Are liquidated damages in a contract upheld by Korean courts?

Paragraph 1 of Article 398 of the Civil Act provides that parties to a contract can agree to certain liquidated damages in case of a breach of contractual obligations by either party. The basis of any liquidated damages does not have to be provided at the time of execution of a contract, and the amount of liquidated damages is usually upheld if the reasonableness of such amount is objectively verifiable at a later time. However, Paragraph 2 of Article 398 of the Civil Act does provide that a court may reduce the amount of such damages if it is deemed unduly excessive.

It is noted that a court may reduce the amount of liquidated damages based on all circumstances surrounding a specific contract, such as the relative economic power of creditor and debtor, the purpose and terms of the contract, the reason for setting the liquidated damages, the ratio of the debt to the amount of the liquidated damages, the anticipated amount of damages, and the trade practices at the time of execution of the contract, etc. If and when the court, based on the foregoing factors, deems that the liquidated damages specified in the contract would impose undue pressure to the debtor who is in an economically disadvantageous position, thereby leading to an unfair result, then the court would reduce the amount of the liquidated damages.

In one court case involving a contract for delivery of certain electric vehicles, the court reduced the liquidated damages from 17 Billion KRW to 7 Billion KRW on the ground that the stipulated damages are unreasonably large when taking into account the amount of actual loss by the creditor, the category of the contract in question, and the relative economic powers of the parties concerned. The rate of liquidated damages provided in the contract was 1.5/1000 of the value of the contract and the liquidated damages amount accrued represented some 38% of the total contract value, whereas the reduced liquidated damages amount represented 15% of the total contract value.

However, we still note that the courts would not automatically reduce certain liquidated damages just because the rate of the liquidated damages is set a little higher than usual. The rate of the liquidated damages would be given a full legal effect, provided that there is a valid ground on which the rate was agreed by the parties concerned.