Restrictions on application of contractual penalty clause

Latvia: The struggle by the Parliament and the courts against onerous and disproportionate contractual penalties was a feature of 2013; below we review the most important changes in this regard.

The Civil Law amendments are the first results of this battle. Notably, the new rules will also apply to old contracts, i.e., those entered into before 1 January 2014, if they continue without disputes after 1 January 2015.

The new rules distinguish between two different contractual penalties. One of these may be imposed for absolute non-performance of obligations under a contract, the other for delayed fulfilment of contractual obligations. Moreover, a contractual penalty for absolute non-performance may not be expressed as a multiple or as increased payments, nor may it be claimed only in an amount exceeding losses occurring due to non-performance unless the parties agreed to abolish the right to compensation for loss. The second type of penalty can be contracted as increased payments, though the total is limited to 10% of the principal claim. Moreover, a contractual penalty for undue performance can be claimed only in an amount that exceeds the amount of interest arising after non-performance occurs.

Additionally, under Supreme Court guidelines on resolving disputes about contractual penalties, the court can reduce the amount of a contractual penalty, even where neither party applies for it. Here are some selected items from the guidelines:

Particular contracts such as labour agreements may not require an employee to pay a penalty (with some exceptions). The courts have also more actively to apply legal rules about unfair terms in consumer contracts, even at their own initiative, as required by law. The ordinary courts should also pay attention to e.g. the proportionality of contractual penalties and other legal consequences of non-performance; interest payments already made by the debtor; profitability of investments in a specific field; possible infringements of the good faith principle in relations between two legally and factually equal partners.

Source: Amendments to the Civil Law of 20 June 2013; Supreme Court guidelines on resolving disputes about contractual penalties (2013)

Author: Julija Kolomijceva

Phone: +371 67 77 05 04


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