Liquidated Damages 101

Many construction contracts—and the parties that enter into those contracts—include specific contract provisions which seek to mitigate or shift risk. One such provision to a construction contract is the liquidated damages provisions, which may seem odious at first glance but may provide benefits to the parties who include them.

What are Liquidated Damages?

The first thing to understand about liquidated damages provisions is what exactly they are. Liquidated damages provisions are contract clauses that seek to avoid the difficult task of proving loss due to a failure by a contracting party to adhere to specific performance conditions. In the context of a construction contract, liquidated damages clauses typically specify a daily sum that a contractor will be charged for each day the project is delayed past the project completion date and any extension. In some—rare—cases, these provisions can be reciprocal. ¹

New York Law on Liquidated Damages

There are some limitations on the use and validity of liquidated damages clauses, specifically, in New York, liquidated damages clauses are enforceable so long as they are not attempts to penalize a party. To ensure that the liquidated damages clause is enforceable, the liquidated damages amount must bear a reasonable relationship to the amount of damages that may be sustained. If there is no reasonable relationship between the actual damages sustained and the liquidated damages amount, the liquidated damage amount is considered a penalty and is unenforceable. Additionally, to ensure that a liquidated damage clause is sustainable, the actual damages must be difficult to determine, and the assessed liquidated damages amount must not be disproportionate to the possible loss.

How Can Liquidated Damages Hurt a Contractor?

From the simple definition above, liquidated damages provisions can be daunting, as most contractors are aware that delays are commonplace on most construction projects. In many cases, liquidated damages provisions can be harmful where a contractor faces significant delays. Typically, liquidated damages are assessed against the contractor where they are delayed from achieving substantial or final completion by a specified date. However, in many instances, delays suffered by a contractor on a project can be the result of delays that may be outside of a contractor’s control, such as delays faced by downstream material suppliers. Even if that is the case, a contractor may still be required to pay liquidated damages to the upstream owner.

How Can Liquidated Damages Help a Contractor?

Based on the above, liquidated damages seem detrimental to the parties that include them as provisions in their contract. This may be true on the surface but, liquidated damages clauses can provide significant benefits to contractors.

Aside from the obvious—but rare—examples where liquidated damages clauses are reciprocal, there is another latent benefit of liquidated damages clauses that benefit contractors. Namely, liquidated damages clauses will not be enforced where its enforcement would be unjust or unconscionable. Normally, where the owner is responsible for a portion of the delay the proper remedy is an extension of the project completion time. These time extensions serve to delay the project completion deadline and stall the accrual of liquidated damages.

In addition, a liquidated damages clause provides an easily identifiable number for both parties to understand the risk of failing to complete the project within the required timeline. Viewed from another angle, a contractor who has an upstream liquidated damages clause can foresee the costs of project delays and can mitigate that risk throughout the course of the project. Additionally, the parties who include a liquidated damages provision in their contract can avoid the time and costs associated with calculating actual damages after the project is completed.

Conclusion

Liquidated damages clauses can be both a benefit and a detriment to contractors who have those provisions included in their contracts. Consult with a construction law attorney before taking action, which may be detrimental.

 

¹ Where the contractor pays the owner liquidated damages for each day that a project is delayed and the owner pays
the contractor a bonus for each day that the project is completed prior to the specified completion date.

If you would like more information regarding this topic please contact Giovanni Care at gcare@wbgllp.com or call (914) 607-6437