Liquidated Damages is defined as “a sum which a party to a contract agrees to pay or a deposit which he agrees to forfeit if he breaks some promise and which, having been arrived at by a good faith effort to estimate in advance the actual damage which would probably ensue the breach, are legally recoverable or retainable as agreed damages if the breach occurs.”
A Penalty
A penalty is defined “a sum which a party similarly agrees to pay or forfeit in the event of breach, but which is fixed not as a pre-estimate of the probable actual damages but as punishment, the threat of which is designed to prevent the breach.”
. Legal Stand
For courts and lawyers, the problem of having either of the following cases has not been dealt with consistently
* An actual loss, as a result of late completion, being nil or less than the amount stipulated in the Liquidated Damages clause.
* An actual loss, as a result of late completion, being far greater than the amount stipulated in the Liquidated Damages clause.
In the United States, the courts tend not to enforce the Liquidated Damages clauses when the stipulated amount exceeds the actual loss, as it has seemed to them that in the case of breach of contract, Justice requires nothing more than compensation by the amount of the harm suffered…therefore, courts have created a limitation on freedom of contract. (CORBIN on Contracts Vol.5, PAR1057)
The courts in England and Australia are more inclined to honor freedom of contract, enforce the clauses of the contract regardless of the actual loss, after testing foreseeability of the “genuine pre-estimate of loss”
If the Liquidated Damages clauses are held to be a penalty and therefore void, the general rule in England is that the clause may be completely disregarded, and the Employer may sue for actual damages, which may exceed the sum stated in the Liquidated Damages clause. Famous Delay Cases:
Below, some cases are briefed where the Legal Stand in respect of Liquidated Damages is shown to have varied under different laws.
The Galoo Case (UK)
The principles underlying the award of liquidated damages as considered by the Court of Appeal in Galoo v. Bright Graham Murray[1995], where the issue in the Galoo case was whether a firm of accountants and auditors were liable for the trading losses incurred by a company which had continued to trade relying upon the negligent audit work done by the firm. No doubt it could be proved that if the firm had done its work properly the company would have stopped trading and therefore would have avoided the subsequent trading losses The question was whether this was enough to establish the causal link between the breach of contract (i.e. the careless audit) and the loss complained of. The Court of Appeal held it wasn’t. “
…if a breach of contract by a Defendant is to be held to entitle the Plaintiff to claim damages, it must first be held to have been an “effective” or “dominant” cause of his loss. It is necessary to distinguish between a breach of contract, which causes a loss to the Plaintiff, and one that merely gives the opportunity for him to sustain the loss.
The case, though not directly a construction dispute case but it raised the question of the legitimacy of a default by one party to a contract, to the other party’s default.
The St. Jones College Case (Australia)
It is worth mentioning the St. Jones college case, where the Australian contractor could not be relieved from his initial agreement to complete the works on time, on the grounds that the delay was not his fault.
The Utley James Case (US)
In the case of Utley James, the court in the United States did not assess the contractor with responsibility for delay that did not affect the critical path.
