Penalties in English law

The Supreme Court most recently restated the law in relation to contractual penalties in the co-joined appeals of Cavendish Square Holding BV v Talal El Makdessi, and ParkingEye Ltd v Beavis.

[6] However the courts of equity regarded these as what they really were - security for performance of the underlying obligation - and were prepared to restrain enforcement of such bonds where the defaulting party paid any damages due at common law.

[7] In time the courts of common law began to mirror this approach and stay any proceedings on such bonds where the defendant gave an undertaking to pay damages together with interest and costs.

The leading judgment was given by Lord Dunedin, who opined as follows: Though the parties to a contract who use the words "penalty" or "liquidated damages" may prima facie be supposed to mean what they say, yet the expression used is not conclusive.

It will be held to be penalty if the sum stipulated for is extravagant and unconscionable in amount in comparison with the greatest loss that could conceivably be proved to have followed from the breach.

In Astley v Weldon[9] Lord Eldon admitted ("not for the first time" according to the Supreme Court in Makdessi[10]) to being "much embarrassed in ascertaining the principle on which [the rule was] founded".

In Robophone Facilities Ltd v Blank[12] Diplock LJ famously said that he would make "no attempt where so many others have failed to rationalise this common law rule".

In Workers Trust & Merchant Bank Ltd v Dojap Investments Ltd[13] Lord Browne Wilkinson tried to describe the scope of the law of penalties, and noted the slightly anomalous rules in relation to forfeiture of deposits in relation to sales of land: "In general a contractual provision which requires one party in the event of his breach of contract to pay or forfeit a sum of money to the other party is unlawful as being a penalty, unless such provision can be justified as being a payment of liquidated damages being a genuine pre-estimate of the loss which the innocent party will incur by reason of the breach.

One exception to this general rule is the provision for the payment of a deposit (customarily 10% of the contract price) on the sale of land..." In the course of their exhaustive review of earlier authorities in Makdessi, the Supreme Court sorted through a large variety of obiter dicta relating to penalties, many of which they considered doubtful, misinterpretations of earlier decisions, or simply capable of being misconstrued.

Collins Insurance Agencies Ltd[16] that: ... the power to strike down a penalty clause is a blatant interference with freedom of contract and is designed for the sole purpose of providing relief against oppression for the party having to pay the stipulated sum.

In November 2015 the Supreme Court held joint appeals in the matter of Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Ltd v Beavis,[3] and took the opportunity to restate the law in a lengthy judgment.

As Lord Woolf said, speaking for the Privy Council in Philips Hong Kong Ltd v Attorney General of Hong Kong (1993) 61 BLR 41, 59, “the court has to be careful not to set too stringent a standard and bear in mind that what the parties have agreed should normally be upheld”, not least because “[a]ny other approach will lead to undesirable uncertainty especially in commercial contracts”.

A case addressed in the Court of Appeal in parallel with Cavendish and ParkingEye and recognising the relevance of this legal development, Edgeworth Capital (Luxembourg) SARL v Ramblas Investments BV, found that a provision for payment of a financing fee should not be treated as an unenforceable penalty clause, but was to be treated as a fee payable in specific circumstances which "had nothing to do with damages for breach of contract".

[25] In Berg v Blackburn Rovers FC[26] it was held that where a football club exercised its right to terminate employment of a manager upon payment out of the remaining salary due under the contract, this was the performance of a term and not a provision designed to constrain breach.

In the High Court of Australia in the decision of AMEV-UDC Finance Ltd v Austin,[29] Mason and Wilson JJ stated: "At least since the advent of the Judicature system a penalty provision has been regarded as unenforceable or, perhaps void, ab initio".