HOW TO DRAFT A LIQUIDATED DAMAGES CLAUSE

How to Draft a Liquidated Damages Clause

Liquidated damages clauses have evolved as business lawyers draft contract terms for client companies. Contract law is practical law — developed and demanded by business life. From a business perspective, a liquidated damages clause increases the predictability and legal certainty of contracts.

Predictability is based on the predictability of compensable damages. Liquidated damages are used where predictability of compensation is desired, and are particularly recommended where the damage is difficult to predict, define, or prove.

The clause often strengthens the position of a potential creditor, enabling the formation of a contract between parties. The potential debtor effectively provides security with the clause, reducing uncertainty and facilitating agreement in situations where it might otherwise be difficult to reach.

Key Considerations When Drafting a Liquidated Damages Clause

When drafting a liquidated damages clause, many factors affecting the contractual relationship must be taken into account. One key consideration is determining from which point in time default interest is calculated.

In supply or contractual chains, it is essential to determine whether the clause concerns direct or indirect damage. In Supreme Court decision KKO 2014:61, late fees were classified as indirect damage and the claim was dismissed — a critical distinction in multi-party contracts.

Because liquidated damages are typically used to secure the achievement of the other party's contractual goals (the loyalty principle), the pressure function of the clause must be carefully considered when drafting.

The reasonableness of the liquidated damages amount must also be given weight. The Finnish legal system provides means to address unreasonable contract terms.

In international trade or carriage contracts, the mandatory nature of applicable legislation and the treatment of the clause under the governing law must also be assessed carefully, as different legal systems treat liquidated damages differently.

Liquidated Damages in YSE 1998 Standard Terms

Widely used in the Finnish construction industry, the YSE 1998 standard terms include a liquidated damages clause in section 18. In the event of a contractor delay, the client has the right to receive liquidated damages and cannot claim other compensation unless the contractor has acted intentionally or with gross negligence.

This is a clear example of an ongoing liquidated damages clause that pressures the debtor to perform. The scope of the clause is reduced where the client's own omissions contribute to the delay — in such cases the contractor typically receives an extension of the contract period.

Why Use a Liquidated Damages Clause?

Where contracting parties are strongly guided by individual goals, liquidated damages serve a critical protective function. The clause is particularly valuable in confidentiality agreements, exclusivity agreements, and franchise agreements — situations where individual goals are especially prominent.

The clause also eliminates the difficulties of proving fault in litigation and reduces uncertainty around proving contract breaches, making dispute resolution significantly more efficient.

Effectiveness of the Liquidated Damages Clause Under Finnish Law

Finnish Supreme Court decisions KKO 2001:27 and KKO 1995:204 have confirmed that there are no grounds for moderating liquidated damages in many cases. In KKO 2001:27, liquidated damages of 154,000 Finnish marks were upheld on a purchase price of 485,000 Finnish marks — demonstrating that even substantial clauses are considered acceptable in Finnish legal practice.

This confirms that a well-drafted liquidated damages clause is an effective tool for securing contractual performance. There are therefore strong grounds for using it in the right situations.

Need Advice on Drafting a Liquidated Damages Clause?

Our contracts law experts Liene Krumina and Oscari Seppälä are happy to advise on drafting and reviewing liquidated damages clauses for your business contracts. Contact us for a consultation.

This article is for information purposes only and does not constitute legal advice.