PENALTY CLAUSE IN CASE THE CONTRACTOR FALLS INTO DEFAULT ON THE DELIVERMENT OF THE WORK
A. PENALTY CLAUSE (PENALTY CLAUSE)

A penalty clause is dependent on the existence of the principal obligation, in other words, it is an accessory obligation connected to the principal obligation. This is because the penalty clause secures the principal obligation. The penalty clause can be stipulated either in the main contract or in a separate contract concluded subsequently. The penalty clause can be the payment of a sum of money or it can also involve obligations in property other than money. In accordance with Article 182/I of the TCC and the principle of freedom of contract, the parties to the contract may freely agree on the penalty clause and its amount. However, pursuant to Article 182/III of the TCC, if the judge deems the amount of the penalty clause agreed upon by the parties to be excessive, the judge shall reduce it ex officio. Conversely, Article 182/III of the TCC In accordance with Article 22, if the contractor is a merchant, a penalty clause cannot be reduced on the grounds that it is excessive. However, this rule applies if the penalty clause is detrimental to the merchant contractor and violates morality and etiquette.

The purpose of the penalty clause is to strengthen the principal obligation and puts pressure on the debtor to perform the obligation in accordance with the contract. The landowner can claim the full penalty clause from the contractor, even if the damages are not equal to the penalty clause. While the creditor is not required to have suffered damages to claim the penalty clause, pursuant to Article 180/2 of the TCC, if the creditor suffers damages and this damage exceeds the amount specified as the penalty clause, the creditor may claim the excess damages, provided that the creditor proves fault.

As regulated in Article 179 of the TCC, the types of penalty clauses are: optional penalty clause, penalty clause attached to performance, and rescission penalty.

B. TYPES OF PENALTIES

1. Optional Penalty Clause

The optional penalty clause is regulated in Article 179/F. 1 of the TCC, which states, "If a penalty is agreed upon for non-performance or non-compliance of the contract, the creditor may demand either the performance of the obligation or the penalty, unless otherwise agreed upon in the contract." This provision covers all cases of non-compliance with the obligation, excluding performance of the obligation at the specified time and place. The creditor's right to demand an optional penalty clause depends on the debtor's breach of the principal obligation, which is a suspensive condition. In this case, the creditor is granted a choice. In an optional penalty clause, the debtor is obligated to perform the requested performance (the principal performance or the penalty clause) and may only perform the principal obligation unless requested. The provision of Article 179/F. 1 of the TCC is not a mandatory rule, and the parties may agree otherwise.
Conditions for the Employer to Request an Optional Penalty Clause
i. Optional Penalty Clause Due, Employer's Failure to Renounce the Contract
Y. 15. HD. 2010/2165 E. 2011/2180 K. 11.04.2011 T. "The penalty clause specified in the contract between the parties is an optional penalty clause and can be claimed if the contract is upheld. As stated above, since the contract was terminated by filing a lawsuit and demanding repayment of the paid contract price, collection of the penalty clause stated in the contract is no longer possible. Therefore, accepting the lawsuit rather than rejecting it for the penalty clause claim was contrary to procedure and law and necessitated reversal."
ii. The Employer's Choice of an Optional Penalty Clause Instead of the Primary Performance:
In contracts involving mutual performance, in the event of default by the debtor, in order to claim a penalty clause instead of performance, the creditor must exercise their optional right (Article 125 of the TCC) to "waive performance and seek compensation for positive damages." This is not a truly optional obligation, but rather an optional power granted to the creditor.
iii. The creditor cannot demand both performance (i.e., compensation for delay), rights that would be considered performance, such as compensation for incomplete or defective work, and the optional penalty clause. Y.15.HD.2006/2961 E. 2006/4723 K. 24.07.2006 T. “In Article 19 of the agreement dated 21.05.1993 between the parties, titled "Failure to Fulfill the Commitment," it is stated that "the cooperative accepts and undertakes to pay a penalty of 5,000,000,000 TL to the landowners if it fails to fulfill its obligations arising from this agreement and its annexes, does not complete the construction at all, leaves it unfinished, or does not comply with the provisions of the agreement." It appears that the penalty specified in this article is an optional penalty regulated in Article 158/1 of the Code of Obligations. Pursuant to Article 158/1 of the Code of Obligations, since there is no provision to the contrary in the agreement, the creditor can demand either the execution of the contract or payment of the penalty. In the present case, the plaintiff, the landowner, requested the performance of the contract by demanding the price for the incomplete and defective work. Since this is the case, the creditor cannot also claim the optional penalty from the defendant.”

iv. Due to its nature, an optional penalty clause does not require a notice of reservation.
Y. 23. HD. 2014/10307 E. 2015/5892 K. 15.09.2015 T. “The dispute between the parties concerns the title deed cancellation and registration and the mutually requested penalty clause receivable pursuant to the construction contract and the supplementary contract in exchange for a land share… The penalty clause was agreed upon for the parties' breach of their obligations under the contract. Therefore, this penalty clause is, by its legal nature, an "Optional Penal Clause." And no reservation is required for its request.”

2. Penalty Clause Added to Performance

The penalty clause added to performance is regulated in Article 179/F. 2 of the TCC, which states, "If the penalty is agreed upon for the failure to perform the obligation at the specified time or place, the creditor may demand the performance of the penalty along with the principal obligation, unless the creditor has expressly waived his right or accepted the performance without reservation." The provision in Article 179/F. 2 of the TCC regarding the penalty clause added to performance is not mandatory. Parties may agree to a penalty clause added to performance for non-compliance with the obligation beyond the possibility of the obligation not being performed at a specified time or place.

For the creditor to demand both specific performance and the penalty clause under Article 179/F. 2 of the TCC, the creditor must not have expressly waived this right or accepted the performance without reservation.

Conditions for a Client to Request a Penalty Clause Attached to Performance

i. Penalty Clause Attached to Performance Must Be Due: For a penal clause to be claimed, the principal obligation secured by the penal clause must first be due.

ii. Burden of Proof: The creditor is not obligated to prove that the debtor suffered a loss due to its failure or poor performance.

iii. Breach of Principal Obligation: For a penal clause to be claimed, the principal obligation must not have been performed at all or properly. Late performance of a debt or failure to perform in accordance with one of its elements, such as place, time, amount, or quality, is broadly defined as improper performance. In a narrower sense, improper performance refers to the performance not being in accordance with the characteristics of the obligation (malperformance).

iv. Performance Not Accepted Without Reservation by the Client: Article 20 of the Turkish Code of Obligations. Pursuant to Article 179/F. 2, the creditor loses the right to claim a penalty clause if the contractor accepts the contractor's delayed performance without reservation. In Supreme Court practice, it is widely accepted that the declaration of reservation for the penalty clause added to the performance must be made at the time of delivery of the completed work. IN PRACTICE: In cases where the delivery obligation is fulfilled by a notice from the contractor, as in a contract for construction on the client's land, the client must declare the reservation of the penalty clause added to the performance as soon as possible upon receiving this notice. However, if the parties have agreed on the time at which the work will be deemed delivered and accepted, this time constitutes the maximum time limit for a valid reservation.

If a work is to be delivered in parts, the declaration of reservation for each part must be made at the time of delivery of the relevant part. The declaration of reservation for the penalty clause is not subject to any specific form; the creditor may make this declaration in writing or verbally. The creditor must prove that the right to claim a penalty clause was reserved. A client who fails to raise a reservation and loses the right to claim a penalty clause added to the performance may claim compensation under general provisions; therefore, they may claim damages incurred due to the failure to perform the work promptly or appropriately as compensation for delays.

v. The Employer Has Not Waived Penalty Clause Claim

Another requirement for the employer to claim a penalty clause added to performance is that the employer has not expressly waived its right to claim a penalty clause.

vi. The Employer Has Not Renounced the Contract

In a construction contract, a penalty clause added to performance can be claimed only if the contract has not been renounced. For example, if the principal obligation is not performed and the creditor exercises their right to renounce the contract based on Article 125/2 of the TCC, the principal obligation will be extinguished retroactively. Therefore, the right to claim a penalty clause, which is a provision of this contract, will also be extinguished retroactively. Since the retroactive effect of renouncement will render the amount of the penalty clause prior to this transaction without legal justification, it is not possible to claim the amount of the penalty clause accrued up to the time of renouncement if the penalty clause accrues and increases during the period of non-compliance with the obligation.

The Court of Cassation, in its assessments of the impact of the employer's exercise of the right to rescind the contract on the penalty clause included in a construction contract, generally rules that the penalty clause added to performance cannot be claimed in the event of rescind. However, in cases where the nature of the event justifies it and where termination of the contract is deemed to be in question, in accordance with Article 2 of the Turkish Civil Code, the penalty clause added to performance may be claimed.
vii. The Employer Claims Performance or Relinquishment of Performance and Compensation for Positive Damage, Along with the Penal Clause Added to Performance
The penalty clause attached to performance can be claimed along with the performance of the principal obligation (Article 179/2 of the Turkish Code of Obligations).
Y. 15. HD. 2007/6021 E. 2008/7007 K. 24.11.2008 T. “Although a penalty clause added to performance in a construction contract may be claimed along with performance, unless otherwise stipulated in the contract, other damages cannot be claimed, except for damages exceeding the penalty clause. According to the increasingly consistent decisions of the Supreme Court of Appeals, a penalty clause added to performance may be claimed between the agreed-upon date for delivery of the work and the actual delivery date.”

 Penal Clause Added to Performance - Lump Sum Damages

The Turkish Code of Obligations specifically addresses the penalty clause. However, there is no specific regulation regarding the concept of lump sum compensation.

The Court of Cassation refers to lump-sum compensation as "rent compensation" in some of its decisions. (Y. 15. HD. 1988/88 E. 1988/3118 K. 04.10.1998 T.)

Because lump-sum compensation is a different legal entity from a penal clause, the provisions of Article 179 et seq. of the TCC, which would apply to penal clauses, do not apply to lump-sum compensation, even by analogy. Therefore, a significant difference between the two institutions is that Article 179/F. 2 of the TCC, which stipulates that a penal clause can be claimed provided it is reserved during the performance of the principal obligation, does not apply to lump-sum compensation. Indeed, the subject of a lump-sum compensation agreement is the amount of compensation; there is no change in the other conditions related to the compensation obligation. However, as stated above, Article 180/F. of the TCC According to Article 1, the creditor is not required to have suffered damages for a penalty clause to be claimed. In contrast, with lump-sum compensation, the requirement is that a loss has already occurred.

In lump-sum compensation, as a rule, it is not possible for the creditor to prove actual damages and claim more than this amount in accordance with Article 180/F. 2 of the TCC (absolute lump-sum compensation). However, the parties may agree to stipulate that the creditor may claim damages exceeding the lump-sum compensation, or they may grant the debtor the right to prove less damages (proportional lump-sum compensation agreement). Finally, Article 182/F. 3 of the TCC, which regulates the reduction of excessive penal clauses, will not apply to lump-sum compensation. To establish the existence of a lump-sum compensation agreement, the amount determined by the parties must be a reasonable foresight of the potential future damages.
3. Reversal Penalty (Penalty Clause Preventing Performance)
Article 179/F. of the Turkish Code of Obligations. According to Article 3, "The debtor reserves the right to prove that he or she is authorized to terminate the contract by paying the agreed-upon penalty, either by rescission or by termination." With a rescission penalty, the parties agree that the debtor can rescind the contract by paying a certain amount, thus relieving themselves of their obligation to perform the principal obligation. While the rescission penalty is regulated in Article 179 of the TCC, it is not a penal clause in the true sense. Indeed, breach of obligation is not necessary to be free from contractual obligation by paying the agreed-upon amount. While a penal clause strengthens the contract by compelling the debtor to perform, a rescission penalty weakens the contract by allowing the debtor the freedom to rescind the contract.

 DETERMINING THE TYPE OF PENALTY CLAUSE

In determining the type of penalty, the contract provisions must first be examined. The Court of Cassation has often characterized a penalty clause stipulated based on the possibility of non-compliance with contractual terms as an optional penalty clause. However, since non-compliance with the contract may also allow for a demand attached to performance, it should not be concluded that a penalty clause agreed upon for non-compliance with contractual terms will always be an optional penalty clause. In this regard, the amount of the penalty clause can be a guide. Indeed, legal doctrine holds that a low penalty generally indicates a penalty attached to performance, while a high penalty indicates the existence of an optional penalty clause.

In construction contracts in exchange for land shares, the most common penalty clause is the penalty attached to performance. This is because failure to deliver the independent units in this contract by the due date would meet the requirements of Article 179/II of the Turkish Code of Obligations, and therefore, this provision would be applicable. A penalty clause attached to performance may be requested for the period until the independent sections are completed, albeit delayed, and actually delivered to the landowner. It is important to note that if the contractor announces that they will not complete the construction of the building or abandons the project, the landowner insists on demanding specific performance and delay compensation to increase the penalty amount, failing to exercise their other options. If the contractor announces that they will not complete the construction of the building or abandons the project, the landowner insists on demanding specific performance and delay compensation simply to increase the total penalty amount, this would be a violation of the principle of good faith. In this case, as stated in Supreme Court decisions, the landowner may request a penalty clause up to the latest date by which they must waive specific performance and delay compensation.

Conversely, as long as the contractor does not abandon the construction of the building, they may request a penalty clause for the period until the landowner exercises their other options after waiving specific performance. In this case, the contractor, by continuing construction, has accepted and agreed to perform the obligation subject to payment of a penalty. Therefore, in this case, the landowner cannot be said to have acted in good faith. According to Article 179/II of the TCC, the landowner may demand specific performance and payment of the penalty from the contractor who is late in delivering the independent units. However, if the landowner takes delivery of the independent units without reserving the right to demand the penalty, they will lose their right to demand the penalty. As regulated in Article 180 of the TCC, the landowner may demand the penalty even if they do not suffer any loss due to the failure to deliver the independent units on time. Provided that the contractor is at fault for the delay, if the damage suffered due to the failure to deliver the independent units on time exceeds the penalty clause, the landowner may also claim compensation for the excess.
 CLAIMING DAMAGES IN EXCESS OF THE PENALTY CLAUSE
If the damage suffered by the creditor exceeds the agreed-upon penalty clause, the creditor may claim the amount exceeding the penalty clause, provided that the creditor proves the debtor's fault. This rule applies equally to both optional penalty clauses and penalty clauses added to the performance. The conditions are as follows:

i. Existence of Damages Exceeding the Penal Clause
The first requirement for a creditor to benefit from the opportunity stipulated in Article 180/2 of the TCC is the existence of damages exceeding the penal clause. It is important to emphasize here that the creditor cannot claim compensation for the entire loss suffered, but only for the portion exceeding the penal clause. Therefore, if a construction contract in exchange for a land share includes both a penal clause and rental compensation, but the contract does not specify that both can be claimed, only the portion of the rental compensation exceeding the penal clause can be claimed. Y.23.HD.2015/936 E. 2016/4530 K. 13.10.2016 T. “In construction contracts in exchange for land shares, where both a penalty clause and rental compensation are stipulated together, if the contract does not explicitly state that both compensations will be claimed separately, the penalty clause may be awarded, and if damage exceeding the penalty clause is proven, the portion of the rental compensation exceeding the penalty clause may be awarded. If the amount of rental compensation to be calculated does not exceed the penalty clause, only the penalty clause should be awarded.”

ii. Debtor's Fault
As clearly stated in TCC Article 180/2, the debtor must prove his fault.

iii. The creditor's proof of damages and fault constitutes a causal link. However, if the contrary is agreed upon or if the contract is terminated, the claim cannot be claimed.

Finally, it's important to note the differences between penalty clauses and lump-sum compensation. A lump-sum compensation involves the parties estimating the amount of damages the landowner will suffer in the event of a delay in performance and agreeing in advance on the compensation the contractor will pay in the event of delay, thus clarifying the amount of tangible damages. Therefore, unlike a penalty clause, which aims to guarantee payment of the contractual obligation, a lump-sum compensation allows for the calculation of compensation for the damages that will occur. In contrast, the purpose of a penalty clause is to pressure the contractor to perform its delivery obligation in accordance with the contract.

ATTORNEY AYŞEGÜL ÖTER
U&T Law - U&T Law and Consulting