That was never a penalty, ref!

Late last year, the Supreme Court considered a combined appeal on whether certain contractual clauses were unenforceable on the basis that they amounted to penalty clauses.

The general rule is that a clause in a contract which is a penalty clause is unenforceable unless the party relying on it can prove actual loss.

It is not uncommon for parties to commercial contracts to agree that specified sums are to be paid if a party breaches a contractual provision. If the clause is a liquidated damages clause, it is enforceable and the sum set out in the clause is recoverable; if it is a penalty it will not be enforced.

The combined appeal involved 2 cases with very different sets of facts. The first case Cavendish v El Makdessi concerned a sale and purchase agreement of shares. The agreement provided that if the seller of the shares, Mr Makdessi, breached a clause in the agreement prohibiting him from carrying out certain activities, he would not be entitled to certain payments and he would be required to sell the remainder of his shares at a default price. Mr Makdessi admitted he had breached the agreement but argued that the clauses in the agreement were unenforceable penalty clauses.

The second case ParkingEye v Beavis will be of interest to all motorists. Mr Beavis parked his car in a car park in Chelmsford. ParkingEye managed the car park. Prominent notices were displayed in the car park limiting any stay to 2 hours and stating that failure to comply would result in a charge of £85. Mr Beavis overstayed the 2 hour limit by 56 minutes. ParkingEye notified him that the £85 charge was payable. Mr Beavis refused to pay and ParkingEye commenced proceedings against him. Mr Beavis argued the charge was an unenforceable penalty.

The Supreme Court held that the true test as to whether a clause is a penalty is whether the provision is a secondary obligation which imposes a detriment on the contract breaker which is out of all proportion to any legitimate interest of the innocent party in enforcing the primary obligation. The question is whether the clause is penal and whether it is unconscionable or extravagant. In each case, the Supreme Court held that the relevant clauses were enforceable.

In ParkingEye v Beavis, the Supreme Court held that although ParkingEye did not suffer any loss as a result of motorists who stayed longer than 2 hours, it had a legitimate reason in charging them a sum which extended beyond the recovery of any loss. The legitimate interest included providing a service to the landowner to manage the car park in the interests of retail outlets, their customers and the wider public. £85 was not out of all proportion to its interests and therefore it was neither extravagant nor unconscionable.

The judgment provides a helpful clarification of the law and reaffirms the ability of parties to make their own bargains; although no doubt there will still be arguments over what is a legitimate interest. It also provides a salutary reminder to motorists to not out stay their welcome!

Cavendish Square Holding BV v El Makdessi and ParkingEye Ltd v Beavis [2105] UKSC 67

If you have any queries that arise out of this article or require any advice generally on whether a clause in a contract can be enforced, contact Tracey Ashford on 01562 512484 or tashford@thursfields.co.uk