What are a buyer’s rights over deposits and part payments?

Posted on Posted in Articles, Company, Real Estate

In a contract for the sale of a substantial asset the seller may well require a proportion of the purchase price from the buyer at the outset of the contract as a pledge to their full performance of the contract. There may also be provision for further part-payments due throughout the course of the contract, particularly if there is a gap between exchange and completion. What rights will the buyer and seller have in respect of these payments and what is the position if the contract does not complete?

First we must consider the difference between a deposit and a part-payment under the contract. In broad summary, a deposit is a guarantee of the buyer's performance of the contract, whereas a part-payment is exactly that: a part-payment of the price.

With respect to a deposit, on the grounds that it is a guarantee of the full performance of the contract, if the buyer fails to perform the contract and the seller then terminates for the buyer's repudiatory conduct, the buyer has no right to the return of the deposit (Howe v Smith [1884] 27 Ch.D. 89). In this instance there would be no need for the seller to prove its loss and it would be entitled to retain the deposit in full whether or not the buyer's conduct had caused loss.

In comparison, a part-payment is not a guarantee of performance, therefore if the buyer repudiates the contract, the buyer can claim a refund of any advance payments beyond a deposit, but it will be liable to the seller in damages for the breach (see Dies v British and International Mining and Finance Corp Ltd [1939] 1 KB 724). Accordingly a seller's right to retain any part-payment does not automatically arise on the buyer's repudiatory breach and it would be for the seller to prove its losses.

It is therefore important to know whether a payment made under a contract is a deposit or part-payment.

In property transactions, a deposit is usually paid by the buyer on exchange of contracts. The payment of the deposit demonstrates the buyer's commitment to the transaction and provides a financial incentive for the buyer to proceed to completion. If the buyer fails to complete the purchase, the seller will normally be entitled to forfeit and keep the deposit with any accrued interest on it, regardless of whether the seller has suffered any loss. The deposit serves as a seller protection to cover any potential loss incurred if the buyer repudiates. For this reason it is common in contracts where no deposit is physically paid across to see clauses to the effect of "in the event of the deposit actually paid being less than 10% then this deposit shall at all times remain due to the seller and in the event of rescission or failure to complete through no fault of the seller shall become payable immediately."

A deposit is conventionally 10% of the purchase price but may be more or less and sometimes the parties agree to no deposit being paid at all. The amount of deposit is a matter for negotiation between the parties. It is becoming common to see contracts defining advance payments, much larger than the conventional 10%, wholly as deposit payments. Although, simply labeling a payment as a deposit does not necessarily mean that it will be and whether a payment is a deposit or not will be based upon a proper interpretation of the contract. It is worth considering (for the sake of the seller just as much as the buyer) whether such high 'deposit' payment would constitute a penalty clause against a buyers breach. If so, this would entitle the buyer to recover their monies in full, including any deposit amount paid.

The position in Workers Trust and Merchant Bank Ltd v Dojap Investments Ltd [1993] UKPC 7 was as 10% has been established through long use as the customary deposit, the seller may have to show special circumstances to justify any larger deposit. However, in Amble Assets LLP and another v Longbenton Foods Ltd [2011] EWHC 1943 (Ch), the High Court declined to follow this analysis. It held that a deposit was simply a means by which a buyer could demonstrate to a seller that it had a genuine commitment to complete a transaction and that a non-refundable deposit could not be challenged as an unlawful penalty. This decision suggests that the question of a deposit's reasonableness will not turn on how genuinely it reflects the potential loss to a seller from a failure to complete. Instead, the reasonableness of a deposit will be determined by a review of the circumstances of the case as a whole.

Arguably the position over exuberantly high percentages of the overall contract price, now often demanded, remains to be seen, particularly on sales contracts for off-plan property where in some instances the advance payments defined in the contract as a 'deposit' amount to as high as 80% of the overall price. Given that these types of transactions are usually between large corporate sellers and individual buyers with the balance of power significantly in the seller's favour, is it acceptable in the event of a buyers repudiatory breach for the seller to retain the total amount paid in advance? Or are the sellers, by attempting to enforce these clauses, at risk themselves to the provisions being read down as penalty clauses and having to return everything. This would depend upon the case merits at the time and separate legal advice as to your rights to recovery would be needed.

This information is in no way to be taken as legal advice or tax advice. It is for information purposes only and is in no way to be relied upon. You should always seek the appropriate professional legal advice before attempting to act on any of the information given here.

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