Germany Update: Landmark ruling: Federal Court of Justice tightens requirements for effective contractual penalty agreements in unit price contracts

For decades, it seemed as if the Federal Court of Justice had already said everything that had to be observed about the formal agreement of contractual penalties in general terms and conditions for construction contracts. All the more surprising and of fundamental importance is the decision of the Federal Court of Justice of 15.02.2024 (Az.: VII ZR 42/22).

The Federal Court of Justice has ruled with regard to the formal agreement of contractual penalties in construction contract law in the case of unit-price contracts that linking the maximum limit of the contractual penalty to the net contract amount unreasonably disadvantages the contractor and is therefore invalid. The central argument is that, in the case of a unit price contract, the actual settlement amount may fall short of the original contract amount due to a reduction in the volume of the contract (in particular due to the execution of smaller quantities).

The Federal Court of Justice points out that, according to its settled case-law, the interests of the contractor must also be taken into account when assessing the admissibility of a contractual penalty. This includes, in particular, that the contractual penalty agreed for exceeding a deadline must be proportionate to the remuneration for work earned by the contractor through his performance, taking into account its pressure and compensation function. Although the pressure function does indeed allow for a noticeable contractual penalty, care must be taken to ensure that the contractual penalty is kept within economically reasonable limits. Measured against this, a contractual penalty of more than 5% of the contract value is too high. The contractor is typically unduly burdened by the loss of more than 5% of his right to remuneration.

If, however, the final, ‘objectively correct’ settlement amount in the final invoice falls short of the original contract amount, such a situation arises which unreasonably puts the contractor at a disadvantage.

In practice, this means that contractual penalty clauses in unit-price contracts must be adapted in a form that takes account of this circumstance.

The question of whether the case law of the Federal Court of Justice must also be applied to security agreements is also exciting. Security agreements in contracts, in particular those for contract performance security, are typically also linked to the net contract amount. This is because at the time of the provision of the contract performance security, there is typically no other connecting factor. If necessary, clarification should also be provided here in the case of unit price contracts in order not to risk the invalidity of the entire security agreement.

By MELCHERS, Germany, a Transatlantic Law International Affiliated Firm.  

For further information or for any assistance please contact germany@transatlanticlaw.com

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