In the event of a breach of a contract, the injured party has provisions under Sections 73 & 74 Indian Contract Act, 1872 to claim damages. But, how the law unfolds, where the onus lies and how the measure of the compensation is decided are some of the issues that one needs to understand. Read on to know more…
As the economy develops, the need for more robust laws and policies governing businesses becomes more apparent. Laws are important for smooth compliance of obligations and duties or else there will be an unbalanced and unhealthy environment which will vitiate the entire atmosphere of business and will bring inefficiency, conflict and non-performance. Contract is an everyday affair of those who are doing business. Contract puts obligation on contracting parties to fulfill promises. When there is a breach of contract, suit for damages is one of the remedies by the law under sections 73 and 74 of Indian Contract Act, 1872 to compensate for the loss suffered by the aggrieved. The aggrieved party needs to prove the breach by way of suit for damages or in case of arbitration by way of claims before an arbitral tribunal. Damages are monetary compensation for the loss or injury suffered by an aggrieved party as a result of the breach of the contract. It is compensation for natural and probable consequence of the breach. The Indian Contract Act says that the non fulfilment of the expectation created by promise would give rise to legal consequences and law will play its part to make good the loss suffered by the aggrieved. Therefore, damages are awarded to place the injured party in the same position he would have been had the promise been kept. It may be important to note here that the fundamental principle underlying damages is not punishment but compensation for any damage or loss which the injured party or a plaintiff has suffered due to non-fulfilment of the contract.
Before we discuss the relevant sections that deal with damages, it must be borne in mind that the breach must be proved in the court of law and the onus is on theplaintiff side to prove that there is a breach of contract. No pecuniary liability will arise till the court has determined that the breach has taken place and the party complaining of breach is entitled to damages. Therefore, the Section 73 or 74 of the Indian Contract Act apply only when there is breach of contract and that breach of contract has been proved in the court of law.
Normally, a breach of contract may take any one of the three forms: 1) Where a party fails to perform his obligation upon the date fixed for the performance by the contract, 2) A breach may arise from express repudiation, i.e., where a party states expressly he will not perform his promise, and 3) There is a breach if a party does some act which disables him from performing his obligations. And once the breach has been proved, the court will decide whether damages can be granted or not based on the nature of contract and the rules under Sections 73 and 74.
The Sections 73 & 74 of the India Contract Act have laid down principles for deciding the quantum of damages a plaintiff is entitled to and can claim from the defendant with respect to facts and the circumstances of the case.
“When a contract has been broken, the party who suffers by such breach is entitled to receive, from the party who has broken the contract, compensation for any loss or damage caused to him thereby, which naturally arose in the usual course of things from such breach, or which the parties knew, when they made the contract, to be likely to result from the breach of it. Such compensation is not to be given for any remote and indirect loss or damage sustained by reason of the breach…”
Section 73 of the Contract Act is the general one governing all cases of breach of Contract, resulting in loss or damage to one of the contracting parties. Based on the law above, the rule of damages under section 73 can be broadly divided into: a) Burden of proof of damages, b) No compensation for any remote loss. Only such damages which naturally arose in the usual course of things and c) If the steps taken to mitigate the damages were not taken, the damages will not be liable on the defendant.
While estimating damages, the general principle of Indian Contract Act says that the compensation must be commensuratewith the injury or loss suffered due to breach of contract and if actual loss is not proved, no damages would be awarded. Section 73 makes it obligatory for the plaintiff to prove that he has suffered damages and the extent to which he has suffered before a court can award him damages for breach of contract, and if he fails to provide evidence, court can make any presumptions against him. However, the Court has a duty of assessing the damages, as best it can, on evidence and materials actually before it. In the case of State of Bihar vs. P.K. Jain, AIR 1981 , a suit was filed by a contractor of Panchanpur Gaya against the government on account of breach of the contract, but he failed to provide evidence in support of the losses suffered by him. It was held that he was not entitled to damages.
It is quite clear from the reading of the section that the damages are restricted to the direct consequences of the breach of contract. Any loss which is not a direct consequence of the breach of contract is not recoverable. The leading case of Headley vs Baxendale is the basis of this rule. The compensation is given only when actual loss or injury is suffered by the claimant. No compensation is given for remote or indirect loss or damage sustained. The fundamental principle of law of damages is that the person injured by breach of contract shall have fair and just compensation commensurate with loss sustained in consequence of the defendant’s breach of contract. The measure of compensation depends upon the circumstances of the case. The damagesought must be fairly attributed to the breach as a natural result or consequence of the breach. The loss must be real loss or actual damage and not merely a probable or a possible one. When it is not possible to calculate accurately the actual amount of loss incurred or when the plaintiff has not been able to prove the actual loss suffered, he will be only entitled to recover nominal damages for breach of contract. Where nominal damages only are to be awarded, the extent of the same should be estimated with reference to the facts and circumstances involved. The general principle of the law is that the injured party must be put in same position as he would have been if he had not sustained the injury or the loss.
In your opinion, how effective are the laws on damages, Secs 73 & 74, in settling issues arising out of non fulfillment of contract. Are they sometimes unfairly balanced and biased in the favour of the defendant? Do you think law needs more teeth also?
The law of damages, as enunciated by sections 73 and 74 of the Contract Act, seeks to strike a balance between competing positions. Touchstone of the said provisions, explicit in section 74 and implied in section 73, is the test of reasonableness. Judicial precedents have emphasised this aspect repeatedly and have laid down principles to be applied while determining damages. In one sense, the said provisions of the Contract Act as interpreted by the judiciary can be said to have steered clear of complexities of English legal system, thereby ensuring clarity. However, one may question whether the law has withstood the test of time or whether it sufficiently addresses complexities of present day contracts. In my view, two issues need to be considered here. First is adequacy or effectiveness and the second is the practical aspect of implementation. On the aspect of adequacy, in my humble opinion the provisions of the ICA on damages are adequate. The principles laid down by the Apex court in the Saw Pipes case or the MaulaBux case are equally valid today as they were at the time the said judgments were delivered. Most recent decisions of the Courts bear testimony to that. Therefore, the issue is not that of effectiveness or that of the law lacking in teeth. The real concern is in the domain of implementation. The pace of judicial proceedings in India is what is daunting from a plaintiff/claimant perspective. No amount of pro-plaintiff law can offset the imbalance created by the delays in judicial proceedings. A claims proceeding spanning a decade or more is certainly not in the interest of the claimant and perhaps not so even for the defendant!
The explanation of Section 73 brings out the principle that a plaintiff claiming damages must do his best to mitigate the damages. It is essential that a person who claims damages must have done every thing under his capability to avoid falling into loss. The plaintiff cannot recover any amount if he is shown to have neglected and not made an effort to mitigate the loss. A plaintiff who sues for damagesowes the duty of taking all reasonable steps to mitigate the loss consequent upon the breach and cannot claim as damages any sum which is due to his own neglect. The law casts a burden upon the person complaining of the breach to show that he did not possess means to of remedying the inconvenience caused by nonperformance of the contract. Every person who has a right to damage for breach of contract must take all reasonable steps to mitigate the loss arising from such breach
The question as to whether the plaintiff had taken all reasonable steps to mitigate the loss consequent on the breach of contract is a question of fact to be decided keeping in mind the facts and circumstances of each case. If the plaintiff places material before the court in support of his case that he has taken all reasonable steps to mitigate the loss consequent on the breach of the contract, it would be open to the defendant to place material before the court to establish that the step taken by the plaintiff is not reasonable step to mitigate the loss keeping in mind the facts and circumstances of the case. The court will then weigh the evidence produced by the parties and then decide whether steps taken by the aggrieved party were reasonable to mitigate the loss. The plaintiff has a statutory duty, cast upon him by the explanation of Sec 73, of taking reasonable steps to mitigate the loss.
There are three rules often referred to under the comprehensive heading of mitigation :
Do you think laws on damages, Sections 73 & 74, are fairly unbalanced and biased in the favour of the defendant?
Not necessarily, as the devil always lies in the details. It all depends on the subject matter of a contract and of course on how its actually written. In fact, provisions of sec 73 that prohibit grant of remote and indirect damages and those of sec 74 on reasonableness can be used to good benefit by either the plaintiff or defendant based on the underlying facts. One's view of what damages are reasonable and compensatory depends on where you are placed with respect to the facts in a case; in other words, its not true to say that a plaintiff can never be in a place to benefit from these two broad requirements that underpin these sections.
What are the present challenges before a corporate counsel in view of the complexity of the issues on damages?
It is extremely important to draft the damages provision so that risk is apportioned fairly. What is fair in one type of contract may be different from another. A fact that parties often miss is that transferring one's business risk to another party in a way that allows one to use the remedy as a type of insurance, is inherently unfair. A good corporate counsel should be able to indentify and avoid such situations. In short, benefits and detriments must always be commercially aligned."
“When a contract has been broken, if a sum is named in the contract as the amount to be paid in case of such breach, or if the contractcontains any other stipulation by way of penalty, the party complaining of the breach is entitled, whether or not actual damage or loss is proved to have been caused thereby, to receive from the party who has broken the contract reasonable compensation not exceeding the amount so named or, as the case may be, the penalty stipulated for…………. Explanation- A stipulation for increased interest from the date of default may be a stipulation by way of penalty.”
From the plain reading of the Section 74, it can be said that the courts are not bound to treat the sum mentioned in the contract, either by way of liquidated damages or penalty, as the sum payable as damages due to breach. Section 74 allows courts to grant reasonable compensationso as to cover the actual loss sustained, not exceeding the amount named in the contract. The section does not confer a special benefit upon any party. It says that notwithstanding any term in the contract predetermining damages or providing for forfeiture of any property by way of penalty, the court will award to the party aggrieved only reasonable compensation not more than the amount named or penalty stipulated. The section also implies that though the parties may by an agreement settle a fixed sum as damages for the breach , the court is not powerless to grant relief to the party committing default, if it is held that the amount of damages fixed by the parties were penal in nature. If the plaintiff however proves that the sum named in the agreement is the genuine pre-estimate, the court may grant entire sum named in the breach as compensation (Badhavan Singh vsCharan Singh)
The Supreme Court, in Fateh Chand v. BalKishan Das AIR 1963, held as follows: “Section 74 of the Indian Contract Act deals with the measure of damages in two classes of cases (i) where the contract names a sum to be paid in case of breach and (ii) where the contract contains any other stipulation by way of penalty. The measure of damages in the case of breach of a stipulation by way of penalty is by Section 74 reasonable compensation not exceeding the penalty stipulated for. In assessing damages the Court has, subject to the limit of the penalty stipulated, jurisdiction to award such compensation as it deems reasonable having regard to all the circumstances of the case. Jurisdiction of the Court to award compensation in case of breach of contract is unqualifiedexcept as to the maximum stipulated; but compensation has to be reasonable, and that imposes upon the Court duty to award compensation according to settled principles. The section undoubtedly says that the aggrieved party is entitled to receive compensation from the party who has broken the contract, whether or not actual damage or loss is proved to have been caused by the breach. Thereby it merely dispenses with proof of “actual loss or damage”; it does not justify the award of compensation when in consequence of the breach no legal injury at all has resulted, because compensation for breach of contract can be awarded to make good loss or damage which naturally arose in the usual course of things, or which the parties knew when they made the contract, to be likely to result from the breach… Duty not to enforce the penalty clause but only to award reasonable compensation is statutorily imposed upon courts by S. 74. In all cases, therefore, where there is a stipulation in the nature of penalty for forfeiture of an amount deposited pursuant to the terms of contract which expressly provides for forfeiture, the Court has “jurisdiction to award such sum only as it considers reasonable, but not exceeding the amount specified in the contract as liable to forfeiture.”
While in the case of ONGC vs Saw Pipes, AIR 2003 SC 2629 the Supreme Court of India concludes that liquidated damages should be regarded as reasonable compensation, while penalties should not. The Court says that when the words of the contracts are clear, there is nothing that the court can do about it. If the parties had agreed upon a sum as being pre- estimated genuine liquidated damages there was no reason for the tribunal to ask for the proof of loss. The Court concludes that when stipulation for damages is by way of penalty, it can grant reasonable compensation upon proof of damage. The Hon’ble Court, however, also reaffirms that no compensation at all be awarded if the court concludes that no loss is likely to occur because of the breach
According to Section 74, a stipulation for increased interest from the date of default may be a stipulation by way of penalty. It implies that such a stipulation may be considered a penalty clause anddisallowed by courts, if the enhanced rate is exorbitant. In the Mahabir Prasad vs DurgaDutta it was held by the court that unless parties have made stipulation for the payment of interest, or there is a usage to that effect, interest cannot be recovered legally. However, if the interest is exorbitant the courts will grant relief.
Forfeiture of earnest money is allowed if the amount is reasonable. But where it is in the nature of penalty, the court has the jurisdiction to award such sum only as it considers reasonable but not exceeding the amount so agreed (Fateh Chand vs Blakishen Dass).
Based on the above discussion it can be summarised that the principles governing the damages are clear. Both sections 73 and 74 place both the aggrieved and the defendant on the equal footing and law takes its position in the best interest of business or contract. The sections dealing with remoteness, proof of damages, duties to mitigate the loss and the one dealing with reasonableness are clear and explicit. The principle of damages is that the damages are a compensation and satisfaction for the injury or loss sustained
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