Liquidated Damages

Contracting parties may agree on liquidated damages for breaches of agreement. Contracts often include provisions on liquidated damages. Liquidated damages are compensation agreed in advance for breaches of the contract or defined provisions of it. Liquidated damages may also be used as a consequence of delay by agreeing that the penalty will increase in percentage, e.g. for every week that the delivery is delayed.

The advantage of liquidated damages is that there is neither a need to establish nor to prove the actual amount of loss. It is sufficient that a breach of contract has occurred.

The party’s obligation to pay liquidated damages is not based on any legislation but on the agreement between the parties. Consequently, the agreement must include a provision of liquidated damages if the parties want to include liquidated damages as a consequence for breaches of agreement.

The best preventative action is to set the amount of liquidated damages high enough. An amount too small does not act as a deterrent to large companies. On the other hand, excessive liquidated damages might pose an impossible financial burden for a small company.

If the losses exceed the amount of the liquidated damages the other party may have the right to demand damages. For the avoidance of doubt, this should be expressly mentioned in the contract. Likewise, a contract may provide that the liquidated damages constitute the only consequence of a breach of contract and therefore replace other damages.