Jim Porter: Is a ‘non-refundable deposit’ non-refundable?
March 25, 2010
It always surprises me when I see real estate purchase contracts with and#8220;non-refundableand#8221; deposits. Realestaters, let me again suggest you not write up a and#8220;nonrefundable deposit.and#8221;
Laguna Beach home
Bradford Kuish signed a contract to buy the Smithsand#8217; Laguna Beach oceanfront home for $14 million. It took nine counteroffers, but they got there.
Kuish made a and#8220;non-refundableand#8221; deposit of $620,000 and#8212; $420,000 going to the Smiths, and $200,000 held in escrow. The custom contract did not have a liquidated damages clause. Escrow instructions were signed, everyone was hot-to-trot to close, when buyer Kuish backed out and#8212; long after the contingency period had passed. I.e. he defaulted.
Seller Smith had a back-up offer at an even better price, $15 million, so the Smiths closed escrow and made a quick $1 mill. That was in the fall of 2006 when times were good. Oh, so long ago.
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Buyer Kuish demanded his $620,000 deposit back even though he intentionally walked on the deal.
The Smiths refused to return the deposit reminding Kuish it was and#8220;non-refundableand#8221; and if that argument failed, the $620,000 was consideration for extending the close of escrow.
The trial court ruled the Smiths could keep the deposit and#8220;because both parties were and#8216;big boys,and#8217; that is, sophisticated business people, who understood all of the ramifications of their actions and freely negotiated to make the deposit non-refundable.and#8221;
Buyer Kuish appealed, claiming the Smiths were unjustly enriched and that in California a non-refundable deposit is often an and#8220;invalid forfeiture.and#8221;
A real estate sellerand#8217;s main measure of damages when a buyer refuses to close escrow is essentially the difference between the contract price and the propertyand#8217;s value at the time of the breach, which would be when the buyer announced he or she was backing out of the contract.
During a period of rising property values, like in 2006, if the property has increased in value, the seller generally has no damages, so called loss-of-bargain damages. In Kuish v. Smith, seller Smith actually made money when Kuish refused to close. The Smiths did not suffer any actual damages. They had to rely on the and#8220;non-refundable depositand#8221; to keep the $620,000.
The Court of Appeal reversed the trial court and ordered the deposit refunded. There is no such thing as a valid non-refundable deposit. If the seller lost money when the buyer defaulted, the seller may be entitled to keep the deposit, but not because it is labeled and#8220;non-refundable.and#8221;
The Court of Appeal explained that the deposit might have been non-refundable in a falling market if the Smiths had sold the property for less than the contract price. If a buyer backs out of a deal and the seller ends up selling the property for a lower amount, the seller generally will be able to sue the buyer for the loss and/or keep the deposit.
In a residential transaction, a properly initialed liquidated damages clause, like the kind in California Association of Realtorsand#8217; contracts, would govern, so if the amount of the deposit was no more than 3 percent of the purchase price, the liquidated damage clause and#8212; allowing the seller to keep the deposit as agreed damages if the buyer defaults and#8212; is presumed to be valid.
Jim Porter is an attorney with Porter Simon, with offices in Truckee, South Lake Tahoe, Incline Village and Reno. He is a mediator and was the Governor’s appointee to the Fair Political Practices Commission and McPherson Commission, both involving election law and the Political Reform Act. He may be reached at firstname.lastname@example.org or at the firmand#8217;s website.