Damages- Liquidated Damages and Unliquidated Damages

Damages imply a kind of compensation which the defaulting party pays to the aggrieved party because of a breach of the contract or losses suffered.

Liquidated Damages- At times, the parties to the contract decide a reasonable compensation payable at the time of the breach of contract beforehand which is called liquidated damages. So, in simple language these are pre-determined damages that the parties agree to pay each other if they commit breach of contract. Construction contracts generally include a provision for the contractor to pay a pre-agreed amount of money that is set out in the contract, that fixes the sum payable as damages, if the contractor breaches the contract typically by failing to complete the construction works by the completion date set out in the contract. These are typically calculated on a daily or weekly basis. Damages are claimed in construction contracts inter-alia on account of the loss of profit, loss of opportunity, overheads, etc.,

Unliquidated Damages- On the other hand Damages that are determined by the court depending upon the losses suffered on account of breach of contract is unliquidated damages. Unliquidated damages are damages that are thus payable for a breach, the exact amount of which has not been pre-agreed.

One of the advantages of a liquidated damages is that there is no need to prove the actual loss since the clause provides a pre-estimate of the damages to be paid. In addition to helping recover damages, this helps to provide certainty to the parties. The advantage of unliquidated damages is that it allows for recovery of losses which may have been impossible to foresee or to estimate the breach in advance. It’s important to note that the liquidated damages serve as an estimate of the potential loss that might be incurred, in the event of a breach but it must be a reasonable estimate of the actual damages that the client would suffer in the event of a delay, not an arbitrary or punitive sum. Unliquidated damages, on the other hand, are more suitable for situations where the potential damage from a breach is uncertain or difficult to estimate at the time of contract formation. The law of damages in India is codified in Sections 73 and 74 of the Indian Contract Act, 1872. Section 73 provides for unliquidated damages and section 74 provides for liquidated damages.

Case Studies and Legal Precedents

The interpretation and application of liquidated and unliquidated damages have been shaped by numerous court rulings over the years. The following rulings provide valuable insights into the legal principles governing damages and their implications while seeking enforcement of contract.

Fateh Chand v. Balkishan Das (1963)

This landmark case by the Supreme Court of India clarified the interpretation of Section 74 of the Indian Contract Act, 1872. The court held that the section does not confer a special benefit upon any party; it merely declares the law that even if there is a stipulation by way of penalty, the court is not bound to award a greater amount than the reasonable compensation for the breach. The Fateh Chand case emphasizes that liquidated damages should represent a reasonable estimate of the potential loss from a breach, not a punitive measure.

Kailash Nath Associates v. Delhi Development Authority (2015)

In this case, the Supreme Court of India reiterated that the party claiming liquidated damages must prove that actual loss has occurred due to the breach of contract. The court also emphasized that liquidated damages cannot be awarded merely because they are stipulated in the contract.

Oil & Natural Gas Corporation Ltd v. Saw Pipes Ltd (2003)

This case clarified the concept of unliquidated damages in Indian law. The Supreme Court held that unliquidated damages could be awarded if the party claiming damages proves that actual loss has occurred due to the breach of contract.

The Kailash Nath Associates and Saw Pipes cases highlight the importance of proving actual loss in claiming both liquidated and unliquidated damages. This underscores the need for maintaining proper documentation and evidence to support a claim for damages.

J.G. Engineers Private Limited v. Union of India (2011)

In this case, at the time of extending the project completion date to execute the contract, the owner did not impose liquidated damages even though there was a provision in the contract and further allowed escalation of costs to the contractor and hence, the owner seems to have waived his right to claim liquidated damages. The Hon’ble Supreme Court held that Liquidated damages even though specifically mentioned in the contract will not be payable where the owner has waived his right to claim the same.

Liquidated damages cannot be claimed if it is proved that no actual loss was suffered by the breach as held by the Delhi High Court in Indian Oil Corporation Vs. M/s Lloyds Steel Industries Limited that mere delay in construction and commissioning of the terminal at Jodhpur by the contractor did not entitle Indian Oil Corporation to get Liquidated Damages as no actual loss was suffered by the corporation.

Conclusion

There is no express statutory bar in India against contractually excluding or limiting liability for damages. However, Section 23 of the Indian Contract Act provides that the consideration or object of an agreement is unlawful if it is of such a nature that, if permitted, it would defeat the provisions of any law or if the court regards it as immoral or opposed to public policy. While the terms of the contract play an important role as the same is executed by the parties thus submitting to a legally binding contract. Over the period of years, we have seen that Courts are more likely to scrutinize exclusion or limitation of liability clauses in contracts where there is an imbalance of bargaining power between the parties and If Court finds that an exclusion or limitation of liability clause is unfair, unreasonable or in contravention of public policy, it will be struck out of the contract and compensation will be granted. Courts are only willing to enforce liquidated damages clauses in construction contracts, if the same are reasonable and not disproportionate to the actual losses that could be incurred and are not a penalty.