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Liquidated Damages and Penalty Clauses: Practical Considerations

08 Sep 2017

In this article, Jan Rzedzian, construction lawyer at Hay & Kilner, provides practical tips for contractors and employers when drafting or negotiating clauses relating to the provision of liquidated damages in a building contract.

Provision for liquidated damages is commonly provided as an option in the standard form contracts including the two most regularly used: JCT and NEC.

Whilst the option for inclusion of liquidated damages is there for users of most of the standard form contracts, parties must take care when doing so. If, for example, the liquidated damages entry is not completed and no figure is stated then liquidated damages will not apply and the Employer can claim actual loss for late completion. On the contrary, where the relevant clause is completed with the word ‘nil’ or similar wording then the effect is that the parties had agreed that there should be no damages at all for delayed completion. In other words, not only could the Employer not claim for liquidated damages but he could not claim for actual loss either. One seemingly innocuous word could have far-reaching and potentially very costly repercussions for the parties.

Practical Tips for Employers

  • Keep evidence of the way in which the figure for liquidated damages was calculated. This may help to avoid the suggestion that the clause was a penalty clause if there is a dispute at a later date. In view of the recent cases, it would be prudent to specify in the contract any commercial interests that may affect the level of the liquidated damages figure.
  • If there is to be sectional completion under the contract, separate liquidated damages figures should be inserted to reflect each of the sections.
  • If the parties do not wish to include a liquidated damages figure in the contract then do not include the words ‘nil’, ‘none’ or ‘zero’ in the appendix or contract particulars.
  • Bear in mind that if there is no liquidated damages figure included in the contract, a claim for damages for breach of contract can still be made for the actual loss suffered.
  • When seeking to apply liquidated damages, ensure compliance with any procedural requirements in the contract.

Practical Tips for Contractors

  • A prudent contractor may seek to ensure that the program has spare capacity to cater for potential delays.
  • Seek to negotiate to minimise the figure so if you are delayed the consequences are not as drastic.
  • If liquidated damages are to be imposed upon the Contractor by the Employer, the Contractor should seek to ensure a similar figure is included in any subcontract to enable the Contractor to pursue financial recovery from a subcontractor.
  • Don’t forget to apply for an extension of time in accordance with the contract provisions to extend the date of practical completion if the delay is not your fault.
  • Clarify with the Employer that the figure is all-embracing and includes all commercial interests to satisfy the recent case law.

Whilst it may initially seem that liquidated damages are essentially an Employer’s remedy, there are strong arguments that they can benefit both parties. The benefits to the Employer are clear as the Employer can be certain to recover a fixed sum as soon as the completion date has been missed by a defaulting Contractor and there is no requirement to prove actual loss.

What may be less obvious is that liquidated damages can also have their advantages for Contractors. Typically, liquidated damages provide the Employer with an exhaustive remedy for any delay to completion and, as such, the Contractor will have the benefit of knowing at the outset of the project the precise figure it will have to pay if it cannot complete the works by the completion date. Indeed, a savvy Contractor will seek to negotiate the rate of liquidated damages and then factor the risk of late completion in its tender.

For further information, please contact Jan Rzedzian, Associate Solicitor in the Construction Team at Hay & Kilner

Call: 0191 232 8345

Email: Jan.Rzedzian@hay-kilner.co.uk