Liquidated Damages Law – A Change On The Way?

The Supreme Court of Canada will hear an appeal from a recent Alberta judgment that may result in a change to the law of liquidated damages in Canada.

Parties to a commercial contract may try to predict the financial consequences of a breach of contract and agree on a set formula of compensation to be paid to the innocent party. These are called "liquidated damages" clauses.

Canadian courts have expressed a willingness to enforce these arrangements if they represent a good faith attempt to pre-estimate losses. These clauses can be commercially beneficial. They allow parties to avoid the uncertainties of litigation, while motivating the timely fulfilment of obligations.

However, if the compensation to be paid is disproportionate to a party's actual losses, the courts will deem such clauses unenforceable per the longstanding "penalty rule." The penalty rule provides that a liquidated damages clause is unenforceable if it is not a genuine pre-estimate of damages.