Whose Money is it Anyway? The Legalities Surrounding Deposits in the UAE

‘Tiny details imperceptible to us decide everything!

Some contractors may not pay attention to the phrases, conditions, or rules within their contracts. Ultimately this leads to conflicting and inadequate interpretations of clauses. For example, the interpreting the term deposit. Some may view it as an additional price rather than part of the contract price. Others may believe it nullifies the sale contract. As such, we intend to clarify the meaning of a deposit in the law. This clarification will shed light on the role of deposit, how it differs from a penalty clause, and whether it is indeed regarded as compensation in an instance where the contract does not get fulfilled.

The essence of a contract is in the real mutuality between the parties. As such, what parties agreed upon will constitute a valid contract unless it is contrary to public order or the law. Upon an exchange of offer and acceptance the essential characteristics of a contract get confirmed, the contract forms consistent with the will and intent of parties. It also means parties to it cannot by unilaterally act in contravention of the agreed terms. Article 267 of the UAE Federal Law (5) of 1985 On the Civil Transactions Law of the United Arab Emirates provides the following:-

‘if the contract (between the parties) is valid and binding, it shall not be permissible for either of the contracting parties to resile (or; withdraw)from it, nor to vary or rescind it, save by mutual consent (of parties) or through a court order, or under a provision of the law.’

Mine to Retain or Yours to Return

Rescinding a contract can be done by one of three methods. First, the parties may mutually agree to terminate the contract. Article 268 of the Civil Transaction Act permits such action when stating ‘the contracting parties may jointly revoke their mutual consent once the contract concludes.’ The one condition upon doing so is the implementation of the clauses of termination included in the agreement. Parties would have previously agreed to these terms. They may involve a contract allowing one party to claim compensation upon mutual revocation. Or, as it is possible to waive your personal right to compensation, they may have agreed not to award compensation to either party even if one is rightfully entitled to damages.

The second method involves rescinding a contract as per the instructions of a court ruling, which is termed ‘termination of the contract.’ This event occurs where the Court finds litigants claim to terminate a contract valid due to a breach of terms caused by the other party. In such an instance, the Court holds the discretion to grant compensation or refuse it if there is no evidence for its necessity. As such in the Appeal Case Number 2048 of 2011 dated 5 June 2011 the Court of Cassation stated that:

The decision to assess the reasons for termination of a binding contract and determine the Court holds the negligent party who has failed to implement their obligations due to its ability to understand the realities of the matter as long as it has established its decision on reasonable grounds.

The final method is an agreement between the parties of the contract that permits one party to rescind the contract by individual will under specific conditions. Here lies the subject of our article, the sale contract with a deposit. One such condition is the returning or retaining of the deposit as a consequence of rescinding a contract by individual will. Understandably, a contract of sale is an exchange of non-monetary money with monetary money, and the purchaser may pay a partial price of the contract through a deposit validating the sales as this validation is its primary and original purpose. As provided in Article 148(1) of the Civil Transaction Code ‘payment of earnest money shall be regarded as evidence that the contract has become final and irrevocable unless the agreement or custom are to the contrary.’

The fundamental principle here is that the buyer has paid a partial amount as a deposit validating the contract and making it impermissible for either of the parties to abandon it by individual will. The law does not apply the later part of principle unless the essential elements of a contract get fulfilled. On this, the Court of Cassation has established in its ruling of Appeal Case Number 32 of 1994 dated 11 March 1995 that consensus concurs that a sale with a deposit is a sale agreement conditioned upon validation or revocation based on the intentions of the parties. The core necessities of a contract are required to determine what forms part of a sale (the product or service) and its value to allow finalization of the agreement in the circumstance where the condition of validity (the deposit) is provided.

However, the law enables contracting parties to evade the principle mentioned above. This event occurs in the instance where the law provides an opportunity to each party to rescind the contract in exchange for the deposit, allowing it to act as what may be perceived to be a penalty clause. Here, if the buyer revokes the contract, then he loses the deposit to the seller. If the seller rescinds the contract, then the deposit returns to the purchaser. Article 148(2) of the UAE Federal Law (5) of 1985 On the Civil Transactions Law of the United Arab Emirates supports this view. Article 148 (2) provides:-

'Where the parties agree that the earnest money paid is the sanction for withdrawal from the contract, either party may withdraw. If the person making the payment of the earnest money is the one who withdraws, then he shall lose the same, and if the one who is receiving it reneges, he shall pay over double that amount.'

The deposit will not possess these characteristics unless the contract of sale directly specifies it, the contract implies it, or if the custom of such a contract of sale similarly suggests it. We explain the above by way of the following example. Parties to a property sale and purchase contract reach and agreement that each of them (the buyer and seller) will deliver an amount equal to 1/8th of the contract price to a broker. The payment by the purchaser will conclude by 1 July 2015, and the seller will transfer the property on the same date. The contract further adds a stipulation that if either party is in breach of their obligations, the party in violation of contract will lose the deposit (being 1/8th of contract price) submitted. The Dubai Court of Cassation in Appeal case number 878 of 2006 and dated 18 June 2006 referred to Article 148 of the Civil Transactions Act. The court held that payment of the deposit by a party is a significant step in evidencing the act of parties to agree to the finality of the contract. The Court further held that the parties to contract cannot (in such event) rescind the same unless the conditions stipulated in the contract expressly specify otherwise. It would condition that the party that breaches the contract must return the deposit or allow it to be retained by the other party and as such the deposit will get exchanged for the right to rescind.

As such the deposit will not constitute as verification that the contract gets validated in two cases:

i. If the parties mutually agree that the deposit is a penalty that must be exchanged for the right to rescind the contract

ii. If the custom suggests so: where it is custom that the buyer will lose the deposit in a case where they do not pay the price of the contract by the agreed date

Real Characteristics

The question to be now considered is whether in such circumstance the deposit constitutes as compensation for failure to complete the contract?

We submit that the deposit in such a circumstance does not constitute compensation for one party rescinding the contract. Instead, the return or retention of a deposit is only in exchange for the right to terminate the contract. This element is because the origin and meaning of compensation are to allow redress that has been caused rather. As such the Civil Transaction Law states that: any damage caused to another necessitates compensation even if the party causing damage lacks the capability to provide so.

This means damage to the claimant is a prerequisite to awarding compensation. The occurrence of damage should precede, which means, a party cannot raise a claim to get compensated if there was no damage in the first place. However, if either party rescinds the contract and where neither party raises a claim for damage(s), the deposit may still be returned or retained. As such, the law is clear when it states that if the party who paid the deposit will lose it upon rescinding the contract and the party that obtained the deposit must return it if they revoke the contract. There is no requirement for damage. Therefore the Court of Cassation has authorized the aggrieved party to claim both for compensation and the return of the deposit where such claim is applicable. The Dubai Court of Cassation has ruled similarly in Appeal Case Number 34 of 2007 dated 25 March 2007.

However, in a previous sentence, the Court of Cassation has found the deposit to be fair and suitable compensation where it has stated:

‘if the damage exceeds the deposit amount then [only] is it permissible to claim for compensation per the general principles’ (Dubai-Court of Cassation- Appeal Case Number 176 of 2010 dated 23 January 2011).

Nevertheless, in a more recent judgment, the Court confirmed that the return or retention of a deposit is not synonymous to awarding compensation. The Court has stated that the obligation to pay the value of the deposit by the party that rescinded the contract does not constitute compensation for the damage that has occurred to the second party. Rather, it is a result of the parties mutually agreeing that the right to rescind the contract will be awarded in exchange for the deposit.

To reconcile between the judgments, we can say that if the deposit is in exchange for the right to rescind the contract, then the parties to the contract have agreed that the adequate compensation for revoking the contract will be in light of the precise circumstances at the time. If deposit covers the damage, then the party cannot claim for compensation. If the circumstances have changed since entering the contract and the deposit does not include compensation, then it is permissible for the party to claim for compensation as per the general rules of compensation. However, the deposit recovered will get subtracted from the total compensation owed.

The final question put forward in light of the above, does the deposit constitute a penalty clause?

The Court of Cassation has previously mentioned that the deposit may establish a penalty clause. However, in its ruling, it concluded that the requirement of a deposit in such a case is similar to that of a penalty clause except in the fact that the deposit cannot reduce or get canceled for it is warranted even if damage does not occur. On the other hand, a penalty clause may be reduced as per the discretion of the Court. Therefore, the difference that lies in the fundamentals of each means they cannot be equated.

What the Court of Cassation has settled upon, is that a penalty clause is not warranted unless damage has occurred. Further, if the value of the penalty condition exceeds the value of the damage that has occurred, the value of the penalty clause must be reduced. Finally, the deposit must be given regardless of whether damage occurs. As such, the deposit can in no way constitute a penalty clause as what one may understand from the statements of the Court of Cassation previously mentioned. This understanding is also because there is another fundamental difference between a deposit and a penalty clause. It is the fact that a penalty clause in a contract will be invalidated where a contract is terminated (mutually). As upon terminating a contract all of its clauses are invalidated. However, a deposit does not take effect except in the circumstance of exchanging it for the right to rescind a contract. As such the penalty clause and the deposit result in two differing circumstances, the deposit takes effect regardless of the termination of the contract, while the penalty provision is terminated upon the cancellation of the contract and only takes effect where the contract remains valid but yet breached.

Conclusion

Therefore sale with a deposit is either a type of sale contractors use to ensure the agreement and make it irreversible. Or it in place to be used as means of exchanging the right to rescind the contract with the return or retention of the deposit (which must be clearly stated or implied in the contract). Otherwise, the Court will have the discretion to discern the intentions of the contracting parties through assessment of the clauses dealing with it and as per the known custom. In which it can be determined whether the deposit is in place as a means to ensure the contract; or as a medium to allow its exchange for the right to rescind the contract. As such, the Court of Cassation has ruled in Appeal Case Number 103, Civilian Court 268 of 1990 dated 27 January 1991 that the purpose of the deposit is extracted through determining the intentions of the parties. If the parties of a contract want to prohibit the Court from having such power, they must clearly state within the contract the purpose of the deposit. Finally, being entitled to and obtaining the deposit does not prevent the damaged party from additionally terminating the contract and demanding compensation due to incurred damages if this is reasonable.