Contracts are not always honored. Breaches do occur and if you are a business owner it is an important possibility to plan for. While we put contracts in place hoping to see them fulfilled, there is always the chance that one or both parties to the contract will not uphold their end of the deal. In the event of a contract breach, the legal system provides various mechanisms for either enforcing the contract or for compensating the party impacted by the other party’s breach. Enforcing a contract or seeking damages sustained due to a breach of contract, however, can lead to some rather involved and costly litigation. In order to avoid the need for time-consuming, expensive court proceedings, you may want to consider inserting a liquidated damages clause in your business contracts.
Liquidated Damages Clauses in Business Contracts
A liquidation damages clause is a provision that can be included in a contract which requires a party who breaches the contract to pay a set amount to the other party. This payment is made to compensate the other party for the breaching party’s failure to perform contractual obligations. Liquidated damages are not meant to be punitive in nature. Liquidated damages are intended to compensate the party for harm suffered due to the other party’s breach and are not meant as a penalty for the breach itself.
You may, however, be hesitant about a liquidated damages clause as you wonder how you could determine what amount would suffice as liquidated damages. One of the difficulties of liquidated damages clauses is, of course, determining what the set amount should be for the damages award. In considering what amount should be paid out in the event of the breach, you will want to consider what the value is of the services to be performed pursuant to the contract. You will also want to consider estimated damages that one party or the other may suffer should a breach occur.
If you are entering into a contract where the amount of actual damages related to a potential breach may be challenging to calculated, a liquidated damages provision in the contract may be most helpful. Afterall, the mor speculative or difficult to calculate damages may be should a breach arise, the more likely there is to be extensive litigation resulting from a breach. By using a liquidated damages provision that both parties to the contract agree on, the damage award has already been set and, therefore, the need for extensive litigation can be circumvented.
In should be noted, however, that a liquidated damages provision in Texas will only be enforceable if the amount of liquidated damages is considered to be a reasonable approximation of just compensation for the non-breaching party. A court will look to a number of factors should the reasonableness of liquidated damages be called into question. The relative bargaining powers of the parties to the contract, for instance, will be considered.