3 Types of Construction Contract Damages

3 Types of Construction Contract Damages

In today’s construction climate, building projects and construction contracts can be extremely complex. A Contractor must become thoroughly familiar and fully understand the contract’s terms and conditions.

Any uncertainty with the provisions in a contract may lead to costly disputes whether the resolution is by way of mediation, arbitration, or litigation. All of these dispute resolution forums can be expensive and time-consuming. The ultimate purpose of dispute resolution is to determine the amount of money the party claiming to be damaged by a contract breach can reasonably expect to recover. 

There are generally three classifications of damages in a construction contract:

  1. Direct
  2. Liquidated
  3. Consequential

Direct Damages

Direct or actual damages are easy to calculate since they are the actual cost to repair or replace any defective or deficient work. Included could be any additional cost to complete the project over the original contract price in the event the Contractor failed to complete the work properly or in a timely manner.

Consequential Damages

However, consequential damages are much more problematic to calculate or predict, as they affect completion delays and the project being built properly. It is a difficult task to determine what it may cost a Project Owner in the event a project is not completed properly or in a timely manner. There are so many uncertainties such as lost profits, damage to business reputation, and goodwill. How does one place a dollar amount on these uncertainties?

The legal theory of consequential damages derives from the 1854 English contract law case of Hadley v. Baxendale. The Court held that to determine consequential damages from a breach of contract: a breaching party is liable for all losses that the contracting parties should have foreseen—but is not liable for any losses that the breaching party could not have foreseen—on the information available to him at the time the contract was entered into. Although the Court held foreseeability as the cornerstone of liability, one must still determine the dollar amount to place on the loss caused by the breach.      

It is possible that a Contractor may be held liable and pay for damages more than the contract price. This amount may be less than profits the Project Owner might have realized if the contract had been properly performed and in a timely fashion. New businesses can be problematic since they do not have a history of annual profits; such amounts cannot be reasonably estimated.

Therefore, in order to avoid either situation, parties may agree to contractually waive consequential damages and agree to a somewhat more predictable form of damages in the event of a contract breach.

Liquidated Damages

Liquidated damages can be challenging to calculate, as they are for intangible or hard to define losses. Liquidated damages in a contract may be paid in the form of a lump sum or based on a period of delay. Two examples showing this are:

  1. The lump sum could be $25,000 in the event of a breach.
  2. $500 per day for each day the project remains incomplete after the agreed-upon date of substantial completion date.

No matter the construction project, it’s important that as an Owner or Contractor you must understand your contracts. Disputes often occur, even when we don’t think they will—which is why it’s better to protect yourself upfront. It’s always best to work with a Broker experienced in the Construction industry, so they can review the contract before you sign it.

If you want to learn more about what to look for in your contract or want an expert to review a current construction contract, reach out to TSIB today!

Understanding Contractual Risk Transfer

image credit: Panumas Yanuthai/shutterstock.com