When entering into a contract, it is always sensible to consider what would happen if the other party defaults on one or more of their obligations. The purpose of this article is to give you a simplified and brief understanding on how the local UAE courts estimate the level of damages that the non-defaulting party may actually receive in the event of breach of contract.
The purpose of damages is to compensate a party for any loss caused by the counterparty to a contract or wrongdoer. However, a broad understanding that one can file a lawsuit and claim damages is not enough information to ascertain the type and amount of compensation in the UAE, as there are a number of considerations that local courts take into account before awarding any damages. You may have decided to specify certain penalties in the contract, but are you aware that the other party may not be ordered to pay all of such penalties by the court? Similarly, the defaulting party may even be ordered to pay more than what’s specified in the contract.
First, it’s important that you are familiar with the types of damages under UAE civil law. All damages are divided into two categories: (1) damages resulting from contractual liabilities, and (2) damages resulting from tortious liabilities. The first category is self-explanatory, and these damages include several types of damages that may be invoked in the event of breach of contract. The second category, on the other hand, are damages that may be claimed whenever certain wrongful acts are committed either outside of the boundaries of a contract signed or where there is no contract signed between the wronged party and the wrongdoer.
(1) Damages Resulting from Contractual Liabilities
Damages resulting from contractual liabilities may be divided into the following categories: (a) Direct Damages; (b) Liquidated Damages; (c) Loss of Profit; (d) Interest; and (e) Moral Damages.
(a) Direct Damages:
These are the damages that were a direct result of the breach of contract. For example, in the event a tenant fails to pay the lease for a one-month period, the direct damages would be the amount of said one-month lease. As another example, in the event a party fails to pay an invoice, the direct damages would be the exact amount of the unpaid invoice.
(b) Liquidated Damages:
Liquidated damage clauses allow the parties of a contract to pre-agree to a certain amount of damages that would be due to a party in the event a counter-party fails or is delayed in performing their obligation. Liquidated damages are determined by the parties before an occurrence of any breach. This principle is also commonly referred to as a penalty clause and is referred to under Article 390 of the UAE Civil Code.
Liquidated damages are a good option for parties wishing to specify the exact amount of money that will be due in case a party breaches a certain obligation instead of trying to justify a claimed compensation later before the courts if a lawsuit is filed. However, although Article 390 (1) of the UAE Civil Code allows for parties to invoke a liquidated damages clause in the event of a breach, it is important to note that under Article 390 (2) of the Civil Code, a judge may, upon request of either party, increase or decrease the amount specified in the liquidated damages clause so as to make the damages equal to the actual loss, thereby invalidating any agreement to the contrary.
(c) Loss of Profit
This is the loss of a future, but foreseeable, revenue as a consequence of a breach of contract. For example, if the parties entered into an agreement for the lease of a machine, and the leasing party damaged the machine, it then has caused the party that owns the machine future losses as the owner could have leased it to another party had it not been damaged by the leasing party. In such a case, the owner of the machine may claim loss of profit as the breaching party failed to return the machine in good condition as required in the contract, which resulted in the owner losing revenues on future bookings. However, it is important to note that for a court to award compensation based on lost profits, the amount of the lost profits must be certain and not merely based on speculative or hypothetical damages.
Whenever a party to a contract defaults on a certain payment, the other party may demand interest up to 12% on the unpaid payment (interest on the direct damages) from the date the payment was due. In practice, Dubai courts usually decide on a 9% interest rate from the date of filing a lawsuit, while the courts in other Emirates usually decide on a 4% or 5% interest rate instead.
In addition, in the event a UAE court orders a party to a contract pay compensation (for example, loss of profit or moral damages), an additional interest with the same rates described above would apply on the compensation amount from the date a final judgment is rendered. In other words, two interest rates would apply: (1) interest on the direct damages; and (2) interest on the compensation amount.
(e) Moral Damages
Moral damages may be claimed for an infringement of the liberty, dignity, honor, reputation, social standing or financial condition. Although moral damages are usually considered a tortious liability, UAE courts have recognized that moral damages may be claimed and awarded for contractual damages as well.
(2) Damages Resulting from Tortious Liabilities
A tort is a civil wrong that involves the cause of harm outside of contractual liabilities. Tort may result from both negligent and intentional harmful actions. Tort includes a few specific actions, which are fraud, negligence, and intentional harm. As aforementioned, it is not possible to invoke tortious damages under a contractual liability. However, it is possible to claim the occurrence of fraud and gross negligence under a contract. Also, all of the aforementioned damages under contractual liabilities except for liquidated damages and interest may be invoked under tortious claims as well as consequential damages.
Calculation of Actual Compensation for Breach of Contract
Having explained the types of damages under UAE law, let us now discuss how judges generally estimate the compensation amount in their judgments relating to breach of contract.
First of all, it is important to note that while some jurisdictions, such as the US, adopt the concept of punitive and exemplary damages, which aims to reform or deter the wrongdoer and others from committing an act similar to that which formed the basis of the lawsuit., the UAE jurisdiction does not. Instead, UAE jurisdiction estimates the compensation in an amount equal to the damage caused and profit lost (if evidenced). In other words, the purpose of the compensation amount is not to punish and make an example out of the wrongdoer, but to simply repair the damage done to the wronged party. Accordingly, this plays a significant part in generally making the damages awarded by UAE judges less when compared with damages awarded in jurisdictions that recognize the concept of punitive and exemplary damages.
In light of this, no matter the types of damages invoked under a breach of contract (whether direct damages, loss of profit, or moral damages), the judge’s estimation of the total amount of the compensation will aim to keep it relatively proportional to the direct damages caused and profit lost (if evidenced). Relatively proportional here means that the awarded compensation will not likely be significantly higher than the amount of the direct damages. It is not possible to specify this any more than that, as each judge may estimate the compensation amount differently than another. Finally, it should be noted that interest is an additional amount of compensation that is calculated from the date a lawsuit is filed and excluded from the proportionality requirement.
Secondly, as liquidated damages allow the parties to a contract to agree on the amount of compensation before either party breaches, there is, however, a limit to liquidated damages as they must also be proportional to the damage caused. Further, the wronged party may also demand loss of profit and moral damages in addition to any liquidated damages (as long as the claimant shows that the total compensation amount is relatively proportional to the damage incurred). Accordingly, the parties to a contract should not expect the courts to enforce unsubstantiated liquidated damages as courts can adjust any award to be commensurate with the actual damages incurred.
Thirdly, when considering whether or not to file a lawsuit, it is important to note that the UAE jurisdiction only awards nominal attorney’s fees regardless of the attorney’s fees that you have actually incurred. Such nominal attorney’s fees do not exceed AED 2,000. Therefore, it is important that you consider this factor and the calculate the costs you will likely incur against the amounts of money you may receive if you win a lawsuit before you decide to file one.
Fourthly, it is important to note that although the Dubai International Financial Centre Courts (DIFC Courts) are considered as local courts, they are a common law dispute resolution forum with specific internal regulations that vary considerably when compared to local courts. When it comes to damages estimation, the DIFC Courts usually order higher damages than other local courts for the same dispute. The same applies to liquidated damages, as DIFC Courts are more likely to abide by the liquidated damages mentioned in a contract, where other local courts might find them disproportionate to the damage caused. This is one of the main reasons why many parties to a contract decide to have DIFC Courts resolve any dispute that might occur between them.
It is important to emphasize the fact that this article is specific to contracts that are governed by UAE law and where UAE courts are chosen as the competent jurisdiction to resolve the dispute that may arise. Accordingly, please note that the estimated compensation may change considerably if, for example, a local arbitration center (or DIFC Courts as aforementioned) was chosen by the parties to resolve any dispute instead of local courts, because arbitrators usually tend to award slightly higher damages than UAE judges. Furthermore, when it comes to liquidated damages, it is recommended to set it slightly higher than the direct damage that might be incurred in case of breach of contract. Having said that, nothing prevents one from setting the liquidated damages much higher and leaving it to the other party to try to prove that it is unproportioned in the event a dispute arises.
Al Dahbashi Gray– Karim Salem and Jenine Abdeljaber – 15 January 2018
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