Penalty clause

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A term in a contract that imposes some fixed, punitive payment in the event of a default on some duty in the contract. As a general rule, penalty clauses will not be enforced by the courts. However, it is open to a person who seeks to rely on such a clause to argue that it is aliquidated damages clause, that is, it genuinely reflects the loss that flows from the default.

The rule that penalty clauses will not be enforced is not an absolute one, and there are circumstances in which policy considerations outweigh the potential injustice of upholding such a clause. One example is the Forfeiture of deposit clause in contracts for the sale of land.

Contract Law