A Case on Liquidated Damages versus Penalties in Contracts
The Alberta Court of Appeal recently looked at the difference between liquidated damages versus penalty clauses in contracts in the case of Bidell Equipment LP v Caliber Midstream GP LLC, 2020 ABCA 478. Liquidated damages are basically a set sum of money agreed to as a fair estimate of what a breach will be cost. Penalties are designed to punish a party who breaks a contract. The distinction between the two concepts is very fine. The court said at 23:
 Courts have enforced contract provisions that are a bona fide pre-estimate of damages suffered on breach or non-performance of a contract. These are commonly known as liquidated damages clauses. Conversely, courts have refused to enforce penalty provisions, which are essentially designed to deter a party from breaking a contract, irrespective of the anticipated loss. But a more fundamental issue here is whether this analysis applies at all to the present appeal. We say it does not. This analysis only applies on breach or non-performance of the contract; it does not apply to a conditional event that is governed by the contract.
and at 26:
In Cavendish Square, the Court stated that the true test for a penalty “is whether the impugned provision is a secondary obligation which imposes a detriment on the contract-breaker out of all proportion to any legitimate interest of the innocent party in the enforcement of the primary obligation”: para 32. The Court held that the penalties doctrine was only engaged where there had been a breach of contract. In other words, the only provisions at risk of being an unenforceable penalty are those that, in substance, are conditional on a breach of contract.
The Court of Appeal found that the clause in issue was a liquidate damages clause and not a penalty clause, saying at 29:
This is not a situation of breach of contract, but the enforcement of the contract on the terms set out in the contract; in essence a debt claim.
The difference between liquidated damages and penalties is very difficult to determine. If you require assistance in determining this difference, please feel free to contact us.
The information contained in this article is not legal advice. No solicitor client relationship is formed through this article. The reader is encouraged to retain counsel for advice in these matters.