Penalty Clauses as Remedies: Exploring Comparative Approaches to Enforceability

Abstract

Commercial agreements often provide for “fixed sums” payable upon a specified breach. The common law distinguishes between provisions for “liquidated damages” and “penalty” clauses, enforcing the former, while invalidating the latter as punitive. In contrast, such agreements are generally enforced in civil law jurisdictions, without any distinction between liquidated damages and penalties — though they may be reduced if excessive, even as penalties. In contrast, this same split between the civil and common law jurisdictions can be found in the treatment of specific relief. For instance, civil law presumptively grants “ordinary” relief, subject to a narrowly cabined set of exceptions, and common law grants such relief only under certain limited “extraordinary” circumstances.

In a recent article, I suggested that the validity of “fixed sums” as “penalties” was an issue not governed by the United Nations Convention on Contracts for the International Sale of Goods (the “CISG”) and, instead, left to otherwise applicable domestic law. In doing so, I pointed to the relationship under the civil law between the ordinary right to specific performance and the general enforceability of penalties, in arguing that the treatment of one under the CISG suggested a general principle informing the proper treatment of the other under that same body of law. Interestingly, however, Israeli law takes a unique combined approach to these two remedies: specific performances and fixed sums (or “agreed compensation” as termed under Israeli law). Israeli law seemingly follows a civil law approach to specific performance, while following the common law approach to agreed compensation in the form of fixed sums. This paper examines the “mixed” nature of the Israeli approach to remedies and then asks if this examination might shed any further light on the logic (or lack thereof) of the common law distinction between liquidated damages and penalties.

This article is published as part of a contracts symposium held in Netanya Israel.

Keywords: Contracts, United Nations Convention on Contracts for the International Sale of Goods,Merchant of Venice, Penalty Clauses, Remedies, Israeli law, commercial agreement