Developers, deposits & penalties

Developers, deposits and penalties!

Residential developers, as is well known, like to sell their creations before they are finished, and inevitably there is a certain attrition rate among buyers over the eighteen months or so that may elapse between contract and completion. Usually by then the buyer will have paid a fair proportion of the purchase price, typically 10% up front as a deposit and a further 20% which will usually be described as instalments of the purchase price payable in advance rather than further deposits.

If the buyer is dissatisfied with the finished product or for whatever reason is unwilling or unable to complete, then very often we are asked to advise on whether the developer can simply retain all of this 30% (as the contract will usually provide that it can) or whether some or all of it may have to be returned.

The first question, of course, will be whether the buyer can show that he is actually entitled not to complete, usually because the developer has not completed the property on time, or because the finished product does not accord with the buyer’s expectations, either contractual or not. The developer usually has the advantage here since any brochures or other material it may have produced before the contract will have had carefully worded disclaimers attached, there will usually be a clause in the contract where the buyer says he hasn’t relied on any representations made, in any case the law tends to be that ‘mere sales puff’ cannot be relied upon (so saying that the finished product will be, e.g. ‘high class’ or ‘luxury’ apartments normally has no legal consequences) and if by chance the developer has departed from any specification which has been attached to the contract there will normally be clauses entitling it to do so within certain limits, and/or without greatly affecting value, or something of the kind.

Following the Brexit vote there are already anecdotal reports of developers who have specifically provided for buyers to be able to pull out in the event of a vote to leave the EU, as of course transpired. It’s reasonable to suppose, with the likely decline in house prices following the vote, that there will be, if not a spate, at least a trickle of cases arising out of less fortunate buyers who no longer wish to complete but don’t have the benefit of a right not to do so. They would no doubt like to recover some or all of the sums they have already paid or become liable to pay. Developers, on the other hand, would like to retain these.

As far as a straight 10% deposit goes, the law is clear that a purchaser who does not complete will lose such a deposit in the absence of exceptional circumstances. However, the status of the typical pre-payment of an additional, say, 20%, is much less clear. There is an ancient principle of English law that a sum nominated in a contract as being payable in the event of default is liable to be set aside if it is not a genuine estimate of the loss the innocent party will suffer, but a large sum (or ‘penalty’) nominated as a deterrent to contract-breaking. Dr Johnson’s bracing doctrine, that a man is not hanged for stealing a sheep but in order that sheep should not be stolen, thus finds no place in English contract law.

There was a Privy Council case from Jamaica in the 1990’s which held that deposits of over 10% were liable to be set aside as a penalty.  This produced something of a drafting war: developers’ solicitors stopped calling the extra 20% a deposit, and started calling it instead a pre-payment but one which was not to be returned in the event of non-completion by the buyer. For technical reasons it was thought that the law about penalties couldn’t apply to such a sum, so there was no well-defined route to recovering it.

Again anecdotally, developers have been having some success with hanging on to such sums by this device.

Recently, however, the Supreme Court in Cavendish –v- Makdessi  has thrown defaulting purchasers a bone. Cavendish wasn’t about deposits as such, so it doesn’t exactly decide anything, but their Lordships (in rather far-ranging and various judgments) did seem to incline to the view that whether a clause was a penalty or not ought not to depend on the label attached to it but on the reality, and they also seemed to identify a general equitable power to relieve against forfeiture and suggest that it might be applicable to such payments, while explicitly declining actually to decide any such point.

There is also the matter of the Unfair Terms in Consumer Contracts Regulations 1999. These basically provide that terms in a contract between a commercial supplier and a consumer will be struck down if they are unfair to the consumer (or, in the constipated words of the regulations, if they cause a significant imbalance in the rights of the parties to the consumer’s detriment). This will not be so if they have been individually negotiated. On the face of it, buyers have a reasonable argument that handing over 30% of the price of the flat to a developer who then sells it for more than the contract price is unfair, and quite often it can’t be said either that the clause has been individually negotiated, given that developers tend to suggest, sometimes even insist, that buyers use recommended solicitors, and also tend to say that no amendments to their standard form contract can be accepted (and if they don’t say it, to operate that policy in practice).

On the other hand, developers have arguments too; they will say that the consumer was advised by solicitors who could have negotiated the clause if they had wanted, and that the clause is not one which ‘causes an imbalance in the rights of the parties’ but one of the commercial terms themselves. Still, and again anecdotally, developers do not seem to be keen to litigate this.

Whether they’re going to have to, of course, will depend on what our government decide to do – if anything – about the mass of UK laws which originate from the EU, as the Regulations do. Still, without a repeal, we can perhaps expect challenges pretty soon on the twin grounds of such clauses being a penalty and/or unfair to consumers. Although of course if house prices keep dropping we won’t see them after all, because the 30% will start only just to cover the developer for its loss. We live in interesting times.