Limitation of liability in a contract

What happens to the contract price if a limitation of liability is not agreed upon

The default statutory rule is unpleasant for suppliers: if a party breaches a contractual obligation, they must compensate the other party for the resulting damage (Section 2913 of the Czech Civil Code). Contractual liability is strict (not fault-based) – the damaging party can only be released from it in the event of an extraordinary, unpredictable, and insurmountable obstacle. Both actual damage and loss of profit are compensated (Section 2952 of the Czech Civil Code), provided they represent distinct financial harms and the injured party proves their occurrence and causal link.

In practice, this means that a software supplier for a project worth two million CZK can, in the event of an error causing a disruption to the client's operations, be liable for tens of millions in lost profits. Without a limitation clause, they bear this risk in full, and no professional indemnity insurance on its own relieves them of the obligation to pay the difference if the insurance coverage limit does not cover the damage.

This is precisely why limitation of liability is a fundamental part of any IT contract, the remaining content of which is discussed in the article on custom software orders or SaaS.

The second consequence of the absence of a limitation is permanent uncertainty regarding the actual scope of risk during the project pricing stage. A supplier who does not know the maximum amount they might have to pay in the event of a dispute will either not reflect the risk in the price at all, or estimate it disproportionately high, thereby making the project more expensive even where the real risk is not that high.

The third consequence, which companies often underestimate, is the impact on negotiations with the insurance company. When setting the limit of professional indemnity coverage, the insurer often takes into account what contractual liability limits the company standardly agrees upon with its customers. A company without a unified limitation policy may thus pay more for insurance than it actually needs, or, conversely, remain underinsured for projects where it neglected to negotiate a limitation at all.

What should be included in a limitation clause

A well-drafted limitation clause has four elements that are often neglected or mixed together in practice. The first is the actual monetary cap, usually expressed as a multiple of the contract price or as an amount derived from the fees paid over a certain period. The choice between the two calculation methods depends on whether it is a one-off delivery with a clear price, or a long-term relationship with variable monthly performance, where the fees for the last year are a more reliable basis than the price of an individual order.

The second element is defining which types of damage the cap applies to and which damages are excluded from compensation entirely. In IT and technology contracts, the exclusion of lost profits, loss of business opportunity, or loss of data is frequently agreed upon. However, it is advisable to explicitly define terms such as "indirect" or "consequential damage" in the contract, as the Czech Civil Code does not work with them as separate statutory categories, and without a definition, their meaning becomes a subject of dispute.

The third element consists of exceptions to the cap, i.e., situations to which the limitation does not apply at all. Typically, this involves harm caused intentionally or through gross negligence, harm caused to a person's natural rights, particularly health, and breach of confidentiality – the first two exceptions are mandated by law, while others are added by companies themselves as a concession to make the rest of the clause more negotiable.

In the case of breaches of confidentiality, companies often negotiate a separate, higher cap independent of the general limit for other damages, because the leakage of sensitive data or trade secrets can have an impact completely unrelated to the contract price. Companies apply the same logic to damage to third-party property, where a general cap derived from the price of an IT contract in the range of hundreds of thousands of CZK clearly does not correspond to the actual risk that such a breach could cause.

The fourth element is the relationship of the limitation to other penalty mechanisms in the same contract, especially contractual penalties. Without a clear agreement on whether the contractual penalty is counted towards the cap or is a separate, independent claim, a dispute arises precisely when it matters most.

How companies that get it right set up limitations

A proven structure derives the cap from the contract price, not from a flat-rate amount. In IT and consulting contracts, the cap is often linked to the fees paid or payable over a certain period, such as the preceding twelve months; the specific multiple depends on the riskiness of the performance and the bargaining power of the parties. For deliveries with a higher risk of property damage, the cap is usually set separately and higher.

The second feature of a functioning clause is a so-called two-tier cap: a lower limit for ordinary breaches of contract, and a higher or no limit for selected categories of serious breaches, typically breach of confidentiality, alongside exceptions mandated by law. This structure gives the supplier certainty regarding ordinary risk, while guaranteeing the customer that the most serious breaches will not remain practically unpunished.

The third feature is an explicit agreement on the relationship of the limitation to contractual penalties, liability insurance, and claims from other legal titles, such as unjust enrichment or rights from defective performance. Contracts that do not address this relationship end up in a dispute over whether the cap covers all claims combined or each separately.

The fourth feature is the regular update of the limitation in framework agreements with recurring orders. A company that has a single framework cap for an entire multi-year relationship, regardless of how the volume of orders grows over time, risks the cap becoming disproportionately low compared to the actual value of what the parties deliver to each other, precisely at the moment when it should protect them most.

Conversely, a warning sign is a cap set as a single sentence without defining the types of damage and without a relationship to other provisions in the contract. Such a clause looks simple in the text of the contract, but in a dispute, it turns out that it does not cover exactly what the supplier expected, because the court has to interpret it without the support of a clearly described scope.

What the law excludes from freedom of contract

Freedom of contract in setting a liability cap is not unlimited. No regard is given to an agreement that excludes or limits in advance the obligation to compensate for harm caused to a person's natural rights, or caused intentionally or through gross negligence; no regard is also given to an agreement that excludes or limits in advance the right of the weaker party to compensation for any harm, and the right to compensation cannot even be validly waived in these cases (Section 2898 of the Czech Civil Code).

In practice, this means a firm rule for B2B contracts: the cap must not limit compensation for harm caused intentionally or through gross negligence, regardless of how low it is otherwise set. The Czech Supreme Court explicitly concluded last year that this is an absolutely mandatory rule that also applies to contractual liability, and that such a part of the agreement is disregarded as if it had not been agreed upon (judgment File No. 28 Cdo 1551/2025). Outside of these cases, the scope of liability can be contractually limited, even to an amount significantly lower than the actual damage.

The question of who is the "weaker party" in a specific relationship within the meaning of this provision is assessed according to the circumstances of the specific contractual relationship. The mere difference in the size of the businesses or the use of a standard form contract is not decisive on its own, although whether the supplier had a real opportunity to negotiate the terms of the limitation is among the circumstances the court takes into account.

Whether a specific cap setting will hold up in a given contract depends on the bargaining position of both parties and how sensitive the performance covered by the contract is – which is why the Czech legal team at ARROWS law firm always assesses this for each specific relationship, rather than relying on a universal clause template.

Relationship of limitation to contractual penalties

Limitation of liability and contractual penalties address two different things, and mixing them into a single sentence is a common mistake that weakens the clause in practice. A contractual penalty secures a specific obligation, and the creditor can claim it regardless of whether they suffered damage as a result of the breach (Section 2048 of the Czech Civil Code). Conversely, a limitation restricts the amount of compensation for actually incurred damage, not the penalty for the breach itself.

How these two categories are confused in practice and what this means for the possibility of a judicial reduction of an unreasonable penalty is discussed in the article on the reduction of contractual penalties. The difference between the two concepts is also fundamental to how the court approaches them in a dispute over their validity.

If a contractual penalty is agreed upon, the creditor is not entitled to compensation for damage resulting from the breach of the obligation to which the penalty applies (Section 2050 of the Czech Civil Code); this is a default rule from which the parties may deviate. Therefore, if a contract has both a contractual penalty for late delivery and a liability cap for damages, it must explicitly determine whether the penalty counts towards the cap and whether the claim for damages should be preserved alongside it.

Without a deviating agreement, the statutory rule applies: alongside the penalty, the creditor is not entitled to compensation for damage from the same breach. If the customer wants both, they must explicitly negotiate the preservation of the claim for damages. Conversely, the supplier may find that the limitation does not apply to the penalty at all because the cap clause only referred to "compensation for damage", not to contractual penalties as such.

Therefore, the parties may agree on a joint aggregate cap for damages and contractual penalties, but it is necessary to precisely define which other claims are included in it. A general formulation stating that the cap covers all claims under the contract without distinction can have unintended consequences – it then becomes disputable whether it also includes the refund of the price after termination, unjust enrichment, or a price discount for defective performance. A clear list gives both parties certainty regarding the maximum possible exposure from the entire contractual relationship.

How to negotiate a limitation

The first step is to determine what risk the contract actually covers and derive the cap from the real value of this risk, rather than from a general template taken from another project or the internet. A delivery carrying the risk of a production outage for the customer requires a differently set cap than a one-off consulting service with no operational impact on their business.

The second step is to explicitly list the excluded types of damage, typically lost profits, and discuss them with the customer as a separate negotiation item, rather than hiding them in a general formulation. The customer will often agree to the exclusion of lost profits more easily than they would to a low overall cap, because they perceive the difference between the two concessions differently, even though the economic impact may be comparable.

The third step is to align the limitation with the contractual penalty and professional indemnity insurance so that all three mechanisms work together rather than against each other. A liability cap set higher than what the insurance covers leaves the supplier with uncovered risk, which they should either reduce or consciously acknowledge and reflect in the price.

The fourth step is to handle the exceptions to the cap so that they are sufficiently specific while not expanding the risk beyond the statutory minimum. An exception formulated too broadly, such as "any breach of an important obligation," in practice effectively defeats the purpose of the entire limitation clause, as the customer can then claim that the exception applies to most disputes. For deliveries of machinery and technological units, the limitation must also be aligned with the quality guarantee and claims for a discount on the price of the work, which are discussed in the article on claiming a discount due to a defect on a machine.

The fifth step, which is often omitted, is the regular review of the limitation clause when extending or expanding the contract. The scope of performance, project value, and risk change over the course of a long-term relationship, but the cap remains the same unless the contracting parties explicitly modify it – and that is precisely the moment when the limitation stops reflecting the reality of the relationship without anyone noticing.

A limitation is, however, just one of the provisions that are assessed together with other clauses on liability, penalties, and termination when reviewing the entire contract. What such a review should cover and what is most often forgotten is described in the text on what a commercial contract review should contain.

Risks of limitation of liability in a contract

Final Summary

Without a limitation clause, compensation for damage resulting from a breach of contract is not limited by the price of performance and can also include lost profits. The article has shown that a liability cap can be validly set even significantly below this threshold, but not in a way that limits compensation for harm caused intentionally or through gross negligence, and that a limitation must be strictly distinguished from a contractual penalty.

For company management, two decisions are key. The first is what risk a specific project carries and what cap corresponds to it, rather than what cap the company uses across the board in all contracts. The second is how the limitation fits into the rest of the contract – into the contractual penalty, insurance, and the exceptions required by law.

The Prague-based legal team at ARROWS law firm prepares and negotiates limitation clauses based on the risk of the specific project, aligns them with contractual penalties and liability insurance, and verifies their validity before the contract is signed, whether it is a one-off delivery or a long-term framework relationship. Write to us at consultation@arws.cz or review our contracts and negotiation practice.