Polish Supreme Court judgment
dated 13 February 2014
Case No. V CSK 45/13
Summary by arbitraz.laszczuk.pl:
In 2007 a consortium of two contractors entered into a contract with a local commune for expansion of the sewer system at a housing development. The contract provided for a contractual penalty in the event of failure to complete the project on time. The contractors failed to deliver the post-construction documentation or obtain an operating permit on time, and the commune assessed against them a contractual penalty of about PLN 38,781,000 and set off this amount against the fee payable to the contractors.
The contractors commenced arbitration against the commune seeking their full fee and reduction of the contractual penalty, alleging that the grounds for assessment of the contractual penalty had not been fulfilled. The arbitral tribunal found that the amount of the contractual penalty was excessive because the commune had not suffered a loss, as the construction was completed on time and the tasks not completed on time represented only about 3% of the value of the contract. The arbitral tribunal issued an award accordingly in 2011 cutting the contractual penalty to about PLN 1,788,000 and ordering the commune to pay the contractors the balance of their fee in the amount of about PLN 36,994,000.
The commune applied to the regional court to set aside the award. The regional court held that the award violated public policy, specifically the principles of freedom of contract and enforceability of contracts, and set aside the award. The court of appeal denied the appeal by the contractors, holding that the award further violated public policy by ignoring the principle of the burden of proof in finding that the commune had not suffered a loss.
On cassation appeal, the Supreme Court of Poland held that while public policy in Poland includes the principles of freedom of contract and enforceability of contracts, it also includes other principles limiting these principles, such as the constitutional principle of proportionality and the compensatory nature of damages, and moreover the Civil Code permits contractual penalties to be cut when they are found to be excessive. Because the arbitral tribunal was acting within its statutory authority when it awarded a reduction in the contractual penalty, the award did not violate public policy. The Supreme Court amended the judgment below accordingly to deny the commune’s petition to set aside the award.
Excerpts from the text of the court’s ruling:
1. Application by the arbitration court of the substantive law applicable in the case is subject to review by the common court only insofar as required by the evaluation of the arbitration award, made by the court on its initiative, under the public policy clause set forth in Civil Procedure Code Art. 1206 §2(2), in terms of the award’s possible inconsistency with fundamental principles of the Polish legal system.
2. Alongside the principles of freedom of contract and the enforceability of contracts, the fundamental principles of the Polish legal system also include principles setting the boundaries of the freedom of contract and, in consequence, the limits of application of the principle of enforceability of contracts. These are more specifically the principle of business freedom, the principle of contractual fairness, and the principle of the compensatory nature of liability in damages, interpreted in compliance with the constitutional requirement of proportionality (Constitution Art. 31(3)), opposing inclusion in contracts of monetary consideration as a sanction for violation of an obligation in an amount far removed from the dimension of the loss, so that it becomes primarily a quasi-penal measure and leads to enrichment of the other party.
3. The reduction of the agreed contractual penalty by the arbitration court did not display the features of an arbitrary limitation of the legal consequences of providing for the contractual penalty, but fell within the bounds of statutory authority.
4. Any irregularities in application of Civil Code Art. 484 §2 by the arbitration court not resulting in the inconsistency of the award issued by it with the fundamental principles of the legal system could not be relevant in proceedings to set aside the award.