It’s common today for a contract to include a “liquidated damages” provision, which specifies a sum of money one party will receive if the other party breaches the agreement.

For a liquidated damages clause to be enforceable, the nature of the contract must be such that it is difficult to determine what the actual damages would be, and the sum must be reasonable under the circumstances.

It certainly sounds like a great idea. Both parties negotiate in advance what will happen if the contract is breached, which should reduce the likelihood of litigation if problems arise later.

Of course, planning for what will happen when something goes wrong is one thing. What actually occurs may be very different, as was demonstrated in a case recently decided by the California Court of Appeal in Monterey County.

It involved a dispute between a sister and brother over a failed real estate project in Pebble Beach. (Krechuniak v. Noorzoy.)

Aisha Krechuniak and her brother, Zia Noorzoy, signed a contract in 2005 for him to develop some property owned by Aisha that was worth $1.5 million. They would split any profits from the sale of the property after she was repaid the $1.5 million.

The following year she borrowed over $1 million to pay for the development. Later Aisha helped her brother borrow $400,000 more, pledging other property she owned.

Zia failed to make the mortgage payments. The property that was supposed to be developed was sold at foreclosure, and Aisha was also left with a $400,000 debt on the second property.

Aisha sued Zia. He soon filed for bankruptcy, which delayed a trial on the claims against him until November of 2014. Just before the trial date, the parties negotiated a settlement agreement that called for Zia to pay his sister $600,000 over five years.

The agreement also included a liquidated damages clause, in the form of a stipulated judgment in the amount of $850,000 which would be “executed and held unless and until there is a default in payment.”

The agreement, drafted by the brother’s attorney, said the money was not “a penalty” (which is not permitted in a liquidated damages provision.) It stated that she was giving up her right to go to trial, and acknowledged that if she pursued her case in court she would likely get a verdict larger than $850,000.

Aisha “agrees to accept substantially less in settlement as an act of kindness toward a family member,” the brother’s attorney told the trial court.

Less than three weeks later the brother rejected the settlement because, he said, his sister had called him “a liar and a thief” outside a courtroom.

In mid-2015 Aisha sued. The court ruled in Aisha’s favor, awarding her the $850,000 specified in the agreement.

Zia appealed, arguing that the $850,000 was not truly liquidated damages, but was a penalty, which is not allowable in a civil contract.

A liquidated damages provision can be invalidated if the party challenging it establishes that it was unreasonable under the circumstances existing at the time the contract was made.

But Zia did not argue in his appeal that the amount was unreasonable. Instead he claimed it amounted to a penalty or fine, which is not enforceable in a civil contract.

Citing a provision in English common law dating back to 1849, the appellate judges said that whether such a provision is actually liquidated damages or a penalty “is a question of law, to be decided by the (trial court) judge upon consideration of the whole instrument.”

Zia didn’t just fail to make that argument to the lower court, the appellate judges noted. His own attorney “offered the trial court two drafts of settlement agreements explaining that the stipulated judgment was not intended as a penalty.”

The appellate court ruled against Zia, saying his sister was entitled to the agreed-upon $850,000 as well as her costs on appeal.

As this case demonstrates, family relationships can sometimes be unpredictable, but contracts typically mean what they say.

By M. Laurie Murphy