Nov 22, 2019

Deposits and Damages in Aborted Real Estate Deals

Azzarello v. Shawqi, 2019 ONCA 820 (CanLII)

Canadian real estate law is not very kind to buyers who fail to carry through on real estate agreements. The buyer who fails to complete an agreed purchase almost always loses his or her deposit. She may also be forced to pay additional damages to the seller. That makes it very important for the potential buyer to get good advice and think carefully before signing on the dotted line.

These consequences are a topic of increasing concern when real estate markets are volatile. Some buyers who were overenthusiastic and regret having bid high at the top of the market may want to get out of the deal. In other cases, a buyer may not have arranged all the financing that was needed and is unable to close.

The Defaulting Buyer Loses His Deposit

Breaches of contract in real estate deals are not treated the same as other contracts, which is why the buyer loses the deposit. In contract law in general, there is a presumption against the enforcement of penalties. Generally, the injured party is only compensated to the extent that it can show that it has suffered damages due to the buyer failing to carry through with its purchase agreement.

One might think that in some situations it would be unfair for the seller to keep the deposit. Suppose that the seller can quickly resell the property at an even higher price to somebody else, leaving the seller better off due to the first deal having been broken off by the buyer. Despite that benefit, the seller still keeps the deposit.

The common law on real estate deposits received a thorough review a few years ago, in a series of cases in British Columbia that I wrote about previously.

The culminating case was Tang v Zhang. A special five judge panel of the British Columbia Court of Appeal (“BCCA”) re-affirmed the principle that a buyer who breaks the deal loses the deposit. The BCCA’s decision has subsequently been cited with approval in numerous other court decisions, including by the Ontario Court of Appeal. The BCCA held that the vendor was entitled to keep a substantial deposit, even though the evidence showed that he had been able to re-sell the property at an even higher price in a rising real estate market, and therefore suffered no damages.

The buyer will also lose its deposit even if it wants to complete the agreement to purchase, but has fallen into a technical violation of the agreement. This was illustrated in the recent Ontario court decision in Xu v 2412367 Ontario Limited. This dispute was about a piece of land for development in Markham, worth over $40 million. The buyer had already paid a deposit of $1 million, and was committed to paying an additional deposit of about $2.5 million two weeks later, on September 30. The buyer ran into difficulty, because he was counting on getting money from the sale of another property, which was delayed.

The contract in Xu v 2412367 stated, as do most real estate purchase agreements, that “time shall be of the essence.” The judge followed the leading Commonwealth case on this subject, Union Eagle Ltd v Golden Achievement Ltd, a 1997 decision of the UK’s Privy Council. In Union Eagle, the buyer was ten minutes late delivering a cheque (coincidentally, also due at 5 PM on a September 30th) because of being stuck in Hong Kong traffic. The court ruled that any failure to meet the deadline, no matter how small, entitled the seller to cancel the transaction and keep the deposit, which in that case was 10 percent of the price of an expensive apartment.

The seller, as the passive party in a real estate transaction, is less prone to the risks of mistake in such matters. The seller does have some responsibilities, but it is the buyer who has the more onerous task of finding the money, and ensuring it is delivered on time. That highlights the need for buyers (and their lawyers) to take extra care so that there will be no mistakes.

Paying Damages on Top of the Lost Deposit

As already discussed, the vendor generally keeps the deposit even if it has suffered no losses, such as when it is able to resell the property at a higher price than the original buyer offered. However, the situation becomes even worse in a falling real estate market if the vendor can prove that it has suffered damages that exceed the amount of the deposit. The vendor may sell the property at a lower price, and the buyer who failed to carry through is responsible for the seller’s loss, plus expenses.

The seller can sue for its actual damages. This was highlighted in another British Columbia case, Albrechtsen v Panaich, where the sale occurred after prices dropped due to the introduction of the 15 percent foreign buyer’s tax. There, the original agreement had been to purchase a house for $1,260,000, and the seller ultimately sold it for $910,000. Including expenses, the court held that the defendant was required to compensate the seller for total damages of $360,000. That required a payment of $300,000 in addition to a $60,000 deposit that the buyer had forfeited. In such situations, the seller is compensated for a variety of expenses, including the extra interest he may have to pay to carry more than one property.

In an Ontario case, Marsland v. Hira, 2017 ONSC 5899, the buyer was in default on an agreement to purchase a house for $1.9 million in Burlington. The vendor presented evidence that home prices had fallen substantially in that area, and he would likely suffer a loss of at least $200,000. The court granted an ex parte Mareva injunction on another property owned by the defendant to provide security for the vendor’s damage claim.

In these situations, the person selling the property does have to demonstrate that she mitigated her losses. She has to show that she took prudent measures in marketing it to get a reasonable price under the current market conditions. Otherwise, the seller can be accused of making an improvident sale and will not be compensated for all her claimed damages. However, the case law is also clear that the seller does not have to wait for market conditions to improve before selling the property. Selling into a weak market, even with the best effort, may result in a large loss.

The Ontario Court of Appeal Provides Some Relief by Crediting the Deposit towards Damages

The seller keeps the deposit even if he has suffered no damages. What does that imply in situations where there are damages? Should the amount of the deposit go towards paying part of the seller’s damages? That is what was done in the cases cited above. However, there have been some other cases where the seller tried to double-dip, and sought full damages in addition to the deposit.

The case of Azzarello v. Shawqi, 2019 ONCA 820 (CanLII), involved an unfortunate buyer caught up in the volatility of Toronto’s housing market. Mr. Shawqi wanted to buy a house as a wedding gift for his daughter. Near the top of the market cycle in 2017, he agreed to buy a house for $1.55 million after a bidding war (the list price had been less than $1.4 million). When it came time to close, prices were weakening. The buyer was unable to raise financing to complete the deal, and had to default.

The vendor resold the house, for an amount about $275,000 below the agreed purchase price. Taking into account various additional expenses incurred by the vendors, the lower court judge ordered Mr. Shawqi to pay damages of $309,000. On top of that, the judge allowed the vendors to keep the $75,000 deposit paid by Mr. Shawqi, without crediting it towards the damage payment.

Mr. Shawqi appealed on various grounds. The only one on which he was successful was the effect of the deposit on the calculation of damages. The Court of Appeal ruled that the lower court judge had made a legal error in her decision on that issue.

Writing for a unanimous panel, Feldman J.A. went through a lengthy history of the case law on this issue. This shows a long history of authority saying that the deposit goes towards paying part of the damages. There is an old decision of the Supreme Court of Canada that ordered this, but without giving any reasons.

Feldman J.A. decided to pick a rationale for this approach, given in one of the older decisions on this subject. It is an attempt to base it on the wording of the standard Agreement of Purchase and Sale, which states expressly that the deposit is to be “credited towards the purchase price.” She elaborated on this:

[53] I agree with this analysis. While the agreement only specifically calls for the deposit to be credited to the purchase price on completion of the agreement, the measure of damages is based on the difference between the purchase price and the lesser amount that the property sold for after the purchaser’s default. In other words, it is based on the vendor receiving the purchase price that was bargained for. One can infer that the intent of the parties was that the deposit be applied to the purchase price whether received on completion or as damages.

Regardless of whether one considers this logic compelling, there is little doubt that it is fair. It is arguably inconsistent with the opposite situation where the vendor keeps the deposit in spite of suffering no damages. The latter outcome is patently unfair, whereas the decision imposed by the Court of Appeal in this case is fair to both parties. The very clear statement of principle in this decision means that there can be no doubt, going forward, about where the law stands on this issue. Deposits paid by buyers who default will be credited against the damages they must pay if the vendor has to resell at a lower price.

The legal information in this article is of a general nature, and should not be considered legal advice to the reader. The author is the principal of Spiro Law P.C.,, and provides advice on real estate litigation