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A common concern when drawing up a construction contract (as
with most contracts) is what happens if a party fails to
comply with their contractual obligations? One possible
answer is that they’ll be ordered to pay compensation in the
form of liquidated damages. You may have encountered this term
before, but might not be 100% clear on what it means (don’t
worry if this is the case, you’re in good company). Let’s
have a look at how this type of damages works, and how it differs
from its counterpart – unliquidated damages.
SO, WHAT ARE UNLIQUIDATED DAMAGES?
Unliquidated damages are a form of compensation – the
value of which hasn’t been predetermined contractually –
awarded to a party for a loss suffered because of another
party’s actions (or inactions). The value of this type of
damages is “at large”, meaning the amount isn’t
stated explicitly in a contract. Instead, the amount of these
damages are determined through the courts by a judge or jury,
following a breach of the contract. While harder to prove than
liquidated damages, they allow for recovery of losses that are
impossible to foresee or estimate with any certainty before the
breach occurs.
For example, if a building company failed to complete a project
to the specifications outlined in the contract, leaving their
client to demolish and rebuild, they may be liable for uncapped
unliquidated damages commensurate with the total cost of
remediating the work.
WHAT ARE LIQUIDATED DAMAGES?
Liquidated damages (also known as agreed damages) involve a
predefined or ascertainable sum of money to be paid from one party
to another, in the event of a breach of a clause stipulated within
the contract. These amounts should be genuine estimates of any loss
that would be incurred by the aggrieved party resulting from a
breach by another party. In liquidated damages claims, there is no
onus to prove losses, only that the relevant clause has been
breached.
A common way liquidated damages are used in construction
contracts is by setting a specific sum per day payable to the
property owner for delays in the completion of a project past the
agreed-upon date. In some cases the amount paid per day will be
calculated as a percentage of the contract price.
WHAT ARE THE LIMITATIONS OF THESE TYPES OF CLAUSES?
Because liquidated damages are based on the principle of fairly
compensating an innocent party in the event the other party fails
to comply with their contractual obligations, they cannot be
applied in a punitive manner. If the amount set out to be paid as
liquidated damages is judged by a court to be extravagant or
unconscionable, they may not be enforced (even if both parties have
agreed to it in the contract).
THE BENEFITS OF LIQUIDATED DAMAGES TO THE CONSTRUCTION
INDUSTRY.
Ultimately, liquidated damages can be mutually beneficial to
property owners and the contractors providing them construction
services. For the owners, they bypass the need to undertake
inquiries to determine the actual loss or damage suffered,
defaulting to a reasonable, predetermined amount. For contractors,
they offer the safety net of limited and certain financial exposure
in the event of breaches.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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