What are liquidated damages in contract terms?

Liquidated damages in contract law refer to specific amounts agreed upon in advance by the parties to a contract to be paid in the event of a breach. This is typically included to provide clarity and certainty about potential damages, which helps to avoid disputes later on. By establishing a genuine pre-estimate of potential damages, the parties can address the uncertainty and inconvenience that can arise from breaches and ensure a degree of predictability in their contractual relationship. This provision is enforceable as long as the amount is reasonable and not considered a penalty.

The other options suggest alternative understandings of liquidated damages that do not align with established legal principles. Penalties are generally viewed as unenforceable in contract law; liquidated damages must be a fair estimate rather than arbitrary or excessive. Moreover, they are not intended to create an unrestrained estimate of damages or provide a method to avoid liability entirely, as the essence of liquidated damages is to compensate for foreseeable losses rather than punish.