Too Much of a Deposit = Too Much of a Good Thing?

Most every real estate contract requires the buyer to pay a deposit, and more is always better for the seller, right? Well, we wouldn’t be writing this blog if the answer were easy. As it turns out, a deposit that is too big may leave a seller with a limited recovery in the result of a buyer’s breach – not a great position to be in!

The primary purpose of having the buyer place a deposit on a real estate contract is to ensure that they have some “skin in the game,” and to ensure that there is an agreed amount for the seller to get ahold of in the case of a buyer breach. That is accomplished through the “default” section in the standard FAR/BAR contracts, which reads in relevant part:

“BUYER DEFAULT: If Buyer fails, neglects or refuses to perform Buyer’s obligations under this Contract, including payment of the Deposit, within the time(s) specified, Seller may elect to recover and retain the Deposit for the account of Seller as agreed upon liquidated damages, consideration for execution of this Contract, and in full settlement of any claims, whereupon Buyer and Seller shall be relieved from all further obligations under this Contract, or Seller, at Seller’s option, may, pursuant to Paragraph 16, proceed in equity to enforce Seller’s right’s under this Contract.”

So, the standard contracts gives two choices to a seller facing a buyer breach – either keep the deposit as “liquidated damages” or seek specific performance (specific performance is another topic for another day). The idea of “liquidated damages” is what can cause a problem if a deposit is too large. Generally, liquidated damages are an agreed-upon amount of money that one side pays to the other if a breach occurs. They are intended to approximate the actual damages that the non-breaching party will suffer in cases where actual damages may be difficult to compute. But the law in Florida says that liquidated damages are not allowed to be agreed upon in an amount that is so high as to be “unconscionable” or a “penalty.”

What does that mean? Of course we don’t have a black-and-white answer to that question (that would be too easy!), but several cases have narrowed down what amounts do constitute excessive liquidated damages and what amounts do not constitute excessive liquidated damages. Courts in the past have held that liquidated damages provisions requiring the payment of 10%, 13%, 18% and 22% of the total contract price were enforceable and binding. On the other hand, they have held that liquidated damages that called for the payment of 50% and 55% were unenforceable. So if your contracts calls for a deposit of 20% or below you are probably safe; if it calls for a deposit of 50% or more, the liquidated damages provision is probably unenforceable. Anything in between: who knows…

If a liquidated damages provision is not enforceable, the seller is not left without a remedy. They are still entitled to prove up any actual damages which they may have suffered as a result of the buyer’s default. The amount that the seller is entitled to is computed by determining the difference between the contract price and the fair market value for the property, and then adding to that amount any incidental damages that the seller incurred. The problem with proving “actual” damages is that it can be time consuming and costly, especially as compared to liquidated damages which are an agreed-upon amount.

So, pick your idiom: “be careful what you wish for,” “you can have too much of a good thing,” “pigs get fat, hogs get slaughtered” or whatever. The take-away is the same: a seller certainly wants a hefty deposit in place to ensure that any damages that they suffer upon a breach will be adequately addressed … but not too hefty of a deposit. Staying under the 20% mark appears to be pretty solid footing under current case law. Above that threshold is pretty much uncharted territory … and your client may not want to be the trailblazer to litigate in that uncharted territory.
As always, if you have any questions regarding this issue, please feel free to deposit them with your local real estate attorney.

Sincerely,
Berlin Patten Ebling, PLLC

Article Authored by Daniel C. Guarnieri dguarnieri@berlinpatten.com

This communication is not intended to establish an attorney client relationship, and to the extent anything contained herein could be construed as legal advice or guidance, you are strongly encouraged to consult with your own attorney before relying upon any information contained herein.

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