CJCL Swaminathan De-Inventing The Wheel

The Chinese Journal of Comparative Law (2018) Vol. 6 No. 1 pp.
103^127
Advance Access publication 10 May 2018 doi:10.1093/cjcl/cxy001
De-inventing the Wheel:

Liquidated Damages, Penalties
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and the Indian Contract Act,
1872
Shivprasad Swaminathan
Abstract
The drafters of the Indian Contract Act, 1872 had boldly sought to dispense with the
English law’s troublesome liquidated damages-penalty dichotomy by providing in
Section 74 that sums stipulated in the contract were to be awarded notwithstanding
any proof of ‘actual damage or loss’, and, as a safety valve, empowered courts to scale
down the sum. The drafters astutely avoided any reference to ‘liquidated damages’ or
‘penalties’ by employing the neologism ‘sum named in the contract’. Fast-forward by a
century and a half, however, and one finds a double dissonance between the drafters’
blueprint and the law. First, the liquidated damages^penalty distinction has now
become firmly entrenched in Indian law without any real scholarly or judicial resistance.
Second, ‘reasonable compensation’ is now confined to compensation for damage or loss.
The article hypothesizes that much of this is attributable to an ambiguity unwittingly
introduced by theçuniversally overlookedç1899 amendment to section 74, the chief
architect of which was the ace draftsman and treatise writer Mackenzie Chalmers.
The amendment had meant to ‘slightly extend’ section 74 so as to cover some hitherto
unregulated casesçnamely, increased interest stipulations, acceleration clauses, and
payments in specieçbut did so by using the poorly chosen phrase ‘or:::any other stipula-
tion by way of penalty’ to convey this extension. This drafting slip-up was to become the
Trojan horse that let in the English law’s notion of ‘penalty’ and along with it, came teth-
ered, the notion of ‘liquidated damages’.

Shivprasad Swaminathan, Associate Professor, Jindal Global Law School, O.P. Jindal Global
University, Sonipat, Haryana, Delhi NCR, India, 131001. Email: sswaminathan@jgu.edu.in.
Many thanks are due to Prashant Iyengar for generously making available, archival material
pertaining to Legislative Department Proceedings, 1872; to Niranjan Venkatesan and Ragini
Surana who gave insightful comments on an earlier draft of the paper; and to Tejasvini Puri
and Radhika Kothari for their research assistance. The author benefitted greatly from the use
of the library of the Max Planck Institute for Comparative and International Private Law,
Hamburg; and from having interacted with Reinhard Zimmermann, Director of the Institute.
ß The Author(s) (2018). Published by Oxford University Press. All rights reserved.
For permissions, please email: journals.permissions@oup.com
104 The Chinese Journal of Comparative Law
I. A troublesome knot in the common law

In an apocryphal encyclopaedia, Jorge Luis Borges tells us, animals are divided
into fourteen taxonomical categories, some of which are as follows: ‘those that
belong to the Emperor’; ‘fabulous’ ones; those ‘included in the present classifica-
tion’; and ‘those that from a long way off look like flies’.1 It would hardly require
a professional logician to spot the snag in the classification. It is neither ex-

haustive nor mutually exclusive. Its criteria are arbitrary, and how one classi-
fied any given animal would be down to adventitious happenstance shorn of
any constraining normative guidance from the categories themselves. A cen-
tral doctrine of the English law of contractçthe liquidated damages^penalty
dichotomyçhas revolved around the fulcrum of a dichotomy that, it could be
argued, has operated in just this manner. The liquidated damages^penalty di-
chotomy is neither exhaustive of the entire spectrum of contractual stipula-
tions nor are the categories mutually exclusive.
If a stipulated sum is a genuine pre-estimate of damages expected on breach,
the dichotomy went, it is a liquidated damages clause and, hence, to be
enforced in its entiretyçeven if no loss were actually caused. If a clause is
not that, it was deemed to be a penalty which is, in terrorem, meant as a sanc-
tion to goad a party into performance and, hence, to be not enforced.2 It was
to be all or nothing at all, with nothing in between. Imposing a sliding scale
and thereby tinkering with the agreement so as to ‘reflect a more equitable pos-
ition’ was something unacceptable to the common law mind.3 Its lack of adapt-
ability to a sliding scale was, however, the least of this taxonomy’s foibles.
There were more existential problems afoot.
Like Borges’ animals, there could be stipulations that could have simultan-
eously fallen in both categoriesçor, indeed, in neither. If the idea of in terrorem
is to be understood in psychological terms, there is no good reason to suppose
that a genuine liquidated damages clause would not deter. As a phenomeno-
logical matter, it would, in all probability, deter just as any other contractual
remedy would.4 The classification supported another logical oddity.
Stipulations in cases where it was not possible to offer a genuine pre-estimate
of loss were because of the very reason of not being amenable to a genuine
pre-estimate of damages, classified as liquidated damages clauses.5 This was
1
Jorge Luis Borges, ‘John Wilkins’Analytic Language’ in E Weinberger (ed), Selected Non-Fictions
(Penguin 1999) 229^32, 231.
2
Edwin Peel, Treitel on the Law of Contract (13th edn, Sweet & Maxwell 2011) 1073. The term in
terrorem is of Roman legal heritage, where it was regarded as a perfectly legitimate function
of a provision for stipulated sums that it exerts pressure for compliance with the agreement.
Pascal Hachem, Agreed Sums Payable upon Breach of Agreements: Rethinking penalty and
Liquidated Damages Clauses (Eleven International Publishers 2011) 29^30.
3
Martin Hogg, Promises and Contract Law: Comparative Perspectives (CUP 2011) 395.
4
Mindy Chen-Wishart, ‘Controlling Power to Agree Damages’ in Peter Birks (ed), Wrongs and
Remedies in the Twenty First Century (OUP 1996) 271^300.
5
Clydebank Engineering and Shipbuilding Company Ltd v Don Jose Ramos Yzquierdo y Castenada &
Others (1905) AC 6.
De-inventing the Wheel 105
something of an antinomy because the very definition of a liquidated damages

stipulation was its susceptibility to a genuine pre-estimate of loss. Then, there
was the case of forfeiture of deposits or advance payments. Here, it was recog-
nized that creating ‘fear’of sanctions to perform a contract was a genuine func-
tion of a deposit and accordingly reasonable deposits were allowed to be
forfeited although they were not genuine pre-estimates of damage.6

If there was a bit of the common law to which T.E. Holland’s moniker of being
in a state of ‘chaos’ applied on all fours, it was this. And it was here thatç
with apologies to Lord Denningç‘bold spirits’ of great judges past sagged to
the resignation that no order was to be deciphered.7 In Dunlop Pneumatic Tyre
Co Ltd v New Garage and Motor Co Ltd, Lord Atkinson had suggested a more
transparent approach to the problem.8 The test he proposed was to determine
the propriety of interest that the agreed stipulation sought to protect. Dunlop,
however, was destined to become synonymous with Lord Dunedin’s compensa-
tory^penal dichotomy, which has since been sought to be used as a code-like
formula by courts.9 When, in 2015, the United Kingdom Supreme Court even-
tually set right the ‘artificial categorization’ of the law in this area, it drew on
Lord Atkinson’s approach and posited a test of ‘legitimate interest’on which sti-
pulated sums were to be policed. This brought the English law closer to the
‘reasonableness’ test used by courts in the USA, which adjudicates on stipula-
tions on the basis of whether ‘the clause is reasonable under the totality of
circumstances’.10
The contours of the liquidated damages^penalty dichotomy have, no doubt,
shifted over the two centuries of its career, but by the 1860s, when the Indian
Contract Act was being drafted, it had already earned notoriety for its obscur-
ity. Best CJ observed in 1827 that ‘the law relative to liquidated damages
has been in a state of great uncertainty’.11 The Privy Council noted in
1858 that the ‘great number of decisions’ on the subject at English law
were ‘not strictly reconcilable’ with each other.12 This ‘arbitrary’ and ‘compli-
cated’13 welter of precedent would hardly have commended itself to the
6
‘It [deposit]:::creates by the fear of its forfeiture, a motive in the payer to perform the rest of the
contract’ Howe v Smith (1884) 27 ChD 89, 101 (Fry LJ).
7
Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Limited v Beavis [2016] AC 1172,
1192 (Lord Nueberger and Lord Sumption) (Cavendish).
8
Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd [1915] AC 79.
9
Cavendish (n7) 1199 (Lord Nueberger and Lord Sumption).
10
Lon Fuller, Melvin Eisenberg, Mark Gregen, Basic Contract Law (West 2013) 352^3;
Restatement, Contracts x 339; Restatement, Contracts 2d x 356. See Shivprasad Swaminathan
‘A Centennial Refurbishment of Dunlop’s Contractual Concepts’ (2016) 45 Common Law World
Review 248^256.
11
Crisdee v Bolton (1827) 3 Car & Pay 240.
12
Dimech v Corlett (1858) 12 Moore PC 199, 230. The older understanding of the terms was that
the decision in each particular case was to turn on an individual construction of parties’ inten-
tion. Here, as elsewhere, construing the intention of parties was shorthand for the imposition
of external standards by the judge.
13
Chagla CJ’s description of the English law purported to be supplanted by s 74. Abba Gani v
Trustees of the Port of Bombay (1952) ILR (Bom) 747, 752 (Bombay High Court).
drafters defining the contours of contract law de novo.14 The Indian law com-
missioners who produced the first draft of the contract code in 1866, among
whom were Henry Maine and William Macpherson, were keen to give it a
wide berth:
In order to avoid the litigation which arises under the English law on the
subject of the distinction between penalty and liquidated damages where

a contract contains a stipulation that a specified sum shall be paid in
case of its breach, we propose that the rule of law should have no regard
to that distinction, but simply require payment of the specified sum.15
This proposal for ‘literal enforcement’16 of the stipulated sum appears to

have been inspired by the French Civil Code, which represented the logical
apotheosis of the will theory.17 The will theory sought to respect the ‘auton-
omy’ of parties by purporting to enforce whatever they willed.18 On a strict
view of the will theory, the ‘harsh effect’, if any, of giving effect to such stipula-
tions would be merely a collateral sacrifice at the altar of principle.19 In the
mid-nineteenth century, when the Indian Contract Act was being drafted,
the will theory had generated significant excitement in England, leading to
frantic academic and judicial attempts to reorient all of the English law of
contract law to its principles.20 The Indian Contract Actçunsurprisingly, for
14
Lord Neuberger and Lord Sumption, in a similar vein observed in Cavendish, ‘[w]e rather doubt
that the courts would have invented the rule today if their predecessors had not done so three
centuries ago’. Cavendish [2016] AC 1172, 1206. Their lordships also observed: ‘For many years,
the courts have struggled to apply standard tests formulated more than a century ago for rela-
tively simple transactions to altogether more complex situations. The application of the rule is
often adventitious. The test for distinguishing penal from other principles is unclear.’ Ibid 1192.
15
Parliamentary Papers, House of Commons (1867^68) 4^5. The provision in question was Clause
50 in the Report (Clause 53 of the draft Act), which provided for situations with stipulated
sums and those without. It reads as follows:
‘50. When a contract has been broken, if a sum is named in the contract itself as the amount to
be paid in case of such breach, the amount so named shall be paid accordingly; but if no sum has
been named in the contract itself, the party who suffers by such breach is entitled to receive from
the party who has broken the contract, compensation for loss or damage caused to him thereby,
provided that it has naturally arisen in the usual course of things from such breach or that it was
in the knowledge of the parties at the time they made the contract that such loss or damage
would probably result from the breach of it. Such compensation is not to be given for any remote
and indirect loss or damage sustained by reason of the breach.’ Ibid 16 (illustrations omitted).
16
Guenter Heinz Treitel, Remedies for Breach of Contract: A Comparative Account (Clarendon Press
1987) 221.
17
Norman S Marsh, ‘Penal Clauses in Contracts: A Comparative Study’ (1950) 32 J Comp
Legislation & Intl L 66, 66^7. But French law has since been modified to empower ‘the courts
to award less where the sum is ‘‘manifestly excessive’’.’ Treitel (n 16) 221. In the civil law world,
stipulated sums are generally rewarded. In some cases, they are literally enforced in other
cases, they may be scaled down. But on the whole, the civlian orientation towards contractual
stipulations is quite the opposite to that of the common law^this might have something to do
with the civilian affinity to the ‘will theory’. (Ibid).
18
Hogg (n 3) 87.
19
Ibid 394.
20
David Ibbetson, A Historical Introduction to the Law of Obligations (OUP 1999) 220^44.
a mid-nineteenth century codeçwas influenced by the will theory, and where

it conflicted with the orthodox English doctrine of contract, the drafters
threw their weight behind the will theory.21 The Act was far from a straightfor-
ward codification of the English law and deviated from the English law on vari-
ous points such as the one presently under discussion.22
Opinions were invited on the draft bill, and a good number of the opinions

received on the proposed provision on stipulated sums revolved around a cen-
tral concern: the lack of a safety valve. That the law ought not to ‘lend its aid’
to enforce stipulations that were ‘unreasonable and preposterous’;23 that it
was ‘advisable to leave some discretion to the judge’ where the stipulated sum
is ‘too exorbitant’ or ‘excessive’;24 that an ‘option’ ought to be ‘retained by the
Courts for equitably mitigating’ clauses which were unduly severe;25 that the
provision, as it stood, would lead to ‘hard cases’,26 and much ‘injustice’ would
result, were such stipulations to be enforced with ‘undue rigour’;27 that people
‘need to be protected from their own rashness in entering into overreaching
contracts’;28 and that there was also the concern that it would be unfair if
the same amount was ‘exigible’ regardless of the extent to which contract was
performed29çall these, it might be noted, were valid concerns that could
have been met by providing for a scaling down mechanism in the provision
that was to become operational in cases of excessive or unreasonable stipula-
tions.30 Accordingly, the final version of the code contained a sliding scale
appended to the draft provision. Such a measure is favoured in several civil
21
The doctrines of ‘consideration’and ‘privity’ were obvious examples. For a general discussion of
will theory and the Indian Contract Act see: Warren Swain, The Law of Contract 1670^1870
(CUP 2015); and for a discussion of consideration and privity in Indian Contract Act, see
Shivprasad Swaminathan, ‘The Great Indian Privity Trick: Hundred Years of
Misunderstanding Nineteenth Century English Contract Law’ (2016) 16 OUCLJ 160;
Shivprasad Swaminathan, ‘Eclipsed by Orthodoxy: The Vanishing Point of Consideration and
the Forgotten Ingenuity of the Indian Contract Act’ (2017) 12 Asian J Comp Law 141.
22
The drafters said this in so many words. Parliamentary Papers (n 15) 3; Swain (n 21) 264.
23
Legislative Department Proceedings (India) May 1872 [Nos 513, 615] 93 (Note by JD Sandford Esq,
Registrar to the High Court of Judicature North Western Provinces).
24
Ibid 86, 87 (observation by Major JL Pearce, Superintendent, Nundidroog Disctrict).
25
Ibid 88, 89 (observation by Captain AC Hay, Officiating Superintendent, Nuggur Division).
26
Ibid 89, 92 (observation by Captain FG Cumming, Officiating Deputy Superintendent of
Chituldroog District).
27
Ibid 93, 94 (note by JD Sandford Esq, Registrar to the High Court of Judicature North Western
Provinces).
28
Ibid 58, 59, 113 (observation by D Fitzpatrick, Officiating Deputy Commissioner, Delhi Division).
29
Ibid 94 (note by JD Sanford (n23)).
30
The European business community in India also appears to have expressed its wariness at this
proposal and Sir George Rankin has pointed out that some Calcutta traders wanted the ‘con-
verse’ of the provisionçpresumably a provision to the effect that no stipulations were to be
awarded at all. George Rankin, Background to Indian Law (CUP 1946) 108; see also Justice M
Jagannadha Rao, ‘Liquidated Damages and Penalties: Ex Ante or Ex Post Methodology’ (2013)
1 Supreme Court Cases ^ Journal Section 1, 8^9.
law jurisdictions as the right way to deal with ‘unreasonably high’ stipulated
sums:31
Compensation for breach of contract in which sum is named as payable in
case of breachçWhen a contract has been broken, if a sum is named in
the contract as the amount to be paid in case of such breach, 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.32
The drafting history and phraseology of the section strongly suggest that
‘reasonable’ here was meant in the sense of what J.L. Austin, called (in dated
language) a ‘trouser word’33çwhere all the work was done by its opposite ‘un-
reasonable’. The courts were to scale down a stipulated sum only when the
stipulation was ‘unreasonable’; if it was not unreasonable, all of it could be
awarded as reasonable compensation. Section 74 achieved, a century and a
half in advance, everything that a reasonableness-oriented standard such as
that of Cavendish achievedçand more, as the idea of reasonableness here was
attached to a sliding scale; it was not binary like that of Cavendish, which con-
tinues to remain tied to the all-or-nothing silos of liquidated damages and
penalty.
As Sir Frederick Pollock and Sir Dinshah Mulla noted in their influential
commentary on the Indian Contract Act (1905), section 74 of the Act ‘boldly
cut the most troublesome knot in the Common Law doctrine of damages’.34
Whitley Stokes, similarly, found in his 1888 commentary on the Indian
Contract Act that the effect of the provision was to completely do away with
the English liquidated damages^penalty dichotomy.35 An Indian court was to
put section 74 to use, unencumbered by the complexities of English law’s liqui-
dated damages^penalty.36 One of its obvious purposes was to ‘save labour’ for
the courts by relieving them of the endless logic chopping over whether a
given provision was a liquidated damages clause or a penalty clause.37 Labour
would also be saved by dispensing with any need to prove damages or loss
in awarding reasonable compensationçanother legitimate function of con-
tractual stipulations going back to its Roman law roots. In Roman law, one of
31
Treitel (n 16) 225. See also report of the European Committee on Legal Cooperation. Council of
Europe, ‘Penalty Clauses in Private Law’ (1972) CCJ 37ff.
32
S 74 of the Indian Contract Act (explanations and illustrations omitted, marginal note included).
33
John Langshaw Austin, Sense and Sensibilia (OUP 1962) 70.
34
Sir Frederick Pollock and Dinshah Fardunji Mulla, The Indian Contract Act, with a Commentary,
Critical and Explanatory (2nd edn, Sweet & Maxwell 1909) 322 (reference here is to the second
edition).
35
Whitley Stokes, Anglo-Indian Codes, vol 1 (London 1888) 506; Treitel similarly notes that s 74
‘rejects the common law distinction between penalty and liquidated damages clauses’. Treitel
(n 16) 218.
36
Macintosh v Crow (1883) 9 ILR Cal 689, 692 (Calcutta High Court).
37
Muthukrishna Iyer v Sankaralingam Pillai (1913) 36 ILR 229, 263 (Madras High Court).
the functions of the stipulateo poenae was to avoid difficulties of proof,38 and, by
implication, ‘preempt unnecessary judicial investigation into the assessment of
damages’.39Also, significantly, the provision ingeniously employed a neologism,
‘sum named in the contract’ (referred to here as ‘stipulated sums’) instead of
the familiar common law terms ‘penalty’ and ‘liquidated damages’ or terms
prevalent in the civil law world such a ‘penal stipulation’. The anxiety of the

drafters, presumably, must have been to block any avenues for slipping back
into the old penal^compensatory distinction that had troubled the English
common law. This was a noteworthy innovation. Even now, as Reinhard
Zimmermann has noted, phrases such as ‘agreed sums’ are considered as
neologisms in the literature on contract law, motivated by the anxiety of avoid-
ing the terms liquidated damages and penalties.40
Now, fast-forward by a century and a half for a quick glance at where the law
relative to stipulated sums in India stands and what does one find? The latest
edition of Pollock and Mulla’s treatise outlines the extant law in the following
terms. A stipulated sum of money payable by one party to another in the
event of breach will be liquidated damages, if the ‘sum is a genuine pre-esti-
mate of damages likely to flow from the breach’. Should it not, however, be a
genuine pre-estimate of loss, ‘but an amount intended to secure performance
of the contract’, it will be a ‘penalty’.41 This could easily be mistaken for a de-
scription of English law.42 And while the latest edition of Pollock and Mulla
does still retains pro forma Sir Frederick Pollock and Sir Dinshah Mulla’s laud-
atory note about the Act ‘boldly’ cutting ‘the most troublesome knot’ of
English law,43 there is no concealing the fact that that knot has now been
retied. Liquidated damages and penalties are now firmly a part of the Indian
contract law, quite contrary to the intention of the drafters. In fact, the terms
‘liquidated damages’ and ‘penalties’ have become so axiomatic that the law on
the subject is now almost universally discussed under the rubric of those
terms. It is now de rigeur for standard textbooks on Indian contract law not to
refer to the neutral ‘stipulated sums’ but to the concepts of English contract
law, ‘liquidated damages’, and ‘penalties’ instead.44 A recent judgment of the
Supreme Court of India, BSNL v Reliance, even goes straight to treatises by
Chitty and Treitel and approvingly quotes the law on stipulated sums laid
down thereçthe assumption being that their summary of the legal position
38
Reinhard Zimmermann, The Law of Obligations: Roman Foundations of the Civilian Tradition
(Clarendon Press 1996) 97.
39
Hogg (n 3) 394.
40
Reinhard Zimmermann, ‘Agreed Payment for Non Performance in European Contract Law’ in
Troy L Harris (ed), Studies in Canon Law and Common Law in Honour of R.H. Helmholz
(Princeton 2015) 355^78, 359.
41
Sir Frederick Pollock and Sir Dinshah Fardunji Mulla in Nilima Bhadbhade (ed), The Indian
Contract Act, 1872 (14th edn, Lexis Nexis 2012) 1277.
42
Which is to say, English law as it stood prior to Cavendish.
43
Pollock and Mulla (n 41) 1286.
44
See eg Avtar Singh, Contract and Specific Relief (10th edn, Eastern Book Company 2010) 534.
of English law is also a good description of the Indian law on the point.45
Indeed, the Indian law on stipulated sums has now come to be almost identical
to the pre-Cavendish English law.46
How did the Indian law manage to re-knot this ‘troublesome knot’ that sec-
tion 74 had undone? Just how did the exact opposite of what the drafters had
envisaged come to be the state of the lawçand this, after they had been so

careful about wanting to avoid the troublesome liquidated damages^penalty di-
chotomy? Like much else in Indian contract law, the answer lies in legislative
history.47 The single most important contributing factor in bringing this
about, it will be hypothesized, was an ambiguity unwittingly introduced by
an amendment to section 74 in 1899 by a select committee headed by the ace
draftsman Mackenzie Chalmers:48
When 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, rea-
sonable compensation not exceeding the amount so named or, as the case
may be, the penalty stipulated for.49
Section 74 has come down to us in this form as amended by the 1899

amendment. As we will see later in this article, the amendment added the itali-
cized words with the avowed and sole aim of making section 74 applicable to
a wider range of contracts than it was hitherto applicable to. It was calculated
to rectify an oversight on the part of the drafters of the Act, the effect
of which was to render the provision inapplicable to a significant category of
cases that came up before the court. However, the effect of the introduction of
the word ‘penalty’ in the provisionçin sharp contrast to the neologisms used
by the original provisionçwas to prove troublesome. It was to create the
45
Bharat Sanchar Nigam Limited v Reliance Communications Limited (2011) 1 SCC 394, 427
(Supreme Court of India).
46
See Section II for a discussion of the similarities and differences between Indian and the
English law. In brief, the law as it currently stands in India is that when the sum named in
the contract is a liquidated damages clause, the stipulated sum is payable in full. If the sum is
a penalty, the court will grant only reasonable compensation for the damage or loss caused
by breach. The point of difference is that unlike in English law, in India, a liquidated damages
clause will be awarded in its entirety only if it is a genuine pre-estimate of damage and it is ‘dif-
ficult or impossible’ to prove damages.
47
Niranjan Venkatesan rightly notes that when it comes to Indian contract law, as in ‘many areas
of Indian private law, the answers to contentious questions in the modern law lie in:::neglected
legislative history’. V Niranjan, ‘Specific and Agreed Remedies for Breach of Contract in Indian
Law: A Code of English Law?’ in Mindy Chen-Wishart, Alexander Loke and Burton Ong (eds),
Studies in the Contract Laws of Asia: Remedies for Breach of Contract (OUP 2016) 59, 59.
48
For an overview of work of Chalmers, see FH Lawson, ‘Doctrinal Writing: A Foreign Element in
English Law?’ in Ernst Von Caemmerer, Sonia Mentschikoff and Konrad Zweigert (eds), Ius
Privatum Gentium (JCB Mohr 1969) 191, 198.
49
Emphasis added (explanation, exceptions, and illustrations omitted).
misleading (and unintended) impression that the English concept of ‘penalty’

was being sought to be introduced into Indian law. Once penalty was in, liqui-
dated damages was but not even a step away.
A century and a half on, one finds that the life of section 74 has taken an alto-
gether different trajectory from that envisioned by the drafters. First, the liqui-
dated damages^penalties dichotomy that the drafters were so keen to avoid has

now been read into section 74 by Indian courts. Second, despite the express lan-
guage in section 74 that reasonable compensation is to be awarded notwith-
standing proof of any loss or damage, Indian courts have insisted that
reasonable compensation in section 74 is limited to compensation for loss or
damage alone. This article seeks to bring out this double dissonance between
the drafters’ blueprint and the extant law. A brief outline of the arguments to
be advanced to this end might be in order here. Section II will outline the lead-
ing decisions of the Supreme Court of India on section 74, which have read the
provision as having incorporated the liquidated damages^penalty dichotomy
and allowing reasonable compensation for damage or loss alone. Section III
will give a brief account of the drafting error of the 1899 amenders, led by
Mackenzie Chalmers, in introducing the term ‘penalty’, which sent future inter-
preters of the Act adrift. Section IV will make out the case for why ‘reasonable
compensation’ contemplated in section 74 is not to be read as compensation for
loss or damage alone. And in Section V, we will conclude by taking stock of the
perils of linguistic ambiguity in common law codification and by hypothesizing
the possible function of ‘reasonable compensation’.
II. Retying the knot

This section will briefly adumbrate some key judgments of the Supreme Court
of India that have interpreted section 74 as supporting the liquidated dam-
ages^penalty dichotomy and allowing reasonable compensation only for loss
or damage caused by breach in case the stipulation is found to be a ‘penalty’
in English law’s sense of the term.50 At the very top of this catalogue of key
judgments of the Supreme Court of Indiaçboth chronologically and in signifi-
canceçis Fateh Chand v Balkishan Das.51 In Fateh Chand, a sum roughly
amounting to a quarter of the sale price of a property was paid by the
50
We will restrict ourselves to a discussion of these judgments of the Supreme Court for two rea-
sons. First, an overwhelming number of the pre-independence (earlier than 1947) cases pertain
to interest payments and acceleration clauses in the context of money-lending transactions;
and this entire branch of law has now become obsolete as it been overridden by legislation,
starting with the Usurious Loans Act, 1918, which was the forerunner of numerous similar
state legislations. Second, it is these Supreme Court judgments that are regarded as being nor-
matively dispositive of potential cases arising in this area. Judgments of the High Courts have
not been included so as to keep the length of the article within limits. In any event, High
Courts are bound by the law laid down by the Supreme Court of India.
51
Fateh Chand v Balkishan Dass [1964] 1 SCR 515 (Supreme Court of India). Subsequent judicial
treatment of s 74 has orbited around the fulcrum of this decision.
defendant to the plaintiff as an advance. This was in addition to earnest money

amounting to roughly one per cent of the consideration that was also paid to
the plaintiff. Were the defendant not to arrange for the sale deed to be executed
within a specified period, the agreement was to stand terminated and both
sums were to stand forfeited. The defendant failed to bring the sale to a timely
completion, and the plaintiff sought to terminate the agreement and forfeit

the sums. When the appeal reached the Supreme Court, the Attorney General
for India, M.C. Setalvadçwho, incidentally, was also the co-editor of the
eighth edition of Pollock and Mulla’s treatiseçappearing for the defendant,
conceded that the earnest money deposit could be forfeited by the plaintiff
and restricted his challenge to the larger amount of advance. The Supreme
Court held in favour of the defendant. The court began by repeating the gist
ofçalbeit without quoting or citingçPollock and Mulla’s famous observation
that section 74 had sought to ‘cut across’ the liquidated damages and penalties
distinction that had long hobbled the English common law ‘by enacting a uni-
form principle applicable to all stipulations naming amounts to be paid in
case of breach’.52 Puzzlingly, however, within a few inches of text, this lesson
is ignored:
Section 74 of the Indian Contract Act deals with the measure of damages
in two classes of cases: (i) where the contract names a sum to be paid in
case of breach and (ii) where the contract contains any other stipulation
by way of penalty. We are in the present case not concerned to decide
whether a covenant of forfeiture of deposit for due performance of a con-
tract falls within the first class. The measure of damages in the case of
breach of a stipulation by way of penalty is by section 74 reasonable com-
pensation not exceeding the penalty stipulated for.53
This passage in Fateh Chand set the stage to bring back into play the liquidated
damages^penalty dichotomy. Although Shah J (as he was then) did not use the
term liquidated damages, it is tolerably clear that this is just the idea he had in
mind when he distinguishes ‘sum named to be paid in case of breach’ from a
‘penalty’.54 And it is equally clear that Shah J read the term ‘penalty’ in section
74 in the sense in which English law understood the term. The court held that
if the stipulated sum was a ‘penalty’, only reasonable compensation for loss or
damage was payable. What was implied in Fateh Chandçalthough the court
never spelled it out in so many wordsçwas that if a stipulated sum amounted
to a liquidated damages clause, it was payable in its entirety.
Maula Bux v Union of India further deepened the lines drawn by Fateh
Chand.55 In Maula Bux, the plaintiff entered into two contracts with the gov-
ernment (defendant): one to supply potatoes and the other to supply poultry,
52
Ibid para 8.
53
Ibid para 10.
54
This is how this phrase was also understood in ONGC v Saw Pipes, a case we will discuss later
in the section.
55
Maula Bux v Union of India [1969] 2 SCC 554 (Supreme Court of India).
eggs, and fish. Both contracts provided for separate amounts deposited with
the defendant, to be forfeited in case of unsatisfactory supplies by the plaintiff.
A dispute about the quality of some supplies led to the defendant forfeiting
the deposits, which was challenged by the plaintiff. The Supreme Court set
aside the forfeiture as it found it to be in the nature of a penalty. It also recog-
nizedçalbeit without applying the label liquidated damagesçthat sums that

were a genuine pre-estimate of damages fell outside the ambit of section 74
and were to be awarded in their entirety. Section 74 was therefore engaged
only in case the contractual stipulation was a penalty:
[I]f forfeiture is of the nature of penalty, Section 74 applies. Where under
the terms of the contract the party in breach has undertaken to pay a
sum of money or to forfeit a sum of money which he has already paid to
the party complaining of a breach of contract, the undertaking is of the
nature of a penalty.56
Shah ACJ reaffirmed the proposition in Fateh Chand that if a stipulation
amounted to a penalty, only compensation for loss or damage could be
awarded as ‘reasonable compensation’. The matter was quite different in the
case of liquidated damages; there the stipulated sum was to be taken as meas-
ure of reasonable compensation and awarded irrespective of any loss or
damage:
In case of breach of some contracts it may be impossible for the Court to
assess compensation arising from breach, while in other cases compensa-
tion can be calculated in accordance with established rules. Where the
Court is unable to assess the compensation, the sum named by the parties
if it be regarded as a genuine preestimate may be taken into consideration
as the measure of reasonable compensation, but not if the sum named is in
the nature of a penalty. Where loss in terms of money can be determined,
the party claiming compensation must prove the loss suffered by him.
Here again, as in Fateh Chand, nowhere in the judgment was the phrase
‘liquidated damages’ used, but that was the only concept that answered to
Shah ACJ’s description in the above passage of being a ‘genuine pre-estimate’
of damages. With Maula Bux, the liquidated damages^penalty dichotomy was
firmly a part of Indian law, with liquidated damages being alluded to elliptic-
ally rather than being openly invoked. Fateh Chand and Maula Bux brushed
under the carpet a glaring antinomy. If section 74 is not engaged at all in the
case of ‘liquidated damages’ clauses, the phrase ‘sum named to be paid in case
of breach’ in the provision could not possibly mean liquidated damages. And,
on the other hand, if the reference of ‘sum named to be paid in case of breach’
was taken to be to ‘liquidated damages’, one could not easily explain away
why the provision provided for the same consequences to follow in the case of
all stipulations including stipulation for a ‘penalty’, for what is good for the
56
Ibid 559.
goose ought to be good for the ganderçand since the provision speaks of scal-
ing down to reasonable compensation regardless of the nature of the clause,
there was no basis whatsoever for claiming on the basis of section 74 that
‘liquidated damages’ clauses were to enforced in full notwithstanding any loss,
but penalties were to be met with scaling down to reasonable compensation
for damage or loss.

As the decades wore on, the liquidated damages^penalty dichotomy
only grew in strength. Oil and Natural Gas Corporation Ltd v Saw Pipes (ONGC)
represents another landmark in its ascendency.57 Here, the respondent was to
supply casing pipes to the appellant Oil and Natural Gas Corporation, a state-
owned producer of oil and natural gas, to put to use in its offshore exploration
and maintenance. The contract provided for ‘liquidated damages’ amounting
to 1 per cent of the consideration price for every week of delay or part thereof,
subject to a maximum ceiling of 10 per cent. The contract also contained the
usual stock language certifying that the amount of liquidated damages was
‘not a penalty’and was a ‘genuine pre-estimate’ of loss. When Saw Pipes delayed
supply of the pipes by 45 days, the appellant deducted the amount of ‘liqui-
dated damages’ calculated in accordance with the agreed formula and paid
the balance of the contracted consideration to the respondent. The respondent
contested this in an arbitral claim. The evidence suggested that the delayed
supply of casing pipes did not, by itself, cause loss to the appellant as there
were also other contributing factors that delayed deployment of equipment for
which the pipes were meant. The arbitral tribunal heldçand was confirmed
by the Bombay High Courtçthat since the Appellant did not make out a case
for loss, in accordance with Fateh Chand and Maula Bux, it was not entitled to
the sum stipulated in the contract.58 Reversing the Bombay High Court, the
Supreme Court of India held that the appellant was entitled to the stipulated
sum despite no proof of loss since the contractual stipulation in question was
‘liquidated damages’, which was a genuine pre-estimate of damage:
Therefore, the emphasis [of section 74] is on reasonable compensation. If
the compensation named in the contract is by way of penalty, consider-
ation would be different and the party is only entitled to reasonable com-
pensation for the loss suffered. But if the compensation named in the
contract for such breach is genuine pre-estimate of loss which the parties
knew when they made the contract to be likely to result from the breach
of it, there is no question of proving such loss or such party is not required
to lead evidence to prove actual loss suffered by him.59
It is only in the case of penalty that the scaling down to a reasonable amount
was permissible, MB Shah J heldçand that is where the question of the loss
caused would arise. If it was a genuine pre-estimate of damageçwhich denoted
57
Oil and Natural Gas Corporation Ltd v Saw Pipes Ltd [2003] 5 SCC 705 (Supreme Court of India)
(ONGC).
58
Ibid 740.
59
Ibid 740^1.
the idea of liquidated damages albeit without use of that labelçthe entire
amount was to be awarded.
Whatever little hesitation there was in openly invoking the term ‘liquidated
damages’ vanished by the time BSNL v Reliance was decided later in the
decade. Here the Supreme Court went straight to treatises by Chitty and
Treitel and approvingly quoted the definitions of liquidated damages and

penalties therefromçthe assumption being that the Indian law on stipulated
sums was the same as English law.60 With this, the Indian law had comprehen-
sively endorsed the English law’s liquidated damages and penalties distinction.
The latest, and in many respects, most systematic, restatement of law in this
area is due to Kailash Nath Associates v Delhi Development Authority.61
Nariman J offers the following restatement of the law on stipulated sums:
Where a sum is named in a contract as a liquidated amount payable by
way of damages, the party complaining of a breach can receive as reason-
able compensation such liquidated amount only if it is a genuine pre-
estimate of damages fixed by both parties and found to be such by the
Court. In other cases, where a sum is named in a contract as a liquidated
amount payable by way of damages, only reasonable compensation can
be awarded not exceeding the amount so stated. Similarly, in cases where
the amount fixed is in the nature of penalty, only reasonable compensation
can be awarded not exceeding the penalty so stated. In both cases, the
liquidated amount or penalty is the upper limit beyond which the Court
cannot grant reasonable compensation:::Since Section 74 awards reason-
able compensation for damage or loss caused by a breach of contract,
damage or loss caused is a sine qua non for the applicability of the
Section:::The expression ‘whether or not actual damage or loss is proved
to have been caused thereby’ means that where it is possible to prove
actual damage or loss, such proof is not dispensed with. It is only in cases
where damage or loss is difficult or impossible to prove that the liquidated
amount named in the contract, if a genuine pre-estimate of damage or
loss, can be awarded.62
Nariman J seeks to introduce a trichotomyç‘liquidated damages’, other
‘liquidated amounts’, and ‘penalty’çin place of the standard dichotomy ‘liqui-
dated damages’ and ‘penalty’. This appears to be an attempt to smooth, for the
first time in five decades, the crease in the carpet left by Fateh Chand’s and
Maula Bux’s antinomy that we had the occasion to consider earlier. If section
74 is not engaged at all in the case of liquidated damages, reference to the
‘sum’ to be paid in case of breach in section 74 could not be to liquidated dam-
ages. And if the same consequences are prescribed to follow regardless of the
60
Bharat Sanchar Nigam Limited v Reliance Communications Limited (2011) 1 SCC 394, 427
(Supreme Court of India).
61
Kailash Nath Associates v Delhi Development Authority [2015] 4 SCC 136 (Supreme Court of
India)
62
Ibid 162.
type of stipulation, it counts against reading any possible liquidated damages^

penalty dichotomy into the provision. Nariman J attempts to harmonize the
liquidated damages^penalty dichotomy with section 74 by positing a trichot-
omy in the place of the earlier, ostensibly wobbly dichotomy. The implication
of Nariman J’s restatement is that liquidated damages fall outside section 74ç
the requirement of loss or damage which is a ‘sine qua non for the applicability

of the Section’ does not apply to cases of liquidated damages. The ‘sum’ to be
paid in case of breach referred to in section 74 is not liquidated damages, but
another type of ‘liquidated amount’. But the crease in the carpet is not so
easily smoothedçcaused as it is by an antimony that Shah ACJ had brushed
under itçand now it just ends up someplace else. The second category of
‘liquidated amount’ as distinct from liquidated damages and penalties appears
to be a redundancy as it could be argued that it is entirely subsumed under
the category of penalties. If a penalty is a stipulated sum that is not liquidated
damages (and liquidated damages is a genuine pre-estimate of damages) then
so is, by definition, a liquidated sum that is not a genuine pre-estimate of dam-
ages. Also, for all practical purposes, liquidated sums that are not liquidated
damages and penalties operate in the same manner, which is to say, they con-
stitute the upper limit for compensation and faced with them, the court can
only award ‘reasonable compensation’ for damage or loss. After all is said and
done, we are left with nothing other than the English liquidated damages-pen-
alty dichotomy and a provision upon which it cannot be easily superimposed.
The resulting position of law is that Indian courts have substantially adopted
the pre-Cavendish liquidated damages^penalty dichotomy of English law by
reading it into section 74. If a stipulated sum is a liquidated damages clause,
it will be awarded in its entirety. This is subject to one limitation, which was
first posited in Maula Bux and later confirmed in ONGC and Kailash Nath
Associatesçthat a liquidated damages clause will be awarded in its entirety
only if it is a genuine pre-estimate of damage and it is ‘difficult or impossible’
to prove damages.63 This means that liquidated damages in India are restricted
to the kind of situations envisaged in Clydebank. In Clydebank the loss or
damage caused by failure to supply a torpedo boat on time was found to be of
a kind where the loss was impossible to estimate.64 The loss in ONGC wasç
somewhat tenuously, it might be arguedçheld by the court to be a loss of
this kind. On the other hand, if a stipulated sum is found to be a ‘penalty’, it
will not be enforced, and the claimant will only get reasonable compensation
for loss or damage to be measured in accordance with the principles in section
63
‘It is only in cases where damage or loss is difficult or impossible to prove that the liquidated
amount named in the contract, if a genuine pre-estimate of damage or loss, can be awarded’.
Ibid 162 (Nariman J). Similar propositions can also be found in ONGC (n 57) 705, 741^2 (MB
Shah J) and Maula Bux v Union of India [1969] 2 SCC 554, 559.
64
Clydebank Engineering and Shipbuilding Company Ltd v Don Jose Ramos Yzquierdo y Castenada &
Others (1905) AC 6, 11 (Lord Halsbury). See also para 4(d) of Lord Dunedin’s canonical sum-
mary of propositions relating to the law of liquidated damages and penalty in Dunlop
Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd [1915] AC 79, 87^8.
73çwhich provides for compensation for damage or loss caused by breach of

contract in cases where no sum is stipulated for in the contract.65
III. The 1899 amendment: source of the confusion

In drafting section 74, there was one crucial class of case the drafters did not
appear to have provided for, or at any rate that is what the phraseology of the
provision suggested. The phrase ‘sum named in the contract’ ostensibly meant
that the provision applied only to in solido sums, thus leaving out stipulations
for variations of interest, acceleration clauses which affected payment sched-
ules rather than sums, and payments in specie.66 This ambiguity led to a great
divergence of opinion among Indian courts on the applicability of section 74
to such clauses.67 A good fraction of the litigation on section 74 involved such
stipulations. Unsure about the applicability of this provision to such cases,
Indian courts increasingly began to fall back on the English law to decide
these cases. And given the ambiguity associated with the terms ‘penalties’ and
‘liquidated damages’ in English law, this was a far from satisfactory state of af-
fairs; and it drove a coach-and-four through the design of the drafters who
had wanted to avoid the troublesome liquidated damages^penalty dichotomy.
But it was not some concern for doctrinal acuity that would eventually lead
the legislature to intervene. In 1899, the Governor General-in-Council for
India, alarmed by the extent of usurious money lending transactions, moved
to take steps to curb it, to which end it proposed to amend the Indian
Contract Act. Incidentally, a similar problem was being tackled in England
more or less contemporaneously, leading to the enactment of the Money
Lenders Act 1900.68 Referring the amendment bill to the Select Committee,
Mackenzie Chalmersçeminent treatise writer and draftsmançwho was law
member of the Governor General-in Council set out the problem requiring le-
gislative intervention:
[T]he problem of agricultural indebtedness and of money-lenders and their
dealings with the poorer and more ignorant classes has been engaging
the attention of the Government. Opinions may differçand may fairly
65
S 73, which is modelled after Hadley v Baxendale, reads as follows: ‘ Compensation for loss or
damage caused by breach of contractçWhen a contract has been broken, the party who suf-
fers by such breach is entitled to receive, from the party who has broken the contract, compen-
sation for any loss or damage caused to him thereby, which naturally arose in the usual
course of things from such breach, or which the parties knew, when they made the contract,
to be likely to result from the breach of it’ (explanation and illustrations omitted).
66
Muthukrishna Iyer v Sankaralingam Pillai 36 [1913] ILR 229, 268^70 (Madras High Court)
(Sundara Ayyar J).
67
Ibid 270; Rao (n 30) 13.
68
As Chalmers pointed out in an essay: ‘Both England and India were dealing with the same
problem at the same time but they have solved it in different fashions.’ Mackenzie Chalmers,
‘British India: Acts of Governor General in Council’ (1900) 2 J Society Comp Legislation 539,
540.
differças to the nature of remedies we ought to adopt to meet an admitted

evil:::.69 [O]ur proposals are considerably less drastic than those of the
English Committee. We have no desire to eliminate or unduly harass the
people who make loans to the agricultural and poorer classes. It is the
abuses and excesses and not legitimate uses of the system we wish to
curb.70

Two amendments were proposed to the Indian Contract Act to produce the
desired effect of regulating such transactions. One was to widen section 16ç
the provision on undue influenceçto incorporate a ‘general principle’ against
dominating the will of another to impose unfair terms on the other.71 The
other was ‘slightly extending’72 section 74 to a wider range of cases beyond
just in solido sums.73 Some words were added to the main provision to reflect
this extension: ‘or if the contract contains any other stipulation by way of pen-
alty’.74 An explanation was added specifically providing for revisions in interest
payments. It reads: ‘A stipulation for increased interest from the date of default
may be a stipulation by way of penalty’. It also added to the three existing illus-
trations (a) to (c) four new illustrations (d) to (f) for clarification, each of
which covered various kinds of stipulations. Illustration (d) describes that pro-
vision of increased interest at 75 per cent from date of default ‘is a stipulation
by way of penalty and B is entitled to recover from A such compensation as
the court considers reasonable’. Illustration (e) provides that undertaking to
pay 10 maunds of grain in event of default ‘is a stipulation by way of penalty
and B is entitled to reasonable compensation’. The third, illustration (f) provides
that when all instalments of repayment become due at once on default ‘[t]his
stipulation is not by way of penalty, and the contract may be enforced accord-
ing to its terms’. Illustration (g) to s.74 provides that when a borrower agrees
to pay double to loan in five yearly instalments and makes the whole amount
payable on default ‘[t]his is a stipulation by way of penalty’. The explanation
specifically targeting ‘stipulations for increased interest from date of default’
seems to have been put in by way of abundant caution; the main body of the
amended section would have sufficed to apply to any stipulation, and not only
in solido sums.
69
Gazette of India 1899 Part VI 10^12, 19^22; For a discussion on Chalmers’ legislative drafting
career, see Swain (n 21) 270.
70
Gazette of India (n 69) 12.
71
Ibid 11.
72
Chalmers (n 68) 540.
73
In his reference to the select committee, Chalmers’ entire emphasis was on consent and undue
influence. The amendment to s 74 barely gets a mention. Gazette of India (n 69) 10^12.
74
‘When 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 com-
pensation not exceeding the amount so named or, as the case may be, the penalty stipulated for’
(emphasis added).
What the amendment really sought to do was to make the provision applic-
able to all possible stipulations envisaged to be performed upon breach, not
just in solido sums. Treitel notes about the illustrations introduced by the
amendment that they convey ‘that a stipulation for a performance other than
the payment of a sum of money is intended to be included’ in the provision.75
Uncertainty about applicability of section 74 to a whole range of stipulations

was, after all, precisely the mischief the amendment sought to remedy.
Between them, stipulations ‘for sum named in the contract’ and the ‘any other
stipulation by way of penalty’çadded by the amendmentçwere meant to ex-
haust the entire spectrum of contractual stipulations. This idea was no doubt
conveyed by the expression ‘any other stipulation by way of penalty’, but only
very poorly, and it was to come at a heavy price. The perilous word ‘penalty’,
which carried much baggage in English law, was carelesslyçthe term is used
advisedly, as will be borne out by the discussion that followsçfloated into the
provision (and the marginal note) where the point could have been conveyed
perfectly well without it.76
The imprecision in drafting afflicted not only the amendment in the body of
the provision but also the explanation and illustrations. The explanation read
that stipulation for increased interest ‘may be by way of penalty’. The phrase
‘any other stipulation by way of penalty’ expanded the width (applicability) of
section so as to apply to the whole spectrum of speculations actionable on
breach. Accordingly, the explanation should have said that such a stipulation
‘is’ one of the many stipulations by way of penaltyçnot ‘may be’. The oddly
worded explanation that read that stipulation for increased interest ‘may be by
way of penalty’ implied that a stipulation for increased interest would be
‘penal’ only under certain circumstances. This carried the further implication
that ‘penalty’ in the explanation did more work than just confirming the ap-
plicability of section 74. And that read with illustration (d) which envisages
that provision of increased interest at 75 per cent from date of default ‘is [is as
opposed to the may be used in the explanation] a stipulation by way of penalty’
could potentially have unwittingly led one to the conclusion that the term ‘pen-
alty’ is being used in the unenforceable sense familiar to English law.77
This reading is rendered all the more plausible by illustration (f), which en-
visages that when all instalments of repayment become due at once on default
‘[t]his stipulation is not by way of penalty, and the contract may be enforced
according to its terms’. Now, surely illustration (f) did not convey that section
74 did not apply to such a stipulationçand the function of ‘penalty’ in the
main provision was precisely to apply the provision to such stipulations. Then
‘penalty’ here in illustration (f) was being used in a sense different from that
75
Treitel (n 16) 210.
76
The amended marginal note now read: ‘Compensation for breach of contract where penalty sti-
pulated for.’A number of alternative formulations could have done the job better.
77
This is astutely noted by Sadasiva Ayyar J in Muthukrishna Iyer v Sankaralingam Pillai (1913)
36 ILR 229, 250^2 (Madras High Court). The same phraseologyç‘is a stipulation by way of
penalty’çis also used in illustration (g) to s.74.
in the main provisionçand it would not be far-fetched for a reader to under-

stand it in the sense of ‘penalty’ in English lawçthat is, an unenforceable
stipulation. And if something was not a ‘penalty’ and therefore enforceable on
its terms, to the mind of someone trained in English law, it could mean but
one and only one thing: ‘liquidated damages’. The common lawyer, after all, is
schooled in the notion that liquidated damages is the opposite of penalties
and that the penalty cannot be enforced, whereas liquidated damages clauses

may be enforced on their terms. Without meaning to do so, the provision and
explanation created the impression of having introduced the English notion of
‘penalty’ and the illustrations not only confirmed this but also suggested that
‘liquidated damages’ was also intended to be introduced, although the term
was not used.
Evidently, the amenders had not intended to undo section 74 as it originally
stood, and import in its place, the English liquidated damages^penalty dichot-
omy. In fact, from the space devoted to it, neither Chalmers’ reference to the
Select Committee nor the Select Committee’s Report gave the impression of
having treated the proposed amendment to section 74 as anything more than
an extension of the existing provision to some classes of stipulations not hith-
erto covered by the provision. Were it meant to alter the very basis of the provi-
sion and introduce a regime the drafters had been so careful to avoid, we
should have expected to find at the very least a mention, if not a detailed dis-
cussion. Unfortunately, the amenders used the term ‘penalty’ in different
senses in the explanation and in the illustrations. And, in doing so, they set
the scene for the unintended injection of the liquidated damages-penalty di-
chotomy in Indian law. To anyone reading section 74 along with its explan-
ation and illustrations and not having the benefit of carefully perusing the
drafting history of the provision, the amended text of the provision conveyed
the misleading impression that it meant to introduce the English law on liqui-
dated damages and penalties, albeit through inexplicably and inefficiently cir-
cular language. Although, the Select Committee also clearly put in a caveat
in its Report to the Governor General-in-Council that the illustrations were
not meant to ‘lay down any hard and fast rule’ or ‘pre-judge the issue’ but
were ‘merely’ illustrations,78 the caveat was always going to amount to nothing
more than a pious hope that the provision be interpreted in a certain way
since it was tucked away in a document the interpreters of the statute would
likely never see or bring to bear upon their deliberations.
Mackenzie Chalmers, the chief architect of the 1899 amendment, appears to
have been particularly prone to the error of being less than careful with ter-
minology when it came to this area of the law. In a note on the 1899 amend-
ment published in the Journal for the Society of Comparative Legislation in 1900,
Chalmers referred to the original un-amended section 74 as the provision on
‘liquidated damages’çwhich it certainly was not.79 This imprecision in lan-
guage, however, it would appear, was not peculiar to Chalmers alone, but was
78
Gazette of India (n 69) 20.
79
Chalmers (n 68) 540.
quite widespread among those schooled in English law.80 It was as if they

knew of no way of speaking of stipulated sums except by reference to liquidated
damages and penalties. For an illustration consider an early 1879 commentary
on the Indian Contract Act by D. Sutherland:
In order to avoid the intricacy in which the English law on the subject was
involved, the Indian Law Commissioners proposed to enact that in all

cases such penalties should be treated as liquidated damages. The Select
Committee of the Legislative Council, although agreeing in the intricacy
referred to, took a somewhat different view as to the remedy to be applied,
and ultimately, by this section of the Act, the intricacy has been removed
by the converse operation of turning all liquidated damages into
penalties.81
Sutherland argues in the above paragraph that the drafters of the Act sought
to avoid the intricacies of the liquidated damages^penalty dichotomy in
English lawçand he does so by using the very same concepts the drafters
had wanted to so carefully avoid. It would be manifestly incorrect to claim, as
Sutherland does, that the drafters of the Act had purported to turn all liqui-
dated damages into penalties for not only were these terms (liquidated dam-
ages and penalties) not used but nor was there a blanket proscription on
awarding sums named in the contract, which is what one would have found if
they had meant to ‘turn’ all stipulations into penalties. The entire amount
could be awarded if it was ‘reasonable’; a fortiori it would only have to be
scaled down if it was unreasonable. It is the inescapable tendency to speak of
section 74 in terms of liquidated damages and penalties, so prevalent among
lawyers schooled in English law, that lead Sutherland, as it did many others,
to this error.82
IV. Reasonable compensation and damage or loss

There is a double dissonance between the drafters’ blueprint and what has
come to pass for the law of stipulated sums in India. One is the superimposition
of the liquidated damages and penalty dichotomy on the provision; the other
is the view that ‘reasonable compensation’ in section 74 could only mean com-
pensation for loss or damage. The first we attributed to the imprecise phrase-
ology of the 1899 amendment. The second, however, is notçat least not
80
A good number of the opinions received on the draft contract law, some of which were dis-
cussed in Section I, expressed their view on the provision by using the language liquidated
damages and penalties although the authors of the opinions were perfectly awareçand
referred to the statement of objects and reasons on this pointçthat the drafters had wanted
to deliberately avoid the distinction.
81
D Sutherland, Indian Contract Act and the Specific Relief Act (Thacker, Spink & Co 1879) 109.
82
A recent Indian article approvingly quotes from Sutherland and concludes that s 74 had meant
to turn all liquidated damages into penalties. Justice M Jagannadha Rao, ‘Liquidated Damages
and Penalties: Ex Ante or Ex Post Methodology’ (2013) 1 Supreme Court Cases J 1.
entirelyçattributable to the 1899 amendment. Section 74 as amended gave

courts the jurisdiction to award reasonable compensation not exceeding the
sum or penalty named in the contract whether or not there was any proof of
loss or damage. How was this jurisdiction to be exercised? The provision did
not prescribe anything in the way of guidelines.83 When the Supreme Court,
in Fatehchand, sought to restrict ‘reasonable compensation’ to compensation

for loss or damage, it did so while being dimly aware that it ran against the
plain reading of section 74çthe provision empowered the courts to give rea-
sonable compensation ‘whether or not actual damage or loss is proved to have
been caused thereby’. In purporting to get around this, Shah J reasoned in
Fatehchand that the provision only dispensed with proof of loss, not the fact of
loss.84 It followed that there must be loss or damage which alone can be com-
pensated by section 74. This was more of an un-argued for conclusion than
an argument, let alone a persuasive one. And it did not hold up to scrutiny.
There is no practical difference between saying ‘whether or not actual
damage or loss is caused’ and ‘whether or not actual damage or loss is proved to
have been caused’.85 ‘Proof’ is precisely just how a court ordinarily takes cogni-
zance of a fact except in the small minority of cases where it can take ‘judicial
notice’ of facts even in the absence of proof.86 The class of such facts that the
court can cognize without proof is limited and for all practical purposes they
are unlikely to come into play in any significant way in contractual damages
claims.87 To say that some loss was ‘caused’ is therefore no different from
‘proving’ that some loss was caused. It is along these lines that section 74 is
properly understood. The implication of Fateh Chand is that it left it to the
court to determine loss or damage by some means other than its proof. Surely
the provision can hardly be read as having left it to the court to divine loss
or damage and base its ‘reasonable compensation’ on its divination of such
loss.88 If the provision maintains that the court’s jurisdiction is to be exercised
83
See discussion in the fifth section of this article.
84
Fateh Chand (n 51) para 10. As Niranjan Venkatesan notes, Fateh Chand cannot be reconciled
with Maula Bux where Shah ACJ holds that ‘the party claiming compensation must prove the
loss suffered by him’. Niranjan (n 47) 78. In ONGC (n 57), MB Shah J seems to say different
things about loss or damage at different places. At one place he suggests plaintiff must prove
loss or damage (733). At another place he suggests no proof is required (740). These statements
apart, the basis on which he actually decides the case is that proof of damage or loss is required
only in the case of penalty clauses, not liquidated damages clauses.
85
Shah ACJ himself seems to have reached this conclusion in Maula Bux.
86
The Indian Evidence Act, 1872 allows the court to take judicial notice of certain facts under ss
56 and 58. The court can proceed on these facts even if not proved.
87
The exceptions include the following cases: (i) where the market fluctuation is so well known a
fact as to be a matter of public knowledge that some loss or damage has occurred in a contract;
and (ii) where it is evident from the pleadings that there is or is not a loss or damageçsuch
as in case where the contracted price and price actually received are both on recordçand
that is not controverted by the other party. Apart from these obvious cases, there is no way
for a court to know either the quantum or factum of the loss without proof.
88
But Maula Bux and ONGC insist on proof of loss or damage (in case it is a penalty clause) and as
we will see later in the Section, so does Kailash Nath.
‘whether or not damage or loss is proved to be caused by a breach’ it means the

jurisdiction is to be exercised whether or not damage or loss is caused. A for-
tiori, what they are supposed to be compensating under section 74 is not loss
or damage at all. In Kailash Nath, an alternative justification is offered for the
proposition that ‘reasonable compensation’ in section 74 is to compensate for
loss or damage:

Section 74 occurs in Chapter 6 of the Indian Contract Act, 1872 which
reads ‘Of the consequences of breach of contract’. It is in fact sandwiched
between Sections 73 and 75 which deal with compensation for loss or
damage caused by breach of contract and compensation for damage
which a party may sustain through non-fulfillment of a contract after
such party rightfully rescinds such contract. It is important to note that
like Sections 73 and 75, compensation is payable for breach of contract
under Section 74 only where damage or loss is caused by such breach.89
Nariman J reasons that section 74 is ‘sandwiched’ between section 73 and

section 75, both of which only seek to compensate for damage or loss caused
by breach of contract. Section 74, therefore, only compensates loss or damage
caused by breach. However, it could be argued that the fact that section 74 is
‘sandwiched’ between sections 73 and 75, which provide for ‘compensation for
loss or damage’ and ‘compensation for damage’ respectively, establishes quite
the opposite of the proposition Nariman J advances.90 The conspicuous ab-
sence of the phrase ‘reasonable compensation for loss or damage’ from section
74çwhile such phrases are used in sections 73 and 75çit could be argued,
shows deliberate intent on part of the drafters to exclude any need for loss or
damage for section 74 to be engaged. The assumption that ‘compensation’ is
isomorphic with ‘compensation for damage or loss’ is also unwarranted for
two further reasons. First, in the draft contract code, the provision on stipu-
lated sums (clause 53) was placed under the unnumbered chapter titled
‘Compensation’.91 This was despite the fact that the provision did not provide
for any compensationçthe words ‘reasonable compensation’, it will be recol-
lected, were then absent from the provision. Therefore, not much can be made
89
Kailash Nath Associates v Delhi Development Authority [2015] 4 SCC 136, 155.
90
S 73: ‘Compensation for loss or damage caused by breach of contractçWhen a contract has
been broken, the party who suffers by such breach is entitled to receive, from the party who
has broken the contract, compensation for any loss or damage caused to him thereby, which
naturally arose in the usual course of things from such breach, or which the parties knew,
when they made the contract, to be likely to result from the breach of it’ (explanation and illus-
trations omitted).
S 75: ‘Party rightfully rescinding contract, entitled to compensationçA person who right-
fully rescinds a contract is entitled to compensation for any damage which he has sustained
through the non-fulfilment of the contract’ (illustrations omitted).
91
This was clause 50 in the Commissioners Report and Clause 53 in the draft statute:
Parliamentary Papers (n 15) 16, 61.
out of the mere occurrence of section 74 in the company of other provisions

that only compensate for damage or loss, in a chapter on compensation for
breach of contract. Second, clause 53 as it originally stood provided that the
question of compensation for loss or damage would only kick in ‘if no sum has
been named in the contract itself’. Clause 53 reads as follows:
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, 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 con-
tract reasonable compensation not exceeding the amount so named, but if
no sum has been named in the contract itself, the party who suffers by such
breach is entitled to receive from the party who has broken the contract,
compensation for loss or damage caused to him thereby.92
Clause 53 was split into two sections in the enacted statute. The first part
became section 74 (with a sliding scale appended to it) and the second part
became section 73. Consequently, the conditional ‘but if no sum has been
named in the contract itself’ was dropped. But the splitting up of the sections
should not change the fact that the architecture of the Act envisaged the two
as the antecedent and consequent of a single conditional. Section 73 was to
kick in in case no sum was agreed in the contract. If there was a stipulated
sum, the terms of section 74 would apply. To suppose otherwise would be to
render section 74 practically otiose. This is what the interpretation given to
the provision by the courts does; ‘reasonable compensation’ even in section 74
is to be determined entirely on the basis of section 73.
V. De-inventing the wheel

When one takes stock after a century and a half, one finds that there are many
points at which the course the Indian Contract Act has taken has deviated
from the drafters’ design. No single explanation can account for all these devi-
ationsçbut two factors go some distance towards illuminating them. One is
the problem of ambiguity induced by language. If some term is used in the
Act, there is a tendency to assume that the term cannot but mean what it
means in English law. The doctrine of consideration provides a familiar illus-
tration.93 The drafters of the Act had clearly intended to reform many of the
shortcomings of the English doctrine of consideration by proposing a novel
definition of consideration that had avoided reference to the English terms
‘benefit’ and ‘detriment’ and included induced reliance. There was no mistaking
the fact that this conception of consideration had little to do with the English
92
Ibid (emphasis added).
93
This discussion follows Swaminathan, ‘Eclipsed By Orthodoxy’ (n 21).
definition of consideration except for the label. But the courts superimposed
upon this the English definition of consideration replete with ‘benefit’and ‘detri-
ment’. Whenever a term is used in a code, the courts have a tendency to under-
stand the word not on the terms in which it is defined in the code but on the
terms in which it is understood in the antediluvian law that the code is repla-
cing. This, it appears, was the problem with consideration. One promising way

around this problem is the use of neologisms. Not only can the use of neolo-
gisms clearly chart a path at variance from the pre-code law, it can also dis-
abuse the courts of any potential relapse to an antediluvian understanding of
the term. This is precisely what the drafters had done with section 74. They
gave the liquidated damages^penalties a wide berth and operated with a neolo-
gismç‘sum named in the contract’çor what we refer to as stipulated sums.
Had the 1899 amenders of the Act, led by Mackenzie Chalmers, stuck to this
strategy, events could well have taken a different turn. The 1899 amenders un-
wittingly introduced the word ‘penalty’, which turned out to be the Trojan
horse that let in the liquidated damages^penalty distinction the drafters had
been so keen on avoiding. Related to the above problem of ambiguity is the
marked tendency of courts in India to fall back on English law in interpreting
provisions of the Indian Contract Act.94 Underlying this, it would seem, is the
assumption that the Indian Contract Act sought to do nothing more than
codify the English common law of contract and that, therefore, one is entitled
to turn to the sourceçwhich would include not just English law, but also
English scholarshipçfor the elucidation of some provision in the Act or gloss
on some concept or doctrine. As a consequence, courts have often ended up
transplanting English rules of contractçeven in cases where such transplants
were patently not warranted.95 This tendency has also been aided to a great
extent by the prescription of the Privy Council that to fill in gaps in Anglo-
Indian statutory law, resort may be had to principles of the English common
law.96 This, as Richard Gooderson notedçin the context of the Indian
Contract Act, in factçwas to lead to an excessive reliance on English law, to
the neglect of Indian statutory law in many cases.97 Short of the clearest ex-
pression of intent by the legislature to deviate from English law, there was
every chance that an Anglo^Indian statute would be read in a manner as to
align it with English law. Arguably, only a heightened awareness of the legisla-
tive history of a particular provisionçlacking from judicial and scholarly treat-
94
RN Gooderson, ‘English Contract Problems in Indian Code and Case Law’ (1958) 16 CLJ 67.
95
The doctrine of ‘privity’ of contract provides a good illustration of this problem. Despite there
being no ‘privity’ requirement in the Act, the courts in India have presumed that the drafters
would not have wanted to deviate from English law. Swaminathan (n 21).
96
Waghela Rajsanji v Shekh Masluddin (1887) 14 IA 89, 96 (Privy Council). Lord Hobhouse held
that if there is a gap in the law, the case ought to be decided in accordance with ‘equity and
good conscience generally interpreted to mean rules of English law’.
97
Gooderson (n 94) 68.
ment of the Indian Contract Actçcould provide a counterweight to this ten-

dency by illuminating whether a deviation from English law was deliberately
intended by the drafters and outlining the reasons for such deviation.98 Short
of evidence of deliberate deviation from the English law found by a court, fol-
lowing English law is, more or less, an inevitable eventuality in the interpret-
ation of an Anglo-Indian code.
The idea of ‘reasonable compensation’ in section 74 was meant to strike a

balance between the freedom of parties to agree on any stipulated sums they
willed and protecting weak parties from excessively unfair bargains where
the situation warranted it. To be sure, the power to award ‘reasonable compen-
sation’ given to the court was wide and open-ended. Whitley Stokes hypothe-
sized that this jurisdiction was to be exercised with ‘care, caution and on
sound principles’.99 Not the clearest of criteria. But one could perhaps do
better in defining them. One of the biggest flaws of the English liquidated dam-
ages^penalty regime was to suppose that there could be no ‘legitimate interest
in influencing the conduct of the contracting party which is not satisfied by
the mere right to recover damages for breach of contract’.100 If ‘reasonable
compensation’ awarded on a sliding scale is to address this problem, it must
award reasonable compensation to protect the whole gamut of legitimate inter-
ests that can be protected by contractual stipulations. This can be illustrated
with the decision of the United Kingdom Supreme Court in ParkingEye Limited
v Beavis (ParkingEye), which tested the validity of a stipulation imposing a park-
ing charge of »85 on anyone who exceeded two hours of free parking. In no
sense of the term could this be classified as a ‘genuine pre-estimate of
damage’çthe sum was much higher than any standard parking fee for an
occupied parking slot. As the orthodox English law would have had it, this
would be a penal stipulation, in terrorem, and struck down. But if one were to
consider the legitimate interest in a parking scheme that provided free parking
for two hours for shoppers financed by the over-stayers and attach value to
such an arrangement, a different outcome would result. The English law as it
stands after Cavendish and ParkingEye recognizes this legitimate interest test.
But the enforcement of the stipulation still remains all-or-nothing as the
court cannot scale down to a sum reflective of what it considers the most rea-
sonable sum that protects such legitimate interests. Section 74, as intended by
the drafters, is flexible enough to achieve this. A stipulation of the kind under
consideration in ParkingEye does create incentives for the party to perform
the contract, but that in itself is not unreasonable or morally objectionable.
The only relevant moral question is whether the incentives are sought to be
created for a legitimate or justifiable reason. The orthodox common law
98
See Niranjan (n 47) 59.
99
Stokes (n 35) 592.
100
Cavendish Square Holding BV v Talal El Makdessi and ParkingEye Limited v Beavis [2016] AC 1172
1226 (Lord Neuberger and Lord Sumption).
position was flawed in having supposed that any valid stipulation had to com-
pensate for loss. The Indian Contract Act would have been the first to remedy
this in the common law world. But it was not to be.101
101
There is one potentially curious residual issue which all this leaves us withçthe case of the sti-
pulated sum being sought to be used as a limitation of liability clause in a case where the or-
dinary measure of damages is likely to exceed the stipulated sum. Treitel argues that a
limitation clause of this sort would be invalid in Indian law: Treitel (n 16) 218. On the available
evidence the most one can say about this with any degree of certitude is that drafters do not
seem to have considered this problem at all, leaving it an unregulated issue. It could be
argued, however, that in so far as the statute does not impose any limitation on the courts’
plenary power to award damages under s 73, one would be licenced to infer, as does Treitel,
that a limitation clause will not be valid.

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The Chinese Journal of Comparative Law (2018) Vol. 6 No. 1 pp.

De-inventing the Wheel:

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I. A troublesome knot in the common law

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something of an antinomy because the very definition of a liquidated damages

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This proposal for ‘literal enforcement’16 of the stipulated sum appears to

a mid-nineteenth century codeçwas influenced by the will theory, and where

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Section 74 has come down to us in this form as amended by the 1899

misleading (and unintended) impression that the English concept of ‘penalty’

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II. Retying the knot

defendant to the plaintiff as an advance. This was in addition to earnest money

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type of stipulation, it counts against reading any possible liquidated damages^

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73çwhich provides for compensation for damage or loss caused by breach of

III. The 1899 amendment: source of the confusion

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differças to the nature of remedies we ought to adopt to meet an admitted

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in the main provisionçand it would not be far-fetched for a reader to under-

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quite widespread among those schooled in English law.80 It was as if they

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IV. Reasonable compensation and damage or loss

entirelyçattributable to the 1899 amendment. Section 74 as amended gave

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‘whether or not damage or loss is proved to be caused by a breach’ it means the

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Nariman J reasons that section 74 is ‘sandwiched’ between section 73 and

out of the mere occurrence of section 74 in the company of other provisions

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V. De-inventing the wheel

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ment of the Indian Contract Actçcould provide a counterweight to this ten-

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