Penalties in English law

The origin of the common law rules relating to penalties is often taken to be the decision of the House of Lords in the Dunlop Pneumatic Tyre Co Ltd v New Garage & Motor Co Ltd decision in 1914. But the jurisdiction is actually much older. The oldest reported case relating to penalties appears to date from 1720, The law originated in the fifteenth century in relation to "defeasible bonds" (sometimes called penal bonds) which were a contractual promise to pay money, which might be discharged if certain obligations were performed (and if the obligations were not performed, then the payment terms under the bond could be enforced). However the courts of equity regarded these as what they really were - security for performance of the underlying obligation - and were prepared to restrain enforcement of such bonds where the defaulting party paid any damages due at common law. In time the courts of common law began to mirror this approach and stay any proceedings on such bonds where the defendant gave an undertaking to pay damages together with interest and costs. The position of the common law courts was adopted and codified in the Administration of Justice Act 1696 (8 & 9 Will. 3. c. 11) and later the Administration of Justice Act 1705 (4 & 5 Ann. c. 3). Accordingly, procedurally relief in relation to such bonds was thereafter administered entirely by the common law courts without intervention by the courts of equity. However, the courts of equity began to develop concurrent remedies for relief from forfeiture. With the decline of the use of defeasible bonds the procedural mechanics became increasingly applied to liquidated damages clauses. However, the decision in Dunlop in 1914 was taken to authoritatively restate the law. That case concerned what was expressed to be a liquidated damages clause. The courts had to determine whether the clause was in fact a penalty. The leading judgment was given by Lord Dunedin, who opined as follows: ==Difficulties with the rule==

The rule is one which judges over the years have confessed difficulty with. In Astley v Weldon Lord Eldon admitted ("not for the first time" according to the Supreme Court in Makdessi) to being "much embarrassed in ascertaining the principle on which [the rule was] founded". In Wallis v Smith, Sir George Jessel MR similarly confessed: "The ground of that doctrine I do not know". In Robophone Facilities Ltd v Blank Diplock LJ famously said that he would make "no attempt where so many others have failed to rationalise this common law rule". Although the decision of Lord Dunedin sought to bring greater clarity to the law in 1914, in practice it often proved difficult to apply. Cases continued to come before the courts challenging provisions as a penalty, and the courts continued to wrestle with the issue. In Workers Trust & Merchant Bank Ltd v Dojap Investments Ltd Lord Browne Wilkinson tried to describe the scope of the law of penalties, and noted the slightly anomalous rules in relation to forfeiture of deposits in relation to sales of land: "In general a contractual provision which requires one party in the event of his breach of contract to pay or forfeit a sum of money to the other party is unlawful as being a penalty, unless such provision can be justified as being a payment of liquidated damages being a genuine pre-estimate of the loss which the innocent party will incur by reason of the breach. One exception to this general rule is the provision for the payment of a deposit (customarily 10% of the contract price) on the sale of land..." In the course of their exhaustive review of earlier authorities in Makdessi, the Supreme Court sorted through a large variety of obiter dicta relating to penalties, many of which they considered doubtful, misinterpretations of earlier decisions, or simply capable of being misconstrued. ==Change in approach==

In more recent cases the courts have taken a considerably more relaxed approach in relation to penalties. In Philips Hong Kong Ltd v AG of Hong Kong the Privy Council expressly endorsed the comments of Dickson J in the Supreme Court of Canada in Elsey v J.G. Collins Insurance Agencies Ltd that: However, the approbation by the Privy Council did not move the editors of Chitty on Contracts in relation to the point of law. Subsequent to the publication of that edition of Chitty the Court of Appeal expressly replicated that statement. In 2005 Jackson LJ in Alfred McAlpine Projects v Tilebox noted that he had only seen four reported cases where a clause has been struck down as a penalty. In the same year Arden LJ, giving the judgment of the Court of Appeal in Murray v Leisureplay plc set out a series of five questions which the court should consider in relation to penalties: In Azimut-Benetti SpA v Healey the court has to consider a provision whereby a boat builder was entitled to terminate for non-payment of instalments and to claim 20% of the contracted price as liquidated damages. Upholding the clause, Clarke J said that commercially justifiable clauses should be enforceable provided the dominant purpose is not to deter the other party from breach. On the facts, it was clear that the purpose of the clause was to set out a pre-determined commercial solution in the event that the buyer defaulted. ==The current position – Cavendish Square Holdings BV v Makdessi==

In November 2015 the Supreme Court held joint appeals in the matter of Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Ltd v Beavis, The Supreme Court then reformulated the common law test for what constitutes an unenforceable penalty clause. They held that the validity of such a clause turned on whether the party seeking to enforce the clause could claim a legitimate interest in the enforcement of the clause: ==Requirement for breach==

A clause which provides for a large payment in pursuant of the performance of obligations is not a penalty at law. In Berg v Blackburn Rovers FC it was held that where a football club exercised its right to terminate employment of a manager upon payment out of the remaining salary due under the contract, this was the performance of a term and not a provision designed to constrain breach. Accordingly, it could not be a penalty. For English law this position was reaffirmed by the Supreme Court in the Makdessi decision. The court held that in general terms,' a stipulation prima facie imposes a penalty on a party ("the first party") if, as a matter of substance, it is collateral (or accessory) to aprimary stipulation in favour of a second party and this collateral stipulation, upon the failure of the primary stipulation, imposes upon the first party an additional detriment, the penalty, to the benefit of the second party'. ==Effect==

Cases referring to penalty clauses use the words "void" and "unenforceable" interchangeably. In the High Court of Australia in the decision of AMEV-UDC Finance Ltd v Austin, Mason and Wilson JJ stated: "At least since the advent of the Judicature system a penalty provision has been regarded as unenforceable or, perhaps void, ab initio". (emphasis added) Because an allegation that a clause constitutes a penalty is usually raised as a defence to a contractual claim, there is no practical difference. However, if a party were to pay out under such a clause and then seek the return of the money paid, then clearly it would be material to establish whether the clause was merely unenforceable (in which case the money could not be claimed back) or void (in which case it could). In Makdessi the Supreme Court stuck scrupulously to the word "unenforceable" but they also noted that Mr Makdessi had claimed that the clause was "void and unenforceable", but did not expressly comment upon whether it might be void (and did not need to do so, as they held it was not a penalty). ==See also==