INTRODUCTION
A provision had been laid down in English law, that specified the agreed amount of damages to be paid by a party, in cases of breach of contract. This rule was made to prevent parties from receiving damages exceeding the loss that they suffered. The damages to be paid were of two kinds – liquidated damages and penalty. While framing the Indian Contract Act of 1872[1], the draftsmen deviated from the Common Law and used the words “sum named in the contract” to avoid any further complexities. However, with the amendment in 1899, a “penalty” provision was inserted in Section 74[2] which automatically brought “liquidated damage” into purview. Since then, both these provisions have become entrenched in the Contract Act, and the courts have invariably taken a similar stance to that of the English courts.
In 2015, the Supreme Court dealt with the case of Kailash Nath Associates v Delhi Development Authority[3]. The main issue of this case was whether the earnest money should be forfeited by the DDA who was the promisee. As per Section 74[4], the damages suffered need not be proved. As per the facts of the case, DDA (promisee) sold off the plot in question to another party at a much higher price, which in essence means that it did not suffer any losses.[5] Accordingly, the court held that they were not entitled to any compensation by the promisor, that is, Kailash Nath Associates.[6] This led to a question, of whether the Supreme Court followed, the courts mentioned many important judgments of the past involving the same issue of the quantum of damages.[7] Those cases had contrasting judgments, which makes it necessary to clarify the overall stance of the Indian court and whether it is the same as English courts or not.
PROOF OF DAMAGE
In the case of Fateh Chand v Balkishan Das[8], the apex court held that while it is mentioned in Section 74[9] that it is not necessary to prove damages or losses suffered, it does not make any sense to provide compensation under Section 74[10] in cases where no legal injury has been caused. Due to a lack of proof of any losses suffered, the plaintiff’s plea to forfeit the advance amount from the defendant was rejected by the court. The court also held that in cases involving forfeiture clauses in the form of penalty, the court has to award a reasonable compensation that should not exceed the amount mentioned in the forfeiture clause.
Then came the case of Shri Hanuman Cotton Mills v Tata Air Craft Ltd[11], where the appellants had paid a certain portion of the money but refused to pay the rest. The defendants forfeited the payment already done as earnest money, and the same was agreed by the Court. That the appellants are not entitled to a refund was decided by the apex court, and when compared with the previous case, the court did not deviate, because in this case, the defendants suffered losses because of refusal to pay the entire amount agreed upon.
In 1969, the apex court further clarified its stance taken in the Fateh Chand case, while it was dealing with the case of Maula Bux v Union of India[12]. In cases where losses suffered cannot be calculated, then a reasonable compensation would be awarded by the Court. If a sum is already mentioned as a pre-estimate, then the court can allow the same to be compensated unless it is in the form of a penalty. But in the cases, where losses can be calculated, then the aggrieved party has to prove the damages suffered. This might seem like it is going against the Fateh Chand case, where it held that it is not necessary to prove damages. But in reality, the court was widening the ambit of Section 74[13] by interpreting that there may be cases that are different from Fateh Chand, where it is possible to determine the quantum of damages, and in that scenario, it is mandatory to prove the same.
In the case of ONGC Ltd v Saw Pipes Ltd[14], the court re-affirmed its stance by upholding that there are cases where it is difficult to ascertain the damages suffered, and in those cases, a genuine pre-estimate of damages agreed by the parties beforehand, can be awarded as a reasonable compensation to the aggrieved party. All the aforementioned judgments together lead to the inference that the need to prove damages depends on a specific case and damages are awarded accordingly. When it comes to the judgment of the Supreme Court in the case of Kailash Nath v DDA[15], the court re-instated the previous verdicts that for losses to be awarded, suffering damages is a pre-requisite. It also held that it would be arbitrary for the promisee to forfeit the earnest money when in reality it never suffered any losses.
THE DICHOTOMY OF LIQUIDATED DAMAGES & PENALTY
As seen in the Maula Bux verdict[16], the genuine pre-estimate of damages predecided by the parties can be awarded as reasonable compensation, provided it is not a penalty. Section 74[17] used to previously mean that a sum mentioned in the contract could be awarded as compensation, and the courts had the power to scale down that sum.[18] But after the amendment to the Act in 1899, the lawmakers inserted the phrase “stipulation by way of penalty” which automatically brought the complexity of liquidated damages and penalty. Now the burden was imposed on the court to determine in each and every case involving section 74, to check whether the sum mentioned in the contract as a genuine pre-estimate of damages is liquidated damages or a penalty.[19]
The English courts used to determine the same in its cases, but in 2015, the UK Supreme Court took up a case called Cavendish Square Holding BV v Talal El Makdessi[20]. It held that the penalty serves as a detriment to the freedom to contract and that it provided no room to the parties. The English court replaced the disputed clause of “genuine pre-estimated” with a test of whether the disputed clause imposed a proportional detriment to any legitimate interest of the innocent party. Section 74[21] previously had the same effect as that of the Cavendish judgment[22], but with the 1899 amendment[23], it had the same stance as that of English courts before the Cavendish case.
CONCLUSION
The Supreme Court has laid down the rules regarding proof of damage in cases of breach of contract, by giving a wife interpretation to Section 74 of the Indian Contract Act[24]. However, the ensuing confusion regarding the effect of the pre-estimated damages as liquidated damages or penalties is something that needs to be made simpler. It is high time that the Indian courts start following the Cavendish verdict[25]. Perhaps this complication itself might not have arisen had the intention of the draftsmen of the law been known to us.
Author(s) Name: Ujjaini Biswas (NALSAR University, Hyderabad)
Reference(s):
[1] Indian Contract Act, 1872, No. 9, Acts of Parliament, 1872 (India).
[2] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[3] Kailash Nath Associates v Delhi Development Authority (2015) 4 SCC 136.
[4] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[5] Supra note 3.
[6] Supra note 3.
[7] Jeevan Ballav Panda & Satish Padhi, Liquidated Damage Clauses: Did Kailash Nath Dilute the Saw Pipes Position?, Bar and Bench (Mar. 14, 2019), https://www.barandbench.com/columns/liquidated-damage-clauses-did-kailash-nath-dilute-the-saw-pipes-position.
[8] Fateh Chand v. Balkishan Das (1963) 1 SCR 515.
[9] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[10] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[11] Shri Hanuman Cotton Mills & Ors v. Tata Air-Craft Ltd (1970) SCR (3) 127.
[12] Maula Bux v. Union of India (1970) SCR (1) 928.
[13] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872.
[14] Oil and Natural Gas Corporation Limited v. Saw Pipes Limited (2003) 5 SCC 705.
[15] Supra note 3.
[16] Supra note 12.
[17] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[18] Shivprasad Swaminathan, De-inventing the Wheel: Liquidated Damages, Penalties and the Indian Contract Act, 1872, 6 The Chinese Journal of Comparative Law, 103, 108 (2018), https://doi.org/10.1093/cjcl/cxy001.
[19] Ibid.
[20] Cavendish Square Holding BV v. Talal El Makdessi (2016) AC 1172 1226.
[21] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[22] Supra note 20.
[23] Supra note 18.
[24] Indian Contract Act, 1872, § 74, No. 9, Acts of Parliament, 1872 (India).
[25] Supra note 20.
