Understanding Refundability and Forfeiture of Deposits and Part Payment in Commercial Transactions

Deposits and part payments are common contractual payment in commercial transactions. Whether you are stepping into a tenancy agreement or diving into significant business contracts, these financial commitments often serve as crucial elements for establishing valid and binding contracts. In this article, we will delve into the key differences between deposits and part payments, what occurs when a contract reaches its conclusion or faces termination, and we will navigate the legal landscape governing the forfeiture of these payments.

A deposit serves a dual role, emphasising a party’s commitment to entering into a contract and simultaneously functioning as a part payment or initial payment toward the contract price. Conversely, a part payment serves solely as an advance payment and lacks the assurance of commitment. In brief, a deposit combines commitment and partial payment while a part payment is only an advanced payment without the assurance of a guaranteed outcome.

The Malaysian Federal court case of Cubic Electronics Sdn. Bhd. (in liquidation) v Mars Telecommunications Sdn. Bhd. (“Cubic case”) explained that when a payment exhibits both earnest money and part payment characteristics, it qualifies as a deposit. Earnest money is like a financial promise that seals the deal and acts as a kind of security, motivating the payer to meet their obligations in the contract, knowing they might lose the earnest money if they don’t.

After explaining the key distinctions, it is essential to delve into refund scenarios in two common situations: contract expiration without a breach and contract termination due to a breach. To make these differences more accessible, they are presented in a table format:

Contract ExpirationContract Termination Due to Breach
DepositsUsually refundable.Generally non-refundable and can be forfeited as compensation.
Part PaymentsUsually applied toward contract price; not returned upon contract expiration.Generally refundable to the payer but it does not affect the right of the other party to claim damages for breach of contract.  

After exploring refundability, we will delve into the legal aspects of forfeiting deposits or part payments in commercial transactions. To safeguard your interests effectively, consider the following steps:

1. Describe Payment Nature:

  • Clearly describe the nature of the payment in your contract.
  • If the contract labels the advance payment as a “deposit” and is silent about whether it is refundable or not, then it will generally be treated as a deposit.
  • If the contract does not label the advance payment as a “deposit” and does not provide any refund terms, it will be considered as part payment.
  • The Cubic case clarified that whether a payment is part payment of the contract price or a deposit is a question of interpretation that turns on the facts of the case.

    2. Include a Forfeiture Clause
  • Include a forfeiture clause into your contract to expressly provide you with a right to forfeit the payment.
  • This clause can also take the form of a Liquidated Ascertained Damages (LAD) clause, ensuring your entitlement to a predetermined compensation amount.
  • The Cubic case explained that a party can forfeit the deposit sum without proving losses incurred if such party could demonstrate a breach of contract, the existence of a forfeiture clause, and the other party fail to prove that the forfeited sum forfeited is unreasonable.

    3. Maintaining Reasonableness
  • It is important to consider the reasonableness of the forfeited sum, otherwise, the other party may have a higher chance to demonstrate that the sum is unreasonable.
  • The Cubic case explained that reasonableness hinges on comparing potential damages due to a breach and the actual loss or damage suffered by the innocent party.

Imagine you are the manager of a popular event venue, hosting a range of gatherings, from product launches to corporate galas. To cater to your clients’ diverse needs, you provide two payment options: deposits and part payments.

The Deposit Scenario

Mr. A approaches you to secure your venue for a product launch event and pay 30% non-refundable deposit as outlined in the contract. This deposit is explicitly labelled as a “non-refundable deposit” in the contract to assure Mr. A’s commitment to using your venue on the agreed-upon date.

Due to unexpected circumstances, Mr. A need to cancel the product launch. In this case, the contract’s clarity plays a pivotal role. As the contract explicitly defines the upfront payment as a non-refundable deposit, you rightfully retain the 30% deposit without needing to prove specific losses.

The Part Payment Scenario

Let’s consider Mr. B’s situation. Mr. B also wants to book your venue for a similar event but opts for a part payment option. In Mr. B’s contract, he agrees to pay 1 month’s advanced payment, this upfront payment is described as a “part payment” in the contract without any indication of it being non-refundable. Furthermore, no forfeiture clause or LAD provision is included in this contract.

Similar to Mr. A’s situation, Mr. B faces unforeseen circumstances leading to the cancellation of his event. Since the payment is categorised as part payment, you need to refund the part payment to Mr. B. However, if Mr. B’s cancellation leads to losses on your end, such as costs related to event preparations, you retain the option to claim a breach of contract by Mr. B and seek damages through legal means.

Now, let’s consider Mr. C’s situation. Mr. C also opts for the part payment approach. The contract with Mr. C includes a crucial distinction. It explicitly states that the part payment will be forfeited in the event of cancellation, and this clause does not affect your right to claim additional damages. If Mr. C cancels the product launch, you reserve the right to forfeit the 1 month’s advanced payment and retain your rights to claim a breach of contract by Mr. C and seek damages.

Why These Scenarios Matter? The stories of Mr. A, Mr. B, and Mr. C underscore the critical importance of payment distinctions in contracts. Precisely defining payment terms helps you navigate risks and ensures a fair resolution when unforeseen events occur. Furthermore, the inclusion of a forfeiture clause or an LAD provision adds an extra layer of security, protecting you against potential losses resulting from cancellations or breaches of contract. In the ever-evolving realm of business, meticulous planning often marks the difference between success and setbacks. By gaining a firm grasp of the dynamics between deposits and part payments and incorporating safeguarding clauses, you strengthen your position in complex commercial transactions.

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