Do Colorado courts still enforce liquidated damages provisions? When are such provisions enforceable? As a litigator, I notice this is a frequent topic of conversation among my transactional attorney friends when they are drafting contracts with no real consensus. So, what does Colorado law say?
The quick answer is yes, liquidated damages provisions are enforceable in Colorado so long as they do not constitute a “penalty.” The Court in Board of County Com’rs of Adams County v. City and County of Denver laid out the following test to determine if and when a liquidated damages clause is enforceable (i.e., when they do not constitute a penalty): (1) were the anticipated damages difficult to ascertain when the contract was entered into?; (2) did the parties mutually intend to liquidate them in advance?; and (3) was the amount of liquidated damages, at the time the contract was made, a reasonable estimate of the potential actual damages the breach would cause?[1] If the answer to all three questions is yes, then the clause is enforceable.[2]
The second question may be difficult to answer – how does a court know whether the parties intended, mutually, to liquidate the damages in advance? A court will look at a number of factors, including the contract’s subject matter and the purposes and objects it seeks to accomplish. A court may also look at the circumstances surrounding the creation.[3] Thus, it is critical that a contract that contains a liquidated damages clause be drafted to shed light on these three questions.
Another question arises when a contract offers the non-breaching party the choice between actual and liquidated damages. Colorado courts will uphold the enforceability of the liquidated damages clause [4] even in this scenario. While states are split on this question, Colorado falls on the side of enforceability. This does not mean such a provision will always be upheld – it must still satisfy the three factors. But the choice between two types of damages will not automatically void the liquidated damages clause.
Last but not least, beware – not all states will enforce a liquidated damages clause, so be cautious when advising clients entering into contracts outside of Colorado.
[1] 40 P.3d 25, 29 (Colo. App. 2001) (citing Perino v. Jarvis, 312 P.3d 108 (Colo. 1957)).
[2] See also Ravenstar LLC v. One Ski Hill Place LLC, 405 P.3d 298 (Colo. App. 2016).
[3] Powder Horn Constructors, Inc. v. City of Florence, 754 P.2d 356 (Colo. 1988).
[4] Ravenstar LLC v. One Ski Hill Place LLC, 405 P.3d 298, 303 (Colo. App. 2016), aff’d by 401 P.3d 552 (Colo. 2017).
