needs to be
properly calculated and well thought out – just because you
say it's a "genuine preestimate" doesn't mean it
Once the parties have agreed to the level of liquidated
damages, the injured party only needs to show that a breach or
failure has occurred for that agreed sum to be payable.
Liquidated damages are particularly handy where services are
time critical or interdependent with other things. Say you've
contracted with a web developer to build your new e-store.
You've booked tonnes of media to promote the launch. One
consequence of the e-store not being delivered on time is the cost
of cancelling all that media. You could include in the contract a
specific amount to reimburse you for those costs if the project is
late. That's a liquidated damage. You might be late in
finishing your project, but at least you won't be out of
The payment of liquidated damages doesn't automatically
prevent an injured party from making a claim for further damages.
If you're up for paying liquidated damages, make sure that
these are the other party's sole and exclusive remedy for that
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We discuss whether certain clauses commonly found in ordinary commercial contracts could be considered to be penalties.
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