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What is a liquidated damages clause and why is it necessary?

Business owners in Michigan want to protect themselves from potential and protracted litigation. One way to do that is to have a liquidated damages clause in case a breach of contract occurs. Usually, this is found in transactions involving real estate.

What is a liquidated damages clause?

A liquidated damages clause is something that appears in a real estate or another type of contract when there could be difficulty coming up with a specific dollar amount of damages after the fact. There may be a challenge in coming to a set price due to circumstances that change beyond either party’s control. As a specific amount is difficult to determine, both parties who sign the contract agree to a set price that has to be paid if one party ends up disregarding the terms of the contract.

This clause can help the parties to avoid business litigation in the event that there’s a breach of contract. If one party fails to adhere to the terms of the contract, the other is legally due a remedy as a result. Sometimes, that includes financial damages. With a liquidated damages clause, the parties agree on an estimated amount of money to cover the damages.

Why is a liquidated damages clause necessary?

A liquidated damages clause is necessary in order to cover one party when the other ends up failing to hold up their end of a contract. It gives that party the opportunity to still recover compensation while both parties can avoid business litigation. However, the liquidated damages clause isn’t meant to punish the party who breaches the contract.

For example, one person agrees to buy another person’s home for a set amount of money and gives them a down payment toward it. If the buyer doesn’t follow up and actually buy the home, the seller gets to keep the money given toward the down payment. However, if the seller ends up deciding not to sell the home after all, the buyer is entitled to receive their money back.