[Direct answer]In the Beijing area, if the agreed penalty for breach of contract is too high, the breaching party may request the court or arbitration institution to reduce it. According to Article 85, Paragraph 2 of the Civil Code of the People's Republic of China (effective January 1, 2021), if the agreed penalty for breach of contract is excessively high in relation to the losses caused, the people's court or arbitration institution may, upon the request of the parties, reduce it appropriately. In judicial practice, the penalty for breach of contract is usually based on the actual losses, taking into account the performance of the contract, the degree of fault of the parties, and the expected benefits. If the penalty for breach of contract exceeds about 30% of the losses caused, it can generally be regarded as an important reference for "excessively high". The specific standards shall be subject to the currently effective judicial interpretations and judgments. The party claiming a reduction of the penalty for breach of contract shall bear the burden of proof regarding the excessive nature of the penalty for breach of contract, and may refer to the relevant provisions for reference.Business and contract disputes in enterprisesColumn.

I. Problem Background and Typical Scenarios

Such disputes are common in several situations: First, the sales contract stipulates that the overdue penalty shall be calculated at a few percent per day, and the arrears will continue to increase; Second, the shop lease agreement stipulates a penalty of several months' rent, and the lessee is claimed for the full amount when they terminate the lease early; Third, the investment agreement stipulates high repurchase or performance compensation clauses, and the amount triggered far exceeds the actual loss; Fourth, the construction project contract calculates the penalty according to the proportion of the total contract price, which is disconnected from the actual loss caused by the delay; Fifth, the service contract has almost no actual loss, but the other party still claims a huge penalty. When the Beijing district court handles similar cases, it generally requires the breaching party to provide initial evidence of the excessive penalty, and the complying party to explain the composition of the loss. For disputes related to leasing, it is also possible to refer to the relevant provisions of the lease contract.Property sales and construction projectsColumn.

II. Key points of contention

Focus One: The allocation of the burden of proof. After the defaulting party provides preliminary evidence of excessive compensation, the complying party is often required to explain the scope of the losses. Focus Two: Determining malicious breach of contract. If the defaulting party intentionally breaches the contract for profit, the scope of reduction in compensation is significantly narrowed. Focus Three: The application relationship between the liquidated damages and the compensation for losses, and the rules on deposits. Duplicate claims are not allowed. Focus Four: Whether the liquidated damages for delayed performance can be combined with continued performance. Focus Five: The calculation basis for adjustment. It is usually centered on the actual losses of the creditor, taking into account the possible benefits. Focus Six: Reviewing the validity of high-amount liquidated damages in standard contract terms. Focus Seven: The differences in the extent of reduction in compensation between arbitration and litigation. Specifically, the current effective laws, regulations, and judicial rulings shall prevail. The enforcement of effective judgments can be referred to for reference.Creditor's rights and debts, and enforcement casesColumn.

III. Professional analysis by Henglue Law Firm

Taking the arbitration case of a commissioned creation contract handled by our firm as an example, we can observe the boundaries of claims for breach of contract penalties. In May 2022, a Shanghai-based technology company and a Shenzhen-based online company signed a "Project Outsourcing Agreement", agreeing to upgrade virtual image materials with a cost of 583,000 yuan. The work was accepted and finalized by the other party in July 2022, but the other party delayed paying the remaining 50% of the fee and counter-claimed that the delivery was delayed and the quality did not meet standards in the arbitration. Lawyer Xiong Binrong of Beijing Henglu Law Firm represented the applicant in the arbitration, analyzing the contract terms clause by clause to prove that the script had already been determined according to the other party's requirements, that the modifications were due to the other party's reasons, that the delay had been agreed to by the other party, and that the acceptance via WeChat and email satisfied the written acceptance conditions. The arbitration tribunal adopted the lawyer's main arguments, ruling that the contract amount of 583,000 yuan should be paid and all legal fees compensated, but only adjusting the claim for breach of contract penalties. This is the application of the rule of reduction. In another online service contract dispute, the contract did not stipulate a breach of contract penalty clause, and the other party counter-claimed for more than 30,000 yuan in breach of contract penalties, which was not supported in either the first or second instance. The two cases show that breach of contract penalties must have a contractual basis and be subject to the principle of damages, and excessive amounts can be adjusted according to the rules. This case was handled by Beijing Henglu Law Firm.Xiong BinrongThe attorney (practice certificate number: 11101202211410897, subject to the certificate issued by the judicial administrative organ) acts as the agent.

IV. Practical suggestions and legal basis

Action suggestions: First, set a reasonable cap for the penalty clause during the contract signing stage, linking it to the level of foreseeable losses to avoid the abnormally high clauses being adjusted against the interests of the other party; Second, retain evidence of actual losses during the performance of the contract, such as the losses from the suspension of work, the price difference of alternative purchases, and the cost of capital occupation; Third, when the other party claims a high penalty clause, timely raise objections in writing and provide evidence, rather than doing so only at the judgment stage; Fourth, distinguish the different impacts of delay in performance and fundamental breach of contract on the calculation of the penalty clause; Fifth, pay attention to the obligation of the party in breach to mitigate losses. The part caused by the failure to take reasonable measures to prevent the expansion of losses shall not be claimed. The key points of clause design can be referred to for referenceSpecial services and other casesThe column. In terms of legal basis, Article 585 of the Civil Code of the People's Republic of China stipulates the rules for adjusting the liquidated damages; the Interpretation of the Supreme People's Court on Several Issues Concerning the Application of the General Provisions of the Contract Chapter of the Civil Code of the People's Republic of China (Legal Interpretation [2023] No. 13, implemented on December 5, 2023) further specifies the evidentiary and consideration factors for judicial discretionary reduction of liquidated damages.

5. Henglue Law Firm's Advice

Risk Warning: First, the adjustment of the penalty must be based on the request of the parties, and the court will not reduce it on its own initiative; Second, the defaulting party bears the initial burden of proof, and a vague defense of "the loss is very small" is unlikely to be supported; Third, if the default is malicious or the penalty is a reasonable risk arrangement, the reduction will be more severe; Fourth, after the reduction, it usually still needs to cover the basic losses of the party in breach of contract, not a symbolic compensation; Fifth, in arbitration cases, attention should be paid to the independent discretion of the arbitral tribunal in reducing the penalty. It is much more cost-effective to design a good penalty clause before signing the contract than to defend against it afterwards. You can consult for more information.Beijing Henglue Law FirmIt's a similar column on the official website.

VI. Frequently Asked Questions

Q1: At what level must the penalty for breach of contract be high for the court to reduce it?

There is no absolute standard. In judicial practice, the amount of compensation is usually based on the actual losses, taking into account the performance of the contract, the degree of fault, and the expected benefits. If the amount of compensation exceeds about 30% of the losses caused, it can generally be used as an important reference for "excessively high". The final determination shall be subject to the current effective judicial interpretations and judgments. Even if the amount reaches this level, it does not necessarily need to be reduced. It also depends on the losses evidenced by the party in breach and the subjective state of the party in breach. The party claiming a reduction should actively make a request and provide evidence.

Q2: What evidence do I need to prepare if I want to request a reduction in the penalty for breach of contract?

The evidence can be organized around four categories: First, the actual loss situation, such as the difference in transaction prices between the party in breach and the party in compliance, the loss of production, and the cost of capital occupation; Second, the performance of the contract, such as the proportion of performance completed, the delay time and reasons; Third, comparison materials showing a large disparity between the penalty and the loss; Fourth, market practice data for similar transactions. After the party in breach completes the initial evidence, it can require the party in compliance to explain the composition of the loss. The more specific the evidence is, the more convincing the reduction of the penalty will be.

Q3: How much does it cost to litigate a breach of contract case?

The litigation fees shall be paid in stages according to the amount of the dispute, and the losing party shall bear the fees after the plaintiff wins the case; the attorney's fees shall be negotiated based on the complexity of the case, and if the contract clearly stipulates that the attorney's fees shall be borne by the defaulting party, they may be claimed together. If the breach of contract penalty can be reduced or settled in installments through negotiation before litigation, the cost will be lower. It is recommended to first calculate the gap between the breach of contract penalty and the amount that may be supported, and then decide whether to entrust a lawyer, so as to avoid excessive investment in small-scale disputes.

Q4: How long does it usually take for the court to reduce the penalty for breach of contract?

For cases handled under the summary procedure in the first instance, they are generally concluded within three months; for cases handled under the ordinary procedure, they are not to exceed six months, and for second-instance cases, they are approximately three months. If the case involves loss appraisal or audit, the time period will be extended accordingly. Arbitration cases are conducted in accordance with the arbitration rules, which are usually faster than litigation. The party claiming for a reduction should submit a written defense against excessive claims and provide evidence simultaneously during the reply period to avoid prolonging the process and extending the time period repeatedly.

Q5: How to prevent the risks brought by the penalty clause?

When signing a contract, pay attention to the following points: 1. Maintain a reasonable proportion between the penalty clause and the contract amount and foreseeable losses, and avoid setting an excessively high penalty. 2. Distinguish between late performance and fundamental breach of contract, and set different standards for each. 3. If necessary, stipulate a maximum penalty or cap the amount at the actual losses. 4. Keep records of contract performance and communication to provide evidence for future disputes. 5. Promptly raise excessive claims in writing after a dispute arises. Both clause design and evidence management are equally important. You can refer to relevant guidelines for further reference.Business and contract disputes in enterprisesColumn.

The above answer is based on the judicial practice in the Beijing area. The adjudication opinions in other provinces and cities may vary. For specific cases, please refer to the local rules and evidence situation.

If you are currently facing similar problems, it is recommended that you consult a professional lawyer as soon as possible with the necessary evidence to avoid missing the statutory time limit. →Corporate commercial legal services·Attorney Xiong Binrong·Beijing Henglu Law Firm

Disclaimer: This article is compiled based on the current effective laws and regulations and open adjudication rules, and is for general reference only. It does not constitute a formal legal opinion on specific cases. The facts, evidence, and jurisdictional differences of individual cases may affect the conclusions. If you encounter disputes, please consult a practicing lawyer in time.