Penalty provisions – when are liquidated damages unenforceable?

In the recent case of Paciocco & Anor v Australia and New Zealand Banking Group Limited ("Paciocco") [2016] HCA 28, the High Court considered whether credit card late payment fees charged by a bank were considered to be penalties.

Where a contract specifies an amount payable to one party for breach of a contract term, often referred to as a liquidated sum, and that sum is not based on a genuine pre-estimate of the damage suffered by the breach, the clause can be deemed a penalty, and unenforceable. The clause must reflect a negotiated level of risk that the parties agree to bear on breach of contract. Differentiating between a liquidated sum and a penalty, will be a matter of construction, judged at the time of contract formation.