What are Liquidated Damages?

Definition: Liquidated damages are an amount of money established in a written contract to compensate for certain breaches or harmful situations. It is an economic safeguard established by parties involved in a contractual relationship.

What Does Liquidated Damages Mean?

The amount of money established in a liquidated damages clause can be explicit or it can result from estimations depending on the size of the harm done. In the case of contractual breaches, there are normally pre-established sums of money that must be paid to the affected party. Nevertheless, in broader contexts, like harmful situations where the damages can’t be quickly estimated, the contract might stipulate an assessment procedure to calculate the amount to be compensated.

This is the case of unliquidated damages clauses, where the actual harm done can’t be mathematically calculated as the size of the contingency might be too big or too difficult to understand at the time the contract is being signed. The main difference between each class is then, that liquidated damages are limited to a certain figure or an easy-to-solve mathematical calculation. Lease contracts have many liquidated damage clauses like delayed payments fines or minor maintenance clauses where the tenant has to pay for the expenses up to a certain amount.

Example

Mr. Yu Wong recently leased a small department to Mrs. Lowell. He told his lawyer to draft a contract with specific clauses that compensate for different types of damages done to the apartment, since he had a bad experience recently with a previous tenant. His lawyer drafted three different liquidated damages clauses: the first clause states that losing the apartment keys will cause a fine of $300 plus expenses to change the door lock.

The second clause creates a fine of $1,000 if a pet is found living on the apartment premises, since pets are prohibited by Mr. Yu Wong; finally, the third clause explicitly prohibits tearing down walls or modifying the apartment design significantly and a fine of $5,000 will be imposed if such modifications are found. This contract model was approved by Mr. Yu Wong since it addressed and protected him from his main concerns.