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It is a basic and long-standing common law principle in the law of contract that a provision in a contract which is construed a penalty cannot be enforced. In an eagerly anticipated judgment, a seven judge Supreme Court has now “clarified”, in reality re-formulated, the applicable test for determining whether a particular contractual provision should be struck down as being a penalty. This decision is almost certain to be followed in Bermuda, in the British Virgin Islands and in the Cayman Islands.
Previously the law had stood with the well-known decision of the House of Lords in Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd  AC 79 and the classic four-fold test propounded by Lord Dunedin which the Supreme Court noted had unfortunately “achieved the status of a quasi-statutory code in the subsequent case-law”. In the combined appeals in a commercial case Cavendish Square Holding BV v Talal El Makdessi and a consumer case ParkingEye Ltd v Beavis  UKSC 67 the Supreme Court has now re-stated the applicable principle as a single test of:
“whether the impugned provision is a secondary obligation which imposes a detriment on the contract-breaker out of all proportion to any legitimate interest of the innocent party in the enforcement of the primary obligation”.
The majority reasoning was provided in a joint judgment of Lords Neuberger and Sumption with which Lord Carnworth agreed, and in separate judgments of Lord Mance and Lord Clarke who agreed the re-formulation of the test by Lords Neuberger and Sumption.
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UK Supreme Court Re-Formulates The Test For Determining Unenforceable Contractual Penalties