Breach does not always permit termination: fundamental breach, article 1124 CC and the consequences of termination of the contract
Article 1124 of the “Código Civil” —the Spanish Civil Code— enshrines the right to terminate reciprocal obligations in the event of breach, but not every breach justifies termination. A serious or fundamental breach is required, one that frustrates the purpose of the contract. The non-defaulting party may choose between demanding performance and terminating the contract, in both cases with the right to damages and interest. Termination produces significant financial consequences, such as the restitution of the performances rendered, interest, fruits, actual loss and loss of profit, which may interact with penalty clauses and with the retention of sums paid. Recent case law, including judgment 489/2026 of the “Tribunal Supremo”, Spain's Supreme Court —STS—, shows the practical importance of these questions in disputes over termination for breach and clauses retaining payments in contracts for works and contracts of sale.
1.Fundamental breach and the right to terminate under article 1124 CC
Article 1124 of the “Código Civil” —the Spanish Civil Code— provides that the right to terminate obligations is implied in reciprocal obligations in the event that one of the parties bound fails to perform what is incumbent upon it, and that the injured party may choose between demanding performance and termination, with compensation for damages and payment of interest in both cases. It also allows termination to be sought even after performance has been chosen, where performance becomes impossible, and provides that the court shall decree the termination sought, unless there are justified grounds for granting a period of grace. It is on this basis that the notion of fundamental breach, or breach warranting termination, has been built. Not every contractual infringement is enough; the breach must be of such gravity as to frustrate the economic purpose of the contract or substantially to deprive the non-defaulting party of what it reasonably expected. Slight delay, breach of ancillary obligations or remediable defective performance do not generally justify termination, although they may give rise to compensation. Reciprocity of obligations is a precondition for the application of article 1124, since the right to terminate attaches to synallagmatic contracts in which the parties' performances are mutually conditioned.
2.Mere breach, defective performance and breach that genuinely warrants termination
Litigation practice requires a distinction to be drawn between mere non-fundamental breach, defective performance and breach that genuinely warrants termination. Mere non-fundamental breach refers to moderate delays, partial failures to perform ancillary obligations or minor defects that do not substantially affect the purpose of the contract. In such cases, the non-defaulting party may demand performance and, where appropriate, damages and interest, but termination is generally regarded as disproportionate. Defective performance arises where the obligation is performed, but with faults or defects affecting its usefulness. The response may be repair, a reduction in price or, if the defect is serious and goes to the essence of the performance, termination. The gravity of the defect and its impact on the purpose of the contract are decisive. Breach that genuinely warrants termination arises in cases of total failure to perform the main obligation, delays of such gravity as to deprive the contract of its sense, or structural defects preventing normal use of the goods or services. In those cases, termination presents itself as the appropriate remedy, without prejudice to compensation. The general regime of contractual liability, which renders liable in damages those who act with wilful misconduct, negligence or delay, or who contravene the tenor of their obligations, applies to this classification and provides the basis for framing termination as the response to serious breach.
3.Prior demand, the choice between performance and termination, and compatibility with compensation
Article 1124 grants the injured party the choice between demanding performance and termination, with the right to damages and interest in both cases. That choice has significant practical consequences. If performance is chosen, the non-defaulting party keeps the contract alive and claims performance of the obligation, together with the loss flowing from the delay or from the partial breach. If termination is chosen, what is sought is the extinction of the contractual bond and the restitution of the performances rendered, together with compensation for the loss caused by the breach. The provision allows the choice to be changed, so that a party which initially demands performance may subsequently seek termination if performance becomes impossible. This flexibility is particularly useful in contracts for continuing performance or of complex execution, where the development of the relationship may make continuation of the contract unworkable. Although article 1124 does not expressly require a prior demand, the case law usually considers whether the party in breach has been put on notice of default and whether it has been given a reasonable opportunity to perform, particularly where the breach is not manifestly definitive. In certain contracts, such as the sale of real property, other provisions, such as article 1504, require a judicial or notarial demand for termination by operation of law to take effect for non-payment of the price, even where an express termination clause has been agreed. That demand marks the point from which the buyer loses the possibility of paying and thereby avoiding termination. Compatibility with compensation is clear, since termination does not replace compensation but supplements it. The creditor may recover what it has rendered and, in addition, be compensated for actual loss and loss of profit, in accordance with the general criteria for the assessment of loss.
4.The financial consequences of termination: restitution, interest, fruits, actual loss and loss of profit
Termination of the contract for breach produces a set of financial effects that must be carefully structured. Restitution of the performances rendered means that each party must return what it has received, so that, for example, in a contract of sale the seller returns the price and the buyer restores the thing sold, unless termination occurs in circumstances in which the thing has been lost through a cause attributable to the party in breach, which may alter restitution. Interest compensates for the use of the capital during the time in which it was improperly in the hands of the party in breach and is added to the restitution of the principal. The restitution of fruits may be relevant in contracts for the sale of real property, where the buyer has enjoyed possession and has received natural or civil fruits, and it must be coordinated with the protection of third-party purchasers in good faith and with the rules on the effects of rescission vis-à-vis third parties. Compensation for loss covers both actual loss, understood as the loss actually suffered, and loss of profit, understood as the gain that has not been obtained. Delimiting the extent of the loss depends on the debtor's good faith or wilful misconduct, on foreseeability at the time of contracting and on the necessary causal link between the breach and the harm. In the context of termination, actual loss may include financing costs, construction expenses, professional fees, taxes and other outlays connected with the contract, while loss of profit may extend to the profits expected from exploiting the asset, frustrated business opportunities or rent that has not been received.
5.Breach, the penalty clause and the retention of sums already paid
Penalty clauses linked to breach and the retention of sums paid on account are common features of property and commercial contracting and are interwoven with termination of the contract. A penalty clause, where agreed, in principle replaces compensation for loss and the payment of interest in the event of failure to perform, unless otherwise agreed, and may be enforced only where it is due under the provisions of the Civil Code. The debtor may not release itself from performing the obligation by paying the penalty, unless that right has been expressly reserved to it, nor may the creditor demand both performance and the penalty together without a clearly conferred power to do so. The court may equitably modify the penalty where the main obligation has been performed in part or irregularly, and the nullity of the penalty clause does not entail that of the main obligation, whereas the nullity of the main obligation does entail that of the penalty clause. In practice, many penalty clauses take the form of the retention of sums paid on account in the event of breach or withdrawal. Classifying such clauses as a penalty for breach or as “arras penitenciales” —a deposit allowing either party to withdraw— is decisive, since in the first case it is necessary to establish a breach warranting termination and the clause is subject to the limits of proportionality and of equitable reduction by the court, while in the second it permits rescission at will, with the pre-agreed financial consequence of loss of the deposit or its return in double. Recent case law, such as STS 489/2026, shows how the interpretation of the clause and of the parties' conduct determines the duty of restitution and its classification, even in insolvency proceedings, and highlights the need for penalty clauses linked to breach to be compatible with the compensatory function and not to become disproportionate sanctions that deprive the general regime of liability of its content.
6.Conclusion: fundamental breach, termination and the architecture of compensation
Article 1124 of the Civil Code offers a central framework for responding to breach in synallagmatic contracts, but it calls for careful application. Breach does not always permit termination; only a fundamental breach, one that frustrates the purpose of the contract, justifies termination. The non-defaulting party may choose between performance and termination, with the right to damages and interest in both cases, and may change that choice if performance becomes impossible. Termination produces a complex architecture of compensation, combining restitution of the performances rendered, interest, fruits, actual loss and loss of profit, and operating in conjunction with the general regime of liability and with penalty clauses. This scheme operates as a foundational element for understanding contracts of sale, contracts for works, the provision of services and commercial contracting generally, and recent case law confirms that the correct classification of the breach, of the termination and of clauses retaining sums paid is one of the main focal points of property and commercial litigation.
