September 10, 2020

Liquidated Damages (Penalties) in Uzbekistan

Content:

1. Liquidated Damages in English Law

2. Liquidated Damages (Penalty) in Uzbekistan

3. The Difference between English Liquidated Damages and Uzbek Penalty

4. Correlation of Damages, Penalty and Percentages in Uzbekistan

5. The Penalty in Construction Contracts

6. The Procedure for Recovering the Penalty for Economic Entities

7. Defenses against the Penalty

Normative Legal Acts, Cases, and Literature Used:

1. Dunlop Pneumatic Tyre Ltd v. New Garage and Motor Co Ltd [1915] AC 79;

2. Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Ltd v Beavis [2015] UKSC 67;

3. Civil Code of the Republic of Uzbekistan;

4. Economic Procedure Code of the Republic of Uzbekistan;

5. The Law of 29.08.98 No. 670-I “On the Legal Framework for the Activities of Economic Entities”;

6. The Law of 29.08.01 No. 258-II “On the Execution of Judicial Acts and Acts of Other Bodies”;

7. The Resolution of the Plenary of the Supreme Economic Court of the Republic of Uzbekistan dated 15.06.07 No. 163 “On Some Issues of Application of Civil Legislation Acts on Property Liability for Non-Performance or Improper Performance of Obligations”;

8. The Resolution of the Plenary of the Supreme Economic Court of the Republic of Uzbekistan dated 04.03.02 No. 103 “On Some Issues of Practical Application of the Law of the Republic of Uzbekistan by Economic Courts ‘On the Legal Framework for the Activities of Economic Entities’”;

9. Sir Jack Beatson, Andrew Burrows, John Cartwright, Anson’s Law of Contract (29th edition, Oxford University Press, 2010);

10. Edwin Peel, Sir Guenter Heinz Treitel, Treitel on the Law of Contract (13th edition, Sweet&Maxwell, 2011).

1. Liquidated Damages in English Law

Liquidated damages in English law emanate from the desire of contracting parties to make their own provision for the consequences of a breach of contract. In particular, the parties may insert into the contract a clause quantifying or liquidating the sum payable in case of a breach of contract. However, mere indication on liquidated damages clause in the contract does not automatically entail implication of such a clause by the court. Par excellence, the courts have the power to regulate these provisions and even may recognize such clauses as being penalties, which will not be enforced. Therefore, when inserting liquidated damages in the contract it is highly important not to confuse the liquidate damages clause with penalty clause. In the next paragraph it will be considered what exactly constitutes a penalty and liquidated damage.

In 16th century there appeared the rule against penalties. However, in 19th century with more emphasis on the concept of freedom of contract the courts introduced the new classification of what exactly constitutes penalty. Thus, the prohibition of implication of penalty clause was not eliminated but was stipulated. In particular, in the case of Dunlop Pneumatic Tyre Ltd v. New Garage and Motor Co Ltd [1915] AC 79, HL Lord Dunedin rationalized and consolidated the concept of penalty as well as drew a line between a liquidated damages clause and a penalty clause. Particularly, various tests were illustrated:

  1. It will be held to be penalty if the sum stipulated for is extravagant and unconscionable;
  2. It will be held to be a penalty if the breach consists only in not paying a sum of money, and the sum stipulated is a sum greater than the sum which ought to have been paid;
  3. Presumably, that it is penalty when “a single lump sum is made payable by way of compensation, on the occurrence of one or more or all of several events, some of which may occasion serious and others but trifling damage”;
  4. It is no obstacle to the sum stipulated being a genuine pre-estimate of damage, that the consequences of the breach are such as to make precise pre-estimation almost an impossibility.

To sum up, the parties are free to establish the sum of liquidated damages unless such sum is (a) extravagant and unconscionable, (b) greater than it is reasonably ought to be, (c) when it is applicable for both serious and trifling damages.

However, in 2015 the rule concerning penalties was even more liberated in the combined cases of Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Ltd v Beavis [2015] UKSC 67. Summarizing, conscientious and proportionate sum is a liquidated damage, whereas extravagant and unconscionable one is a penalty.

2. Liquidated Damages (Penalty) in Uzbekistan

Liquidated damages (penalty) (hereinafter – the “Penalty”) in Uzbekistan is a sum payable in case of breach of contract (non-performance or improper performance) by defaulted party which is determined by law and can be determined by the parties in the contract (Article 260 of Civil Code). As in English law Penalty in Uzbekistan is determined in advance. Penalty can be in the form of fine or penalty fee. Generally, a fine is established in fixed amount, whereas a penalty fee is calculated in percentages and for delay of contractual performance (Article 261 of Civil Code). Besides, there is a mandatory requirement for the agreement on Penalty, particularly, it shall be concluded in written form (Article 261 of Civil Code). As can be seen, in Uzbekistan Penalty might be imposed both by a contract and by law. Besides Penalty prescribed by law can be imposed independently from whether Penalty is prescribed by the contract or not. Moreover, the amount of Penalty imposed by law can be either increased or diminished (with stipulation see. below). However, the courts has the power to diminish established Penalty on their discretion in accordance with the proportionality of the established liquidated damages taking into account the degree of performance of obligations by the debtor, the property status of the parties involved in the obligation, as well as the interests of the creditor (Paragraph 4 of The Resolution of the Plenary of the Supreme Economic Court of the Republic of Uzbekistan dated 15.06.07 No. 163).

3. The Difference between English Liquidated Damages and Uzbek Penalty

As can be figured out from the previous paragraphs the main difference between English liquidated damages and Uzbek Penalty is that the English court has the power to recognize liquidated damages clause not enforceable on the grounds of that it represents a penalty. At the same time, penalty in English law is an extravagant and unconscionable sum, whereas in Uzbekistan the Penalty also cannot be disproportionate and unconscionable. Otherwise the sum of the Penalty can be diminished by the court, not eliminated though.

Moreover, in English law liquidated damages may only be predetermined by the parties in the contract, whereas in Uzbekistan the Penalty is also envisaged by law and is enforceable regardless the fact whether the parties include such a clause in the contract.

4. Correlation of Damages, Penalty and Percentages in Uzbekistan

To start with before considering the correlation between damages, the Penalty and percentages it is highly significant to differentiate between the three. First, the Penalty, being a predetermined measure is in its nature first of all one of the types of guarantee of the performance of an obligation and then is the type of liability for non-performance or improper performance of an obligation. At the same time, damages and percentages are the types of liability for non-performance or improper performance of an obligation.

In case of damages actual damage and loss of profit shall be taken into consideration (Article 14 of Civil Code). Actual damage constitutes damages suffered or which will be suffered for restoration of violated right by the party because of non-performance or improper performance of an obligation. Loss of profit purports profit which would have been occurred if there had been no non-performance or improper performance. Unlike the Penalty, for damages to be compensated a creditor shall provide evidence of loss caused, whereas for the Penalty to be compensated the mere fact of non-performance or improper performance of an obligation would suffice.

Here, it should be noted that non-performance or improper performance of an obligation may be manifested in such forms as delay in delivery; no payment for the goods or services; delivery of goods in the amount other than it is indicated by contract and so on.

In the occurrence of the circumstances mentioned in the previous paragraph the debtor shall compensate damages incurred and/or the Penalty. Generally, damages are compensated only in the part where the Penalty does not cover incurred damages (offset penalty). However the law or a contract can establish other ways of compensation. For instance, it can be established that (1) only the Penalty would be compensated; (2) or the Penalty and damages in full would be paid; (3) or either the Penalty or damages would be compensated depending on the choice of a creditor (Article 325 of Civil Code). In the first situation the parties have a possibility to resolve disputes quickly. In the second situation, compensation of both the Penalty and damages has a punitive effect and thus is implemented only in exceptional cases. Finally, the third situation is applicable when it is difficult to determine the amount of possible losses when concluding a contract. It should be noted that, damages may be imposed regardless of the fact whether the Penalty is imposed or not (Article 34 of the Law of 29.08.98 No. 670-I).

In case of non-performance of monetary obligation a debtor may have a liability to pay percentages commensurate to the sum of this monetary obligation (Article 327 of Civil Code). In particular, the amount of percentages is determined in accordance with bank interest discount rate in the location of a legal entity or residence of an individual at the time of performance of a monetary obligation. For instance, the policy rate (bank interest discount rate) in the Central Bank constitutes 14% from 11th of September 2020. However, the parties or other law may establish a different amount of percentage. In case, a contract prescribes implementation of the Penalty (penalty fee) for delay in performance of monetary obligation, the creditor would have a right to choose either penalty fee or percentage established by law (Paragraph 13 of the Resolution of the Plenary of the Supreme Economic Court dated 15.06.07 No. 163). However, this provision is of a non-binding character, inter alia, a contract or law may establish a different norm. Moreover, if losses of the creditor exceed the sum paid as a percentage, then damages shall be paid for the part not covered by percentage (offset percentage).

5. The Penalty in Construction Contracts

First of all according to the article 634 of Civil Code the liability for non-performance or improper performance of obligations by customer or by subcontractor in construction contracts lies with a general contractor. Therefore, if the subcontractor delays in performance of work, or does not perform his work, then the general contractor will be liable before the customer in accordance with the article 25 of the Law of 29.08.98 No. 670-I. In particular, the general contractor will pay to the customer a penalty fee in the amount of 0,5% of non-performed work for each day of delay, however the total amount of penalty fee shall not exceed 50% of non-performed work. Besides, the general contractor will also be liable for damages incurred by the delay. This provision is of non-binding effect, thus, by the consent of the parties or by legislation other norms may apply (article 24 of the Law of 29.08.98 No. 670-I). However, notably, when the customer with the consent of the general contractor concludes contracts with other contractors, these contractors are liable for non-performance or improper performance by themselves.

6. The Procedure for Recovering the Penalty for Economic Entities

To begin with when claiming the Penalty the creditor shall not prove losses (article 260 of Civil Code). The Penalty can be charged with the occurrence of the fact of non-performance or improper performance of an obligation.

Non-compliance with written form of the Penalty, in case of contract Penalty, leads to invalidity of such agreement (Article 115 of Civil Code).

It should be taken into account that the Penalty established by law (Articles 25-32 of the Law of 29.08.98 No. 670-I) can be changed by the discretion of the parties. The size of the Penalty established by law can be increased by the parties (article 24 of the Law of 29.08.98 No. 670-I and article 263 of Civil Code).

As it was previously mentioned the Penalty can be in the form of fine or penalty fee. Establishing the imposition of both fine and penalty fee for the same violation is not enforceable (paragraph 3 of the Resolution of the Plenary of the Supreme Economic Court dated 15.06.07 No. 163). Calculation of penalty fee or fine begins on the next day of the end of performance of obligations. In case? When such period is not indicated the calculation is made after the expiration of the seven-day period from the date of the creditor’s claim from performance of an obligation (paragraph 16 of the Resolution of the Plenary of the Supreme Economic Court dated 15.06.07 No. 163).

The question concerning whether it is possible to set off the amount of the Penalty against a principal debt is not tested.

6.1 Pre-trial Procedure

For an economic entity to charge the Penalty from other economic entity in pre-trial manner, a claim shall be presented. Such a claim shall be made in written form. There is a list what shall be indicated in the claim:

  • names of the economic entity that submitted the claim and the economic entity that received the claim;
  • date of submission and claim number;
  • circumstances that are the basis for filing a claim (the fact of non-performance or improper performance of an obligation);
  • evidence supporting the circumstances set forth in the claim;
  • claimant’s requirements;
  • claim amount and its calculation, payment and postal details of the claimant;
  • list of documents attached to the claim.

The claim shall be signed by director or deputy director of an economic entity, filing the claim.

The economic entity received the claim is obliged to respond to the claim within fifteen days from the date of receipt of the sealed claim with the signature of director or deputy director of the economic entity.

6.1.1 Enforcement

In case of full or partial recognition of the claim, the economic entity voluntarily credits the recognized amount of the Penalty to the claimant.

If the response to the recognition of the claim does not indicate the transfer of the recognized amount, the claimant has the right, after twenty days after receiving the response, to submit an order to the Bank to write off the amount recognized by the debtor in an undisputed manner. The debtor’s response is attached to the order (articles 17 and 18 of the Law of the Republic of Uzbekistan of 29.08.98 No. 670-I).

6.2 Judicial Procedure

In case when after receiving a refusal (partial refusal) or not receiving a response to the claim within the established period, as well as without filing a claim under economic contracts, the claimant may submit a claim and an application for a court order to the economic court. The procedure for filing these applications is determined by the Economic Procedure Code (article 19 of the Law of the Republic of Uzbekistan of 29.08.98 No. 670-I).

When considering the charging of the Penalty the courts will pay attention on such issues as:

  1. accrual of the amount of the Penalty in accordance with the requirements of the law;
  2. reasonableness of the Penalty;
  3. proportionality to the consequences of breach of obligation (Paragraph 2 of the Resolution of the Plenary of the Supreme Economic Court of the RUz dated 15.06.07 No. 163).

Furthermore, the court has the power to diminish the amount of the established Penalty in case of its disproportion. However, it is stated that the minimum size of the Penalty shall not be less than percentages envisaged by the article 327 of Civil Code, in other words, not less than bank interest discount rate in the location of a legal entity or residence of an individual at the time of performance of an obligation (Paragraph 4 the Resolution of the Plenary of the Supreme Economic Court of the RUz dated 15.06.07 No. 163). If the claimant has reasonably stated a claim for recovery of the Penalty, but its amount is reduced by the court in accordance with the right granted to it by law, the court costs are attributed to the defendant based on the amount of the Penalty that would be subject to recovery without taking into account its reduction (article 118 of Economic Procedure Code).

If necessary, with the consent of the parties, the courts have the right to appoint an expert examination and, based on its results, decide on the application and determination of the amount of the penalty, based on the proportionality of the penalty and the damage caused (paragraph 11 of the Resolution of the Plenary of the Supreme Economic Court of the Republic of Uzbekistan dated 04.03.02 No. 103).

6.2.1 Enforcement

An enforcement document containing the requirements of judicial acts and acts of other bodies for the recovery of funds may be sent by the claimant to a Bank or other credit institution, if the claimant has information about the debtor’s accounts there.

A Bank or other credit institution that services the debtor’s accounts shall, within three days from the date of receipt of the enforcement document, fulfill the requirements for recovery of funds contained in the enforcement document or make a note of full or partial non-fulfillment of these requirements due to the lack of funds on the debtor’s accounts sufficient to satisfy the claimant (article 4 of the Law of 29.08.01 No. 258-II).

7. Defenses against the Penalty

7.1 Duty to mitigate and contribution

If the creditor intentionally or by negligence contributes to the occurrence of impossibility of performance of the obligation or to the size of losses caused by the non-performance, and if the creditor intentionally or by negligence did not take measures to reduce losses from nonperformance, a court may reduce the amount of compensation or to refuse the creditor in compensation. In other words, (a) first, if there is a contribution by the creditor to non-performance or improper performance of an obligation, then this circumstance can be used by the debtor as a defense and, (b) second, the creditor has a duty to mitigate damages and the Penalty, otherwise the court can reduce the amount of damages or the Penalty or to refuse the creditor in compensation at all. By mitigation it is assumed that the creditor shall take measures to decrease losses.