How are liquidated damages calculated?
Liquidated damages are paid by the contractor or deducted by the employer at the specified contractual rate from the contractual completion date (as extended) until the works are actually completed.
What are the purposes of liquidated damages?
The principal purpose of liquidated damages is certainty as to the amount of compensation to be paid to the employer for delay. In addition liquidated damages are generally regarded by the courts as advantageous to both the employer and the contractor because:
• the actual loss caused by a delay is notoriously difficult and costly to quantify; and
• the payment of liquidated damages means that there will not be expensive disputes as to the nature and extent of the actual loss.
Can the employer ever recover more than the stipulated rate of liquidated damages?
The employer cannot recover more than the rate stipulated in the contract because that rate is treated as an ‘exhaustive’ remedy for delay regardless of the nature and extent of the losses actually suffered. No valid distinction can therefore be made between delay to the completion of the works caused by:
• the contractor (simply) failing to maintain an adequate rate of progress; and
• any other breach by the contractor, for example defective work taking time to be remedied.
When will a liquidated damages clause not be enforceable?
Liquidated damages clauses will not been enforceable in a number of situations, for example when:
• the contractual rate of liquidated damages is a ‘penalty’;
• the employer causes delay without the contract conferring the right to an extension of time for that particular cause; or
• a contractual requirement for the valid deduction of liquidated damages is not met – for example when a certificate of non-completion is not issued (as it should be) under the JCT standard form of contract.
When will the contractual rate of liquidated damages be a ‘penalty’?
The essence of liquidated damages is that the agreed contractual rate is a ‘genuine’ (i.e. objective) pre-estimate of the loss likely to be suffered by the employer in the event of delay.
The contractual rate of liquidated damages will be a ‘penalty’ (and therefore unenforceable) where it is ‘extravagant and unconscionable’ in comparison with the greatest actual loss which the employer could conceivably have suffered. In practice the courts are generally inclined to uphold liquidated damages clauses unless the contractor can establish that there is a substantial discrepancy between the specified contractual rate and the loss likely to be sustained by the employer.
The contractual rate of liquidated damages will not be a ‘penalty’ simply because:
• it is possible to identify situations in which the liquidated damages would be larger than the actual loss sustained; or
• a precise pre-estimate of the actual loss likely to be suffered is impossible. In other words the pre-estimate does not have to be right to be reasonable.
Can the employer recover compensation for delay if the liquidated damages clause is not enforceable?
The employer does not lose its entitlement to damages for delay simply because the liquidated damages clause is not enforceable. Instead the employer may claim its actual loss caused by the delay (in the form of ‘unliquidated’ or ‘general’ damages). The courts have not definitively decided whether the employer may recover more than the contractual rate if its actual loss is greater than that rate. However, it is generally thought that the employer will not be entitled to do so.
Please note: These key points are only intended to give general guidance and are no substitute for specific legal advice on any given situation.