To Overreach? That is the Question

There is a tendency, particularly when one of the bargaining parties has the upper hand, to reach for the stars in contract negotiations. Sometimes this backfires. A recent New York State Court of Appeals case illustrates the point. In Van Duzer Realty v. Globe Alumni Student Assistance, the court refused to award a landlord liquidated damages equaling the accelerated unpaid rent and, in addition, give the landlord possession of the property. The lease allowed the landlord liquidated damages equaling the undiscounted, accelerated rent for the balance of the term, even though the landlord could take possession of the property and re-rent the space. The Court sent the matter back to the trial court to determine whether or not the liquidated damage (the accelerated rent) was so disproportionate to any actual loss that might be suffered by the landlord under these circumstances, that should be deemed a penalty and, therefore, completely unenforceable.

Construction contracts often contain liquidated damages clauses. However, if the party resisting the imposition of liquidated damages can demonstrate that their calculation imposes damages so disproportionate and removed from the claiming party's actual losses, the clause will not be enforced at all.

As a general proposition, a liquidated damage clause resulting from an arm's length negotiation between sophisticated parties, in relatively equal negotiating positions, will be enforced by the courts. These clauses are viewed as a rational way to fix actual breach of contract damages that are often very hard to ascertain with certainty. The parties' attempt to fix a reasonable measure of the damages incurred saves time, effort and money for the parties and the courts since damages are reduced to a fairly simple calculation on a per diem or other time unit basis.

Recognizing, however, that under some circumstances, these contract provisions are grossly unfair, the court's usual inclination to enforce such agreements is tempered if the liquidated damages are so grossly disproportionate to what might be the actual damage incurred. They are considered a penalty and, therefore, against public policy and will not be enforced. If triggered by a very trivial or nonmaterial breach, liquidated damages will not be recognized, either.

It matters, then, how the parties fix liquidated damages in a contract. The parties must make a reasonable effort to establish a measurement that has a basis in reality. Too often, liquidated damages equal amounts which could never be remotely supported by an analysis of the actual damages incurred. Consequently, instead of the assurance and the leverage often obtained by a valid liquidated damages clause, the party relying on that clause is unpleasantly surprised when it is deemed wholly unenforceable.

The Lesson: It is better to agree upon a reasoned, reasonable and, therefore, enforceable liquidated damages clause upon which the parties may rely rather than attempt to bind parties to oppressive clauses and end up without the benefit of any liquidated damages as a remedy.

There are many scenarios when a deep in nuanced understanding of construction and commercial law informs the contract negotiation process and the input of seasoned legal professionals at the early stages of the parties' contractual relationship so often pays dividends down the road. Should there be a dispute on the job, the legal professionals at Catania Mahon Milligram and Rider, PLLC, are at your disposal to provide the type of guidance and advice necessary to avoid the pitfalls inherent in contract negotiation and if, despite best efforts, a dispute arises, to guide you through the dispute resolution process, be it in the courts or through alternative dispute resolution. Call Joe Catania at 845-565-1100 should you have any questions or need additional information.