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Business Commercial law – Contract Penalty clauses

Parties to an agreement may seek to regulate the consequences of breach by the inclusion of an “agreed damages” clause. A clause of this kind provides for the payment of damages in a specified sum, or by reference to a designated method of calculation.

These clauses attempt to create the benefit of improving contractual certainty as to the consequences of breach. They potentially avoid litigation, as the parties have defined in advance what the consequences of breach will be.

The law distinguishes between a liquidated/agreed damages clause, which is valid and enforceable, and a penalty, which is not. An agreed damages clause may constitute a penalty at common law or in equity.

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