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8th December, 2015

Penalty Clauses and Parking

Nobody likes paying parking fines and, over the years, some people have attempted to avoid paying them by claiming that a slightly tricky area of law around ‘Penalty Clauses’ applies to parking fines and they are therefore not enforceable.

The recent cases of Cavendish Square Holding BV v El Makdessi and ParkingEye Ltd v Beavis [2015] have looked at the law on this and it’s not good news for those who overstay their time. It also raises some more general points about Penalty Clauses as a whole.

The law has until now been interpreted so that penalty clauses are unenforceable. A clause has been regarded as a penalty clause if it requires the person who breaches the contract to pay to the innocent party a sum which is greater than the innocent party’s genuine pre-estimate of loss. By way of example, if you are having building work carried out for £20,000, it might be fair to put in a clause that says late completion will incur a reduction in price of £1,000, but it would be a penalty clause if it were for £25,000,

In these two recent cases, the Supreme Court has clarified that a clause will not necessarily be considered a penalty clause (and therefore be unenforceable) simply because the amount specified represents a greater sum than the loss actually incurred.

The courts will now consider the following tests to determine whether or not a clause is a penalty clause:

Stage 1: Does the clause relate to a Primary Obligation or Secondary Obligation?

A primary obligation is something that goes to the heart of the contract. Even if a clause is triggered by breach of a primary obligation it may be considered a primary obligation in its own right.

For example in the Cavendish case the disputed clause related to certain covenants (agreements to do or not do certain things) but it was considered to be a price adjustment clause and a primary obligation i.e. to ensure observance with the covenants contained in the relevant Agreement. Sums payable under a primary obligation will not trigger the rules against penalties.

If the clause is a secondary obligation triggered by a breach of a primary obligation the courts will move onto stage 2:

Stage 2: Is the Secondary Obligation out of proportion with the innocent party’s legitimate interest in performance of the primary obligation?

The court will consider whether the provision relates to a ‘genuine pre-estimate of the innocent party’s loss’; if it does, it will not be a penalty clause. If the sum payable represents a greater sum than the injured party’s pre-estimate of loss the court will consider whether the sum is ‘unconscionable or extravagant’, i.e. too large and may consider comparable industry standards.

Practical steps to ensure your breach of contract provisions are enforceable:

To avoid the rules on penalty clause, you, or your solicitor should consider whether the relevant provision can be drafted as a primary obligation e.g. a price adjustment clause.

If that is not possible, the provision should be drafted to make it clear what legitimate interest the innocent party would have in the enforcement of the primary obligation. For example, in the Beavis case ParkingEye had a legitimate interest in maximising the number of parking spaces available; by charging the sum of £85 to anyone parking for over the allocated two hours ParkingEye was supporting enforcement of their primary obligation of maximising parking spaces.

To justify the amount payable by (or deductible from) the party in breach, reference could be made to industry norms which will help to demonstrate that the sum is not extravagant.

For more information please contact Eve Lakin on 01244 405556 or email [email protected]

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