Scary Contract Terms 101: Liquidated Damages
Some of these terms, like Indemnification, sound scary. They come with twelve paragraphs in the contract laying out exactly how they work, and as you read through them, you know that they’re things you need to watch out for.
There are other scary clauses, however, that can slip right past you if you aren’t paying careful attention, and liquidated damages is one of those.
Often, a liquidated damages clause is made of a single, short paragraph that can open you up to hundreds of thousands in penalties over the course of just a few days. The purpose of this clause, in short, is to get rid of the ambiguity that normally surrounds slow performance.
In a typical contract, each subcontractor is given a set date for completion, but there’s no pre-determined penalty for going past that date. If the work was supposed to be completed by June 14, but June 15 arrives and 1/4 of the job remains unfinished, the GC and subcontractor work to figure out how to resolve the matter. The GC might require that the subcontractor start paying their workers overtime to get the job finished faster. The GC might bring in an additional crew of their own, and deduct the cost from their payment to the slow-performing sub. The GC might take the matter to court and leave a jury to decide how much economic damage was caused by the slow performance. There are a lot of possibilities–many of them expensive–but because none of them are set in stone, there’s usually some level of negotiation involved.
The purpose of a liquidated damages clause is to cut right through this back and forth.
Under a liquidated damages provision, the contract lays out a specific penalty from the very beginning for each day that a project runs over schedule–for instance, if all drywall is not completed by June 14, the GC can charge the subcontractor $15,000.00 per day for each day past the 14th.
Suffice to say, this can add up very, very quickly.
As such, while it’s always important to pay attention to completion deadlines, these liquidated damages provisions add a particular level of urgency.
When reviewing a contract, check for this provision before signing on the dotted line. If it’s there, make sure that your profit margins allow some wiggle room to add additional workers if needed. Then, keep a close eye on things–if this is a six month project, and you’re already on month two with 85% remaining, start ramping things up now! These are NOT the types of projects where you can wait until a week before the completion deadline to get serious about production.
Also, because of the urgency this adds, pay extra attention to documenting the delays that are outside your control.
If you’re doing drywall, and the projected start date for your portion was March 3, but plumbing and electric are still being installed, get the delay in writing. Make sure the GC signs off saying that your completion deadline has been pushed back accordingly. Don’t just count on verbal assurances from a project manager–you need something that you can show in court if worse comes to worse.