Dispute Resolution and Damages: Liquidated Damages

Liquidated Damages

Most residential real property sale and purchase contracts contain liquidated damages clauses which, if initial, set the maximum amount of damages a seller may recover if the residential real property sale and purchase contract is breached.

Whenever a buyer fails to perform a material obligation agreed to in a real property sale and purchase contract, the buyer is deemed to have breached the contract. Most residential purchase contract contain a provision which allows the buyer and the seller to agree in advance on the maximum amount of damages (so-called “liquidated damages”) a seller may recover through litigation if the contract is breached by the buyer. This limit is usually three percent (3%) of the purchase price.

For the liquidated damages provision of a purchase contract to become effective, it must be initialed by both the buyer and the seller. For any increased deposits to be subject to the provision, a separate, statutory liquidated damages form also must be signed.

Initialing or signing a liquidated damages provision or form is not a guarantee that the seller will recover liquidated damages. If the buyer disputes the provision, the seller still must prove in a court of law or in arbitration, among other things, that the contract was breached by the buyer. And even if the seller proves a breach, the buyer still can seek a return of the funds, or some portion of them, by challenging the “reasonableness” of the amount. Thus, for example, if within sx months after the buyer defaults the seller can resell the property to another party for the same amount the buyer may be entitled to a return of the deposit less any offsets for the seller’s carrying costs (e.g., interest on loans secured by the property, etc.).

Generally, the liquidated damages provision in most residential purchase contracts, when initialed by both the buyer and the seller has no effect on the damages the buyer may recover from the seller if the seller breaches the contract. Buyers and sellers are urged to discuss any questions they may have regarding liquidated damages provisions with a qualified real estate attorney. Real estate brokers are not qualified to give opinions in this regard.