Legal Memorandum: Liquidated Damages Provisions in Contracts

Issue: Under Georgia law, do the payments due upon termination of a contract constitute liquidated damages or an unenforceable penalty?

          Georgia statutory law permits liquidated damages provisions in contracts.  "If the parties agree in their contract what the damages for a breach shall be, they are said to be liquidated and, unless the agreement violates some principle of law, the parties are bound thereby."  Ga. Code § 13-6-7 (2000).  The Georgia courts, however, have adopted a fairly stringent test for determining whether a contract provision constitutes a permissible liquidated damages clause under § 13-6-7 or an unenforceable penalty.  As explained by the court in National Emergency Serv., Inc. v. Wetherby, 217 Ga. App. 42, 456 S.E.2d 639 (1995):

Legal scholars examining this issue have suggested that, except in clear cases involving contracts of adhesion, liquidated damage provisions should not be subjected to strict scrutiny as they provide viable economic alternatives to performance of contract and further represent a long-standing principle of freedom to contract.  Georgia courts, however, have adopted, and long adhered to, a tripartite test for determining whether a provision constitutes liquidated damages or an unenforceable penalty.

Id., 456 S.E.2d at641— (footnote omitted).  Georgia courts manifestly follow the principle that "'[a] term fixing unreasonably large liquidated damages is unenforceable on grounds of public policy as a penalty.’"  AFLAC, Inc. v. Williams, 264 Ga. 351, 444 S.E.2d 314, 317 (1994) (quoting Restatement (Second) of Contracts § 356(1)).

Under the Georgia […]