Damages and Penalty Clauses Under Vietnam's Commercial Law: A Legal Overview — Key Contract-Practice Points for Japanese Companies

NEXORA Law Firm regularly assists Japanese companies with contract drafting, negotiation, and performance support in Vietnam, and is particularly well versed in structuring damages and penalty provisions and in strategies for avoiding related risk. Vietnam's Commercial Law contains rules and practical conventions that differ from those in Japan, and clarity at the contracting stage is essential to prevent disputes. This article is written for readers interested in "the cap on penalty clauses in Vietnam," "the relationship between breach of contract and damages," "the burden of proof for loss under Vietnam's Commercial Law," "penalty clauses in contracts," and "contract practice for Japanese companies." It explains in detail the legal points to bear in mind in contract practice and the precautions to take in advance.

01 - The Basic Structure of the Damages Regime Under Vietnam's Commercial Law

1.1. What Is "Damages"?

Under Vietnam's Commercial Law, "damages" refers to the legal liability borne by a breaching party to compensate the other party for loss suffered as a result of non-performance (breach of contract) (Article 302 of the Commercial Law). Under this provision, compensable loss is divided into the following two categories:

Direct, actual loss
Examples: damage to goods caused by the breach, additional costs from logistics or re-arrangement, expenses already incurred at the time the loss arose, and the like.
Loss of anticipated profit
Examples: profit or revenue that would presumably have been earned had the contract been performed.

In other words, the purpose of the damages regime is to restore the aggrieved party's overall economic position to what it would have been but for the breach.

1.2. Legal Requirements for a Claim for Damages

For a claim for damages to succeed under Vietnam's Commercial Law, all of the following three requirements must be satisfied:

① A breach of contract has occurred

② Loss (actual loss or loss of anticipated profit) has arisen

③ There is a direct causal link between the breach and the loss

Note that where a force majeure event or another statutory ground for exemption applies (Article 294 of the Commercial Law), no liability for damages arises even if all of the above requirements are otherwise satisfied.

1.3. Obligations Imposed on the Party Claiming Damages

The party claiming damages is subject to the following legal obligations:

Burden of proof
The claimant must present reasonable evidence that loss actually resulted from the breach and of the amount of that loss (including any loss of anticipated profit).
Duty to mitigate
The claimant is required to take appropriate measures to prevent the loss from expanding. Any additional loss arising from a failure to fulfill this duty may not be compensable.

02 - The Distinction Between Penalty Clauses and Damages, and Whether They May Be Claimed Together — A Comparison Between Vietnamese and Japanese Law

2.1. What Is a "Penalty for Breach" (phạt vi phạm) Under Vietnamese Law?

Under Vietnamese law, in addition to "damages," a separate regime — the "penalty for breach" (a punitive payment for breach of contract) — is also available as a response to a breach of contract. The two differ in purpose, requirements, and legal character, as follows:

Item

Damages

Penalty for breach (fine for breach of contract)

Purpose

Compensating the aggrieved party's loss

Deterring breach and imposing a sanction

Requirements

Actual loss or loss of anticipated profit must arise and be proven

Requires an express prior agreement in the contract

Cap on amount

May be claimed in the amount of the actual loss (no cap)

For commercial contracts, capped at 8% of the value of the breached portion

Availability

Available even absent a contractual provision

Available only where agreed in the contract

2.2. Under Vietnamese Law, Damages and a Penalty for Breach May Be Claimed Concurrently

Under Vietnam's Commercial Law, damages and the penalty for breach are treated as distinct, independent regimes, and claiming both together is permitted. In other words, where a breach of contract occurs, the aggrieved party may make both of the following claims:

A claim for the contractual penalty for breach (phạt vi phạm)
A claim for damages for the loss actually suffered (both actual loss and loss of anticipated profit)

This differs markedly from the approach taken under Japanese law.

2.3. Comparison With Japanese Law and Points of Caution

Under Japanese law (Article 420, paragraph 3 of the Civil Code), what is commonly called a "penalty for breach" is treated as a liquidated-damages provision, and the matter is generally resolved based on the amount agreed in advance. As a rule, therefore, the matter is settled solely by the contractually stipulated penalty, regardless of whether actual loss arose or its amount.

In Vietnam, by contrast, the penalty for breach and damages are designed as independent, concurrently available regimes, so that compensation for actual loss may be claimed separately, in addition to payment of the penalty for breach. This structural difference is an important point for Japanese companies to bear in mind. Applying a Japanese mindset when operating a Vietnamese contract risks unexpected legal exposure or missed claims, making it essential to design contracts in a manner consistent with Vietnamese law.

03 - Practical Issues and Conflicting Legal Interpretations Concerning Liquidated Damages Clauses in Vietnam

3.1. The Absence of an Express Provision in Vietnam's Commercial Law, and Its Implications

In Japan, "liquidated damages clauses" — provisions fixing in advance the amount of damages payable under a contract — are widely recognized and frequently used in practice. Vietnam's Commercial Law, by contrast, contains no clear provision on liquidated damages. As a result, views on the validity of this type of clause diverge in practice, presenting a significant risk-management challenge for contracting parties.

3.2. Three Principal Views

At present, three positions can be identified among Vietnamese legal practitioners and academics:

View ①: The mandatory-provision theory
Damages should be governed by the principle, set out in the Commercial Law, of compensating actual loss, and a liquidated damages clause runs contrary to that principle and is therefore invalid. This view treats the Commercial Law's damages provisions as mandatory rules that cannot be departed from by freedom of contract.
View ②: The freedom-of-contract-priority theory
This position respects the parties' freedom of contract and recognizes the validity of a liquidated damages clause, though it holds that a court may adjust the amount if it is excessive.
View ③: The theory that treats it as a penalty for breach
This position interprets a liquidated damages clause as a form of penalty for breach and folds it into the Commercial Law's penalty-for-breach regime. Under this view, the 8% cap applicable to penalties for breach would apply, and the excess portion of any loss arising from the breach might additionally be separately claimed as damages. This view, however, has been criticized on the ground that it would effectively permit double recovery, undermining the purpose of the regime.

3.3. The Practical Risk of Low Predictability

As described above, there is no settled legal treatment of liquidated damages clauses in Vietnam, and the validity of such a clause may vary from case to case. As a result, contracting parties face the significant practical risk of being unable to predict in advance whether such a clause will actually be enforced in the event of a dispute.

04 - Key Points to Note When Drafting Damages Clauses in Vietnamese Contracts

When including a damages clause (whether a penalty-for-breach clause or a liquidated damages clause) in a commercial contract with a Vietnamese company, the following points warrant careful attention.

4.1. Clearly Distinguish the "Nature" of the Clause

First, it is important to state clearly in the contract whether the clause constitutes a penalty for breach (a sanction for breach of contract) or liquidated damages (an amount intended to compensate for anticipated loss). If the purpose is left unclear, the matter will ultimately be left to judicial interpretation, risking an outcome that differs from what the parties originally intended.

→ Example: "This clause constitutes a penalty for breach" / "This clause constitutes an agreed amount of liquidated damages."

4.2. Be Mindful of the 8% Cap on the Penalty Amount

Vietnam's Commercial Law caps the penalty for breach at 8% of the value of the portion of the contract in breach (Article 301 of the Commercial Law). Any amount fixed in excess of this cap risks being held invalid as to the excess.

→ It is safer to set the amount so that it falls within 8% of the relevant contract value.

4.3. Avoid Setting an Excessive Amount of Damages

When setting a liquidated damages amount, it is desirable to keep it within a range commensurate with the anticipated actual loss. If there is a marked discrepancy from the actual loss, a court may reduce the amount or hold the clause partially or wholly invalid.

→ The amount should be set based on a reasonable, foreseeable estimate of loss.

4.4. Preserving Evidence and Reinforcing the Clause's Wording

Given the uncertainty surrounding the validity of liquidated damages clauses, the following supplementary measures are effective:

Retaining evidence of loss actually incurred (emails, invoices, expenditure records, etc.)
Adding supplementary language within the clause to reinforce the parties' agreement
　Example: "The agreed amount represents a minimum measure of compensation, and where actual loss exceeds that amount, the difference may be separately claimed."

Taking these measures provides material clearly evidencing the parties' intent in the event of a dispute, and serves as a degree of protection.

4.5. The Importance of Expert Review

Finally, when concluding a contract, it is essential to consult a legal professional familiar with Vietnamese local law (a Vietnamese attorney) for advice on the appropriateness of the wording and the reasonableness of the amounts set. Because damages clauses are a critical provision that will shape a company's ability to respond to future disputes, they call for careful design.

Under Vietnam's Commercial Law, "damages" and the "penalty for breach" are clearly distinguished as independent regimes, each subject to its own requirements and limitations. Moreover, because liquidated damages clauses lack an express statutory basis and their validity remains uncertain, careful consideration is required in drafting such clauses.

Bearing in mind the differences in approach from Japanese law, companies should in particular attend to the following:

Understanding the distinction between, and the concurrent availability of, penalty-for-breach and damages claims
Addressing the statutory cap (8% of the breached amount) under the Commercial Law
Refining the wording and preserving evidence to mitigate the risk of adverse judicial interpretation
Engaging experts to improve predictability in practice

When Japanese companies conclude contracts in Vietnam, the key to avoiding legal risk lies not in simply importing Japanese practices wholesale, but in understanding the local legal framework and building a response strategy accordingly.