Will our liquidated damages figure survive in Iowa, or be struck as a penalty?
Iowa once disfavoured these clauses and no longer does: "Later, we relaxed this penalty rule and recognized that parties may fix damages by contract when the amount of damages is uncertain and the amount fixed is fair." It measures the figure by Restatement (Second) of Contracts § 356(1), which the Supreme Court set out and applied in Rohlin Construction Co. v. City of Hinton: damages may be liquidated in the agreement "but only at an amount that is reasonable in the light of the anticipated or actual loss caused by the breach and the difficulties of proof of loss", and "A term fixing unreasonably large liquidated damages is unenforceable on grounds of public policy as a penalty." The court also set out the Restatement's test for a penalty: two factors combine in determining whether an amount is so unreasonably large as to be a penalty, the anticipated or actual loss caused by the breach, and the difficulty of proof of loss, and a determination turns on a combination of the two. The combination is a sliding scale, and the Court sets it out: "If the difficulty of proof of loss is great, considerable latitude is allowed in the approximation of anticipated or actual harm. If, on the other hand, the difficulty of proof of loss is slight, less latitude is allowed in that approximation. If, to take an extreme case, it is clear that no loss at all has occurred, a provision fixing a substantial sum as damages is unenforceable." For a sale of goods the statute adds a third consideration: the amount must be reasonable in the light of the anticipated or actual harm, the difficulties of proof of loss, and the inconvenience or nonfeasibility of otherwise obtaining an adequate remedy, and a term fixing unreasonably large liquidated damages is void as a penalty (Iowa Code § 554.2718(1)). Rohlin also quoted the Institute's own comment, which it read as showing "no hostility toward liquidated damages": the parties "may effectively provide in advance the damages that are to be payable in the event of breach as long as the provision does not disregard the principle of compensation", while "The central objective behind the system of contract remedies is compensatory, not punitive."
The trap
Rohlin shows what actually defeats the clause, and it is evidentiary rather than verbal. The court struck a $400-per-day delay charge in three road contracts, holding that the amount "appears to be unreasonably large and goes far beyond the anticipated loss caused by delay in performance of the contract" on a record in which nobody could say who had set the figure or on what data. A recital that the sum is a reasonable estimate does not substitute for that record. Note also the wording difference between the two tests: the Restatement formulation quoted in Rohlin lists two factors, while § 554.2718(1) adds the inconvenience or nonfeasibility of otherwise obtaining an adequate remedy. Note that the clause fell although there WAS some loss: "The county did sustain damages, however, due to erosion because it could not seed the highway shoulders because of the delay." Proof that the breach hurt is not proof that the figure was set reasonably. For a sale of goods the same section also caps what a liquidation term may keep out of a buyer's payments: where the seller justifiably withholds delivery for the buyer's breach, the buyer gets restitution of the excess over the liquidated amount or, absent such terms, over "twenty percent of the value of the total performance for which the buyer is obligated under the contract or five hundred dollars, whichever is smaller" (§ 554.2718(2)).
12 authorities
The words that state the rule
The American Law Institute adopts a more conservative approach as follows: Damages for breach by either party may be liquidated in the agreement but only at an amount that is reasonable in the light of the anticipated or actual loss caused by the breach and the difficulties of proof of loss. A term fixing unreasonably large liquidated damages is unenforceable on grounds of public policy as a penalty.
The words that state the rule
Under the test stated in Subsection (1), two factors combine in determining whether an amount of money fixed as damages is so unreasonably large as to be a penalty. The first factor is the anticipated or actual loss caused by the breach. The amount fixed is reasonable to the extent that it approximates the actual loss that has resulted from the particular breach, even though it may not approximate the loss that might have been anticipated under other possible breaches. Furthermore, the amount fixed is reasonable to the extent that it approximates the loss anticipated at the time of the making of the contract, even though it may not approximate the actual loss. The second factor is the difficulty of proof of loss. The greater the difficulty either of proving that loss has occurred or of establishing its amount with the requisite certainty, the easier it is to show that the amount fixed is reasonable. To the extent that there is uncertainty as to the harm, the estimate of the court or jury may not accord with the principle of compensation any more than does the advance estimate of the parties. A determination whether the amount fixed is a penalty turns on a combination of these two factors. If the difficulty of proof of loss is great, considerable latitude is allowed in the approximation of anticipated or actual harm. If, on the other hand, the difficulty of proof of loss is slight, less latitude is allowed in that approximation. If, to take an extreme case, it is clear that no loss at all has occurred, a provision fixing a. substantial sum as damages is unenforceable.
The words that state the rule
the amount of liquidated damages set in each contract appears to be unreasonably large and goes far beyond the anticipated loss caused by delay in performance of the contract
- statuteIowa Code § 554.2718enactment date not established
The words that state the rule
Damages for breach by either party may be liquidated in the agreement but only at an amount which is reasonable in the light of the anticipated or actual harm caused by the breach, the difficulties of proof of loss, and the inconvenience or nonfeasibility of otherwise obtaining an adequate remedy. A term fixing unreasonably large liquidated damages is void as a penalty.
The words that state the rule
Each contract established $400.00 per day as the amount of liquidated damages.
The words that state the rule
Under the record of this case, the person who set the $400-per-day amount in each contract is unknown and was not called as a witness.
The words that state the rule
The county engineer did not conduct studies or present any other data suggesting that defendants anticipated that the government entities and the public could sustain damages equivalent to the $400-per-day liquidated damage amount contained in each of the three contracts.
The words that state the rule
Therefore, we conclude that the $400-per-day liquidated damage clause contained in each of the three contracts is an unrealistic amount and is therefore a penalty that should not be enforced.
The words that state the rule
In the past, we disfavored the use of liquidated damage clauses and favored interpretation of contracts that make stipulated sums penalties. Elzey v. City of Winterset, 172 Iowa 643, 646 , 154 N.W. 901 , 902 (1915). Later, we relaxed this penalty rule and recognized that parties may fix damages by contract when the amount of damages is uncertain and the amount fixed is fair.
The words that state the rule
However, the American Law Institute shows no hostility toward liquidated damages by stating: The parties to a contract may effectively provide in advance the damages that are to be payable in the event of breach as long as the provision does not disregard the principle of compensation. The enforcement of such provisions for liquidated damages saves the time of courts, juries, parties and witnesses and reduces the expense of litigation. This is especially important if the amount in controversy is small. However, the parties to a contract are not free to provide a penalty for its breach. The central objective behind the system of contract remedies is compensatory, not punitive. Punishment of a promisor for having broken his promise has no justification on either economic or other grounds and a term providing such a penalty is unenforceable on grounds of public policy.
The words that state the rule
The county did sustain damages, however, due to erosion because it could not seed the highway shoulders because of the delay.
- statuteIowa Code § 554.2718enactment date not established
The words that state the rule
Where the seller justifiably withholds delivery of goods because of the buyer’s breach, the buyer is entitled to restitution of any amount by which the sum of the buyer’s payments exceeds a. the amount to which the seller is entitled by virtue of terms liquidating the seller’s damages in accordance with subsection 1, or b. in the absence of such terms, twenty percent of the value of the total performance for which the buyer is obligated under the contract or five hundred dollars, whichever is smaller.
“Defective” means that reading found something to correct. What you are reading is the rule as it stands after that reading.