Liquidated Damages Clause

Simply put, liquidated damages are one type of actual damages that may be awarded in a breach of contract claim. A very common example of this would be in the construction industry. Construction workers are usually hired to perform a specific job within a specific period of time. However, there are many occasions in which projects may be delayed.

Liquidated damages are the amount of monetary damages that contracting parties agree will be paid by the breaching party if the event of a breach. This specified amount is written into the contract in a portion known as a liquidated damages clause. A liquidated damages clause may be included in some contracts. 

This is a contractual provision which determines, in advance, the amount of damages that are to be paid if a party breaches the contract. What this means is that the parties agree upon the damages figure beforehand when negotiating the contract.

A liquidated damages clause sounds like it can be used as a penalty for a breach of contract, but it is not intended to be. Whereas a penalty is meant to be a punishment in case of a breach, liquidated damages are intended to serve as a sort of protection for both parties who have entered the contract should there be a breach.  

Liquidated damages clauses are generally enforceable, so long as the amount stated is reasonably proportionate to the contract’s subject matter. Such clauses are placed in contracts when the parties have difficulties calculating the exact measure of damages, in the instance of a breach.

What Is an Example of a Liquidated Damages Clause? When Is a Liquidated Damages Clause Not Allowed?

Liquidated damages clauses are most commonly used for contracts in which an uncertain amount of late fees must be applied. An example of this would be how a contract for a university dorm rental may state:

“Students who cancel their dormitory housing agreement after moving into their room shall pay liquidated damages amounting to $5.00/day for the remainder of the rental term (not to exceed $500.00).”

In this example of a liquidated damages clause, the damages are difficult to calculate. This is due to the fact that the university cannot easily predict when a student might default on their dorm agreement. A court will likely uphold such a clause if the $5.00 per day charge is considered to be reasonable, according to market value calculations.

Liquidated damages are allowed in a contract only if:

• The injury or amount of damages is uncertain;
• The amount of liquidated damages is reasonable, and is considered to be anticipated harm;
• The loss of amount of damages is difficult to prove;
• There is no other remedy that would sufficiently cover the damages; and
• The damages are served as a protection, rather than a penalty.

Liquidated damages clauses are not allowed under the following circumstances:

• The damages being requested are for an unconscionable amount. An example of this would be if the liquidated damages stated are disproportionate to the loss, or if the sum greatly exceeds a reasonable estimate of the actual damages;

• The liquidated damages are intended to punish a breaching party, rather than to compensate the non-breaching party for losses. Liquidated damages are generally not allowed to be punitive, but rather restorative; and

• The default was actually a simple delay in payment.

As such, even if a specific jurisdiction allows for liquidated damages clauses, the parties need to ensure that the clause follows the various requirements under contract laws.

How Are Liquidated Damages Enforced? What Are Some Examples of Enforceable Liquidated Damages?

Courts will often enforce liquidated damages clauses if the damages for breach of the contract will be difficult to estimate.  However, a court will not enforce a liquidated damages clause if the clause is unfair, or awards an excessive amount of money. Additionally, a court will not award liquidated damages if the contract is based on fraud or mistake. If a court determines that such a clause is unenforceable, the clause is considered to be void. As such, the non-breaching party may sue for other contract remedies.

To put it simply, any circumstance in which damages are difficult to anticipate and it is impossible to calculate how much a breached contract would cost, the parties would agree to set a fixed amount of damages in the contract. This is so if one party does in fact breach the contract, the other party can collect that amount of damages previously agreed upon. Generally speaking, the court will enforce the liquidated damages clause if the amount is reasonable and the damages are actually hard to prove.

Some examples of the most common enforceable liquidated damages include:

• Reasonable down payments;
• Reasonable proportions of the entire contract price, such as 10%;
• Damages that appear to be fairly calculated by the parties; and
• Uncertain amount of late fees if there was a delay.

What Else Should I Know About Types of Damages Available for Breach of Contract?

While “damages” generally refers to money awarded to a party who has suffered loss or injury, there are several different types of monetary remedies which may be awarded. Some types of damages commonly issued in a breach of contract case include:

• Compensatory Damages: These damages are the most common remedy in cases of breach of contract. This type of remedy is generally intended to compensate the non-breaching party for losses suffered as the result of a contract breach. Compensatory damages are not intended to punish the breaching party, but to make the injured party “whole again” under the law;

• Restitution: Restitution is often ordered so the breaching party must pay back the non breaching party. The intent of restitution is to restore the injured party to the position they were in prior to the contract’s creation. Because these damages are intended to restore the injured party to their original position, this does not include lost profits or earnings caused by the breach of contract;

• Nominal Damages: These damages are generally awarded when there was no real harm done as a result of the breach of contract. These are called “nominal” due to the fact that the amount of damages is usually very small; sometimes as little as $1.00. You might consider this more of a symbolic victory, or a matter of principal;

• Quantum Meruit: Quantum meruit refers to monetary damages that are awarded to a party for any performance prior to the other party’s breach of contract. An example of this would be if painters begin painting a house and complete the first three rooms. However, the homeowner decides that they do not want the painters to finish painting the rest of the house. The court could order that the homeowner is to pay for the work that was completed;

• Remedies in Equity: These remedies occur when the court orders a party to do something, rather than pay monetary damages. This could take many different forms, from cancelling the contract and releasing the parties from their responsibilities under the agreement, to specific performance; and

• Punitive Damages: These damages are intended to punish the offending party. They are not available in every situation, however. This type of damages is reserved for cases in which the other party has behaved in a morally reprehensible way, so that punishment is warranted. A simple misunderstanding is unlikely to result in punitive damages.

Do I Need to Hire a Lawyer for Assistance With a Liquidated Damages Clause?

Liquidated damage clauses allow disputing parties to recover losses in situations involving difficult to calculate damages. You should consult with a local  contract lawyer for assistance with liquidated damages clauses. 

An experienced and local contract attorney will be best suited for helping you understand your state’s laws regarding contracts and available damages. Your attorney can also help you draft and review the clause for accuracy, and represent you in court as needed.