Kevin Walton | Snell & Wilmer | October 6, 2017
In Colorado, courts enforce liquidated damages provisions if three elements are satisfied: (1) the parties intended to liquidate damages; (2) the amount of liquidated damages was a reasonable estimate of the presumed actual damages caused by a breach; and (3) at the time of contracting, it was difficult to ascertain the amount of actual damages that would result from a breach. But what happens when a contract gives a party a right to choose between liquidated damages or actual damages? This seems troublesome because it allows a party to set the floor for their damages without limitation if actual damages exceed the contractual amount. As a matter of first impression, the Colorado Supreme Court addressed this issue in Ravenstar, LLC v. One Ski Hill Place, LLC, 401 P.3d 552 (Colo. 2017).
In Ravenstar, plaintiffs contracted to buy condominiums from a developer. As part of their contracts, plaintiffs deposited earnest money and construction deposits equal to 15% of each unit’s purchase price. Plaintiffs breached their contract by failing to obtain financing and failing to close by the closing date. Each contract’s damages provision provided that if a purchaser defaulted, the developer had the option to retain all or some of the deposits as liquidated damages or, alternatively, to pursue actual damages and apply the deposits to that award. After plaintiffs defaulted, the developer chose to keep plaintiffs’ deposits as liquidated damages. Plaintiffs sued for return of their deposits.
Plaintiffs argued that the liquidated damages provision was unenforceable because it gave the developer the option to choose between liquidated damages and actual damages. From this, they argued that there was no mutual intent to liquidate damages because there wasn’t an agreed sum of damages. Notably, other state courts have held that optional liquidated damage clauses are impermissible. For example, in Lefemine v. Baron, 573 So.2d 326, 329-30 (Fla. 1991), the Florida Supreme Court acknowledged the unfairness associated with such a provision. It explained that the buyer is always at risk for damages exceeding the liquidated amount of damages. But, if the actual damages are less than the stipulated sum, the buyer is still bound by the liquidated damages clause because the seller will just keep the deposit.
The trial court and the appellate court disagreed with plaintiff, both ruling in favor of the developer. The Colorado Supreme Court concluded that, as a matter of freedom of contract, a liquidated damages clause is enforceable when the contract allows the injured party to choose between liquidated damages and actual damages. But the Court provided one limitation—the option must be exclusive, meaning that a party can’t seek liquidated damages and actual damages.
Under Ravenstar, Colorado developers may include optional liquidated damages provisions in their contracts without invalidating the liquidated damages provision. If the relationship results in litigation, the court may allow the party to choose between the liquidated damages or actual damages. Even if the actual damages exceed the liquidated amount, compelling reasons may still exist to choose the liquidated damages. For example, liquidated damages provide certainty where actual damages may be difficult or impossible to determine. Additionally, liquidated damages could reduce the time and expenses necessary to prove actual damages, especially where the liquidated damages consist of money already paid to the developer.