What Is the Liquidated Damage Clause in Real Estate?

By Craig Donofrio

Posted on August 18th, 2022

contract

What are liquidated damages in real estate?

In real estate, liquidated damages are costs incurred by the seller if a deal falls through under certain circumstances. The liquidated damages clause in a real estate contract protects the seller by allowing for some compensation.

A good example would be if a seller makes all requested repairs, all contingencies are met, and the deal falls through at the last minute. In that case, the seller may be able to use the liquidated damages clause to soften the blow.

The liquidated damages clause in a real estate contract is a reasonable and agreed upon amount that would be awarded to the seller, should the buyer breach the contract under certain circumstances.

The amount of liquidated damages can vary by contract or state law. In California, for example, liquidated damages are usually capped at 3% of the purchase price for most home sales.

Once contingencies are released, many sellers begin to pack their home, schedule the movers, put a deposit down on a new home and maybe even leave their job. There could be real financial and emotional strain for the seller if the buyer decides they don’t want the house and breach the contract.

The liquidated damages clause protects the seller by awarding an agreed-upon amount to cover their losses. It also protects the buyer by limiting the damages to a "reasonable" amount.

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Reasons to Include a Liquidated Damages Clause in Your Contract

It Simplifies Resolving a Contract Breach

If you and your buyer agree on a liquidated damages clause that defines reasonable damage amounts, should there be a breach, resolving the dispute will be less taxing.

If you neglect to put this clause in your purchase agreement, you will have to prove the amount of your financial loss in order to collect monetary damages for your buyer’s breach.

It Saves You From Needing To Seek Legal Counsel if There’s a Breach

Without a this clause in your purchase agreement, if the buyer chooses to rescind his or her offer, you will need to seek legal assistance to reconcile the matter.

A legal dispute involving attorneys can be costly to you (and to the buyer); however, with a liquidated damages clause, seeking legal representation may not be necessary since the terms of the breach are already outlined and have been agreed to by both parties.

However, if both parties can't agree on the amount owed, then arbitration or court involvement may be necessary.

It Can Help You Recover Deposit Money if There’s a Contract Breach

The buyer’s deposit is usually held in escrow until the sale is complete. If the buyer decides to breach your purchase agreement, your damages clause will make you eligible to recover their deposit money. However, to do so, escrow companies usually require both parties sign an agreement prior to the release of any funds. In the event that the buyer is being uncooperative, this clause will help you collect.

» MORE: Can a Seller Back Out of an Accepted Offer? It's Possible, But Not Easy

What if There Is No Liquidated Damages Clause?

In the absence of the liquidated damages clause, the seller would have to prove the amount of costs incurred when the buyer breached. This legal dispute would be costly for both buyer and seller. A liquidated damages clause saves both sides the legal burden.

This clause is standard in most real estate offers. It is typically in the best interest of both the buyer and seller to have one.

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Posted in Buying a House, Buying a Home, Real Estate Negotiations