{"id":391523,"date":"2026-07-27T18:30:34","date_gmt":"2026-07-27T13:00:34","guid":{"rendered":"https:\/\/www.scconline.com\/blog\/?p=391523"},"modified":"2026-07-27T17:59:18","modified_gmt":"2026-07-27T12:29:18","slug":"section-74-proof-paradox-liquidated-damages-indian-contracts","status":"publish","type":"post","link":"https:\/\/www.scconline.com\/blog\/post\/2026\/07\/27\/section-74-proof-paradox-liquidated-damages-indian-contracts\/","title":{"rendered":"Section 74 and The Proof Paradox: The Evolving Judicial Standard for Enforcing Liquidated Damage Clauses in Indian Contracts"},"content":{"rendered":"
\n

A majority of commercial contracts across the world, especially construction contracts, include a liquidated damages (LD) clause, with an attempt to fix, in advance, the amount of compensation payable if one party fails to perform its obligations under the contract. The premise of LD clauses is rooted in the idea that in case of a breach, the parties can simply avoid lengthy disputes about the amount owed, since the contract itself has the answer. There is, however, a requirement in majority jurisdictions across the world that for an LD clause to be rendered enforceable, the specified amount or formula must be a reasonable estimate of the actual or anticipated harm caused by the breach.<\/p>\n

The position in India has been further nuanced by the courts. Indian Courts, through decades of judicial interpretation, have taken varying views regarding the enforceability of LD clauses. Prior to examining the same, it is critical to see the legislation in this regard. The Contract Act, 1872<\/a> (the Act<\/a>) discusses the consequences of breach of contract under Section 74<\/a> of the Act<\/a>, which states that in case of a breach, if a sum or formula is specified in the contract, the party complaining of 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”.1<\/sup><\/a><\/p>\n

From a preliminary reading of Section 74<\/a> of the Act<\/a>, it appears that the provision very deliberately aims to offer meaningful protection to the party holding an LD clause. Essentially, the statute states that where a contract has been broken and a sum has been named as the amount to be paid in case of such breach, the party complaining of the breach is entitled to receive reasonable compensation not exceeding the amount so stipulated. The phrase “whether or not actual damage or loss is proved” seems to suggest that the agreed sum can be enforced without the claimant having to demonstrate precisely what it lost. This would give LD clauses their intended commercial utility which involves certainty, predictability, and ease of enforcement.<\/p>\n

Interestingly, the judicial treatment of Section 74<\/a> of the Act<\/a> has been markedly different from this plain reading. The Supreme Court’s landmark decision on this point was in Fateh Chand<\/span> v. Balkishan Dass<\/span><\/a>2<\/sup><\/a>. The court held that while Section 74<\/a> of the Act<\/a> dispenses with proof of “actual loss or damage”, it does not justify an award of compensation where no legal injury at all has resulted from the breach. Compensation, the court reasoned, must be awarded to “make good loss or damage which naturally arose in the usual course of things”. This seemingly reasonable position planted the seed for a much stricter interpretation down the line, particularly in recent times.<\/p>\n

In Maula Bux<\/span> v. Union of India<\/span><\/a>3<\/sup><\/a>, the Supreme Court took a view that there is no need in every case to prove actual loss, and that courts are competent to award reasonable compensation even where no actual damage has been proved. This was further expanded in the landmark decision of ONGC<\/span> v. Saw Pipes Ltd.<\/span><\/a>4<\/sup><\/a> wherein the court observed that where loss is difficult to prove and the parties have pre-estimated such loss after a clear understanding, it would be unjustified to let the party in breach escape liability. The court reaffirmed that reasonable compensation can be awarded even without proof of actual damage. This view strongly supports the premise that parties entering into a contract, having consciously determined an amount or formula which is a reasonable estimate of loss, are entitled to the benefit of the clause in case of a breach, given that loss may be difficult to prove in certain circumstances.<\/p>\n

The position has shifted decisively with the decision in Kailash Nath Associates<\/span> v. DDA<\/span><\/a>.5<\/sup><\/a> The Supreme Court in this case held in unambiguous terms that damage or loss caused is a sine qua non<\/span> for Section 74<\/a> of the Act<\/a> to apply. Critically, the court clarified that the phrase “whether or not actual damage or loss is proved” does not dispense with proof of loss in all cases. It only does so where loss is genuinely difficult or impossible to prove. Where loss can be proved, it must be proved. Furthermore, an LD sum is only enforceable if it is a genuine pre-estimate of the damage or loss likely to be suffered, and even then, recovery is capped at what a court considers reasonable compensation.<\/span><\/p>\n

This stricter position has been consistently applied in recent decisions. In Jammu & Kashmir Economic Reconstruction Agency<\/span> v. Simplex Projects Ltd.<\/span><\/a>6<\/sup><\/a>, the Delhi High Court while dealing with a dispute that arose from the petitioner claiming delays and seeking to adjust LD from the contractor’s dues without proper adjudication, categorically held that an LD clause does not entitle a party to claim the whole stipulated sum automatically. The court further observed that the amount mentioned in the LD clause will also not be considered by the court to be a genuine pre-estimate of damages unless evidence is produced in furtherance of the same. Similarly, in Pashchimanchal Vidyut Vitran Nigam Ltd.<\/span> v. IL & FS Engg. & Construction Co. Ltd.<\/span><\/a>7<\/sup><\/a>, the Delhi High Court, while referring to the Simplex<\/span> decision above, upheld an Arbitral Tribunal’s decision that factual loss must be established despite the presence of an LD clause, and that automatic recovery of the entire stipulated sum upon breach is not permissible.<\/p>\n

The abovementioned line of cases goes on to show that a separate jurisprudence has evolved surrounding the interpretation and determination of liquidated damages in India. While Section 74<\/a> of the Act<\/a> itself states that an agreed sum can be enforced upon breach “whether or not actual damage or loss is proved to have been caused”, cases like Fateh Chand<\/span><\/a>8<\/sup><\/a> and Maula Bux<\/span><\/a>9<\/sup><\/a> held that the claiming party has to suffer legal injury for enforceability. The court in Kailash Nath<\/span><\/a> case<\/span>10<\/sup><\/a> went beyond to bring in judicial tests of proving actual damage or loss and of the amount specified being a genuine pre-estimate.<\/p>\n

This approach creates a fundamental tension with the very intent of having an LD clause in the first place. This essentially pushes a claiming party to prove that it actually suffered a loss. If no loss can be demonstrated, the clause provides no benefit. The court will not award the stipulated sum regardless of what the contract says. Further, even where loss is proved, the party must demonstrate that the LD sum was a genuine pre-estimate of likely loss at the time of contracting. This requires evidence of pre-contract deliberation, negotiation, and assessment of potential exposure, evidence that is rarely preserved and even more rarely produced before courts or tribunals, as illustrated starkly by the outcomes in the Simplex case<\/span><\/a>11<\/sup><\/a> and IL & FS case<\/span>12<\/sup><\/a> decisions. Finally, even if both of the above are established, the court retains the power to award only what it considers “reasonable compensation”, capped at the stipulated sum. As a result, the contractually agreed figure of liquidated damages is rendered at best, a ceiling, and not a floor. The added complexity fundamentally undermines the core purposes of an LD clause, i.e. certainty, simplicity, and efficiency in quantification. A potential result is that a party with an LD clause in its contract may find itself, after a breach, in nearly the same position as a party without one, having to adduce evidence, prove losses, and persuade a court or Tribunal to exercise its discretion in its favour.<\/p>\n

An analysis of the judicial treatment of LD clauses in other common law jurisdictions brings out an interesting perspective. In the United Kingdom, the legal principles related to enforcement of LD clauses require a genuine pre-estimate of losses and being reasonable. The courts have further considered factors like bargaining powers of the parties to decide enforceability. The UK Supreme Court in Cavendish Square Holding BV<\/span> v. Makdessi<\/span><\/span>13<\/sup><\/a> observed that where a contract is negotiated between parties of “comparable bargaining power” the courts will not interfere unnecessarily to enforce the LD clause, unlike situations where one of the contracting parties has a dominant bargaining power, where the courts will be cautious in enforcing LD clauses. In Australia, as held in Andrews<\/span> v. Australia and New Zealand Banking Group Ltd<\/span>.<\/span><\/span>14<\/sup><\/a>, an LD clause is usually enforced by the courts as long as it is proportional and reflects a legitimate interest of the parties involved without being oppressive or unconscionable. Therefore, the foreign perspective leans towards enforcing LD clauses as agreed between the parties while maintaining a fine balance between commercial interests of parties and oppressive penalty stipulations.<\/span><\/p>\n

Therefore, the issue that arises for commercial entities in India (including foreign entities executing contracts in India) looking to incorporate such LD clauses in their contracts is that they are met with an approach which is significantly different from other common law countries. The liquidated damages clause, originally intended to give both parties certainty about financial exposure and remove the need for costly litigation over quantum, has become another question of fact subject to weight of the evidence adduced and tests of judicial interpretation.<\/p>\n

In conclusion, the law on liquidated damages in India, as it stands today, presents a paradox. Section 74<\/a> of the Act<\/a> appears to offer a straightforward mechanism for enforcing agreed sums upon breach, yet, decades of judicial interpretation, likely based on societal and commercial needs as they develop, have effectively rewritten this position. This approach tends to render Section 74<\/a> of the Act<\/a> and the LD clause incorporated in the contracts as obsolete and practically unenforceable. Legislative clarity on the law in this regard is thus the need of the hour, especially for multinational corporations, to be able to incorporate effective LD clauses based on their commercial interests and their experience in other jurisdictions.<\/p>\n<\/div>\n\n

*Partner, Cyril Amarchand Mangaldas.<\/span><\/strong><\/p>\n

**Principal Associate, Cyril Amarchand Mangaldas.<\/span><\/strong><\/p>\n

***Associate, Cyril Amarchand Mangaldas.<\/span><\/strong><\/p>\n

1.<\/a> Contract Act, 1872<\/a>, S. 74<\/a>:<\/p>\n

74. Compensation for breach of contract where penalty stipulated for<\/span>.— 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 contract contains 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.<\/p>\n

2.<\/a> 1963 SCC OnLine SC 49<\/a>, para 10.<\/p>\n

3.<\/a> (1969) 2 SCC 554<\/a>, para 6.<\/p>\n

4.<\/a> (2003) 5 SCC 705<\/a>, paras 67—68.<\/p>\n

5.<\/a> (2015) 4 SCC 136<\/a> : (2015) 2 SCC (Civ) 502, para 43.<\/p>\n

6.<\/a> 2025 SCC OnLine Del 3515<\/a>, paras 30—34.<\/p>\n

7.<\/a> 2026 SCC OnLine Del 1806<\/a>, paras 20—21.<\/p>\n

8.<\/a> Fateh Chand<\/span> v. Balkishan Dass<\/span><\/span><\/a>, 1963 SCC OnLine SC 49<\/a>.<\/span><\/span><\/p>\n

9.<\/a> Maula Bux<\/span> v. Union of India<\/span><\/span><\/a>, (1969) 2 SCC 554<\/a><\/span><\/p>\n

10.<\/a> Kailash Nath Associates<\/span> v. DDA<\/span><\/span><\/a>, (2015) 4 SCC 136<\/a> :<\/span> 2015) 2 SCC (Civ) 502.<\/span><\/p>\n

11.<\/a> Jammu & Kashmir Economic Reconstruction Agency<\/span> v. Simplex Projects Ltd<\/span>.<\/span>, 2025 SCC OnLine Del 3515<\/a>.<\/span><\/p>\n

12.<\/a> Pashchimanchal Vidyut Vitran Nigam Ltd.<\/span> v. IL & FS Engg. & Construction Co. Ltd.<\/span><\/span><\/a>, 2026 SCC OnLine Del 1806<\/a>.<\/span><\/span><\/p>\n

13.<\/a> (2016) AC 1172 : (2015) UKSC 67.<\/p>\n

14.<\/a> Andrews<\/span> v. Australia and New Zealand Banking Group Ltd.<\/span>, (2012) 247 CLR 205.<\/p>\n","protected":false},"excerpt":{"rendered":"

by Pallavi Singh Rao*, Sukanya Singh** and Tridib Mandal***<\/p>\n","protected":false},"author":67011,"featured_media":391524,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[30936,20271],"tags":[110902,110901,110904,110898,110899,110900,110896,110897,110895,110903],"class_list":["post-391523","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-cam","category-experts_corner","tag-breach-of-contract-damages","tag-compensation-under-section-74","tag-contract-law-developments-in-india","tag-enforcement-of-liquidated-damages-in-india","tag-indian-contract-law","tag-judicial-standards-for-liquidated-damages","tag-liquidated-damages-clauses-in-contracts","tag-proof-paradox-in-liquidated-damages","tag-section-74-indian-contract-act","tag-supreme-court-judgments-on-liquidated-damages"],"yoast_head":"\nSection 74 and The Proof Paradox: Judicial Standards for Liquidated 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