Supreme Court: Forfeiture Of Advance Money As Part Of Earnest Money Only Justified If Terms Of Contract Are Clear & Explicit

The Court, while delving into the validity of the forfeiture of advance money, dismissed an Appeal challenging the decision of the Karnataka High Court, which affirmed that the advance money paid, being primarily a security for the due performance of a contract, was rightfully forfeited.

A Bench of Justice JB Pardiwala and Justice R Mahadevan held, “On a conspectus of the aforementioned authorities, it is evident that a clause for the forfeiture of earnest money is not penal in the ordinary sense, rendering Section 74 of the 1872 Act, inapplicable. In the present case, the stipulated amount under the ATS was in the nature of an earnest money deposit and thus, Section 74 of the 1872 Act cannot apply to the same. Further, the forfeiture clause was fair and equitable rather than one-sided and unconscionable, as it imposed liabilities on both the appellantpurchaser and respondent-sellers, wherein the seller was obligated to pay twice the advance amount paid by the buyer in case of his default.”

Senior Advocate Anand Sanjay M Nuli represented the Appellant, while AOR Supreeta Sharanagouda appeared for the Respondents.

Brief Facts

The Appellant had filed a suit seeking the specific performance of an Agreement of Sale (ATS). The Respondents were the original owners of the property, who had acquired title through an unregistered Will. The Appellant paid part payment, referred to as ‘advance money’ in the ATS.

Upon Appellant’s failure to pay the remaining amount within the stipulated period, the Respondents terminated the agreement and forfeited the advance paid.

The Trial Court dismissed the Appellant’s suit, holding that the advance money, being security for performance, was rightfully forfeited by the Respondents due to the Appellant’s failure and the resulting losses to the defendants. The High Court dismissed the Appellant’s Appeal, affirming the Trial Court's findings.

Court’s Reasoning

The Supreme Court referred to its decision in Satish Batra v. Sudhir Rawal (2013), wherein it was held that “The law is, therefore, clear that to justify the forfeiture of advance money being part of 'earnest money' the terms of the contract should be clear and explicit. Earnest money is paid or given at the time when the contract is entered into and, as a pledge for its due performance by the depositor to be forfeited in case of non-performance by the depositor.”

The Bench, relying on Satish Batra (supra), reiterated, “An amount which is in nature of an advance or serves as part-payment of the purchase price cannot be forfeited unless it is a guarantee for the due performance of the contract…despite the existence of an outright forfeiture clause, it shall not apply if the amount stipulated in the contract is found to be only in the nature of part-payment of the purchase price… the forfeiture of advance money as part of earnest money can only be justified if the terms of the contract are clear and explicit to that effect.”

The Court, therefore, held, “From the above exposition of law, it becomes amply clear that the amount…termed as advance money in the ATS, was essentially ‘earnest money”. In other words, it was in the nature of a guarantee for the due performance of the contract. In a fashion akin to earnest money, the said amount was paid at the very execution of the ATS. It was meant to be adjusted against the total sale consideration of Rs.55,50,000/- if the transaction was carried out, which is evident from the ATS clause that states the balance sale consideration to be as Rs.35,50,000/-. Further, it was liable to be forfeited in the event that the transaction fell through by reason of the default on part of the purchaser.”

The Bench also distinguished between ‘advance money’ and ‘earnest money,’ where the word ‘advance’ meant money in whole or in part, forming the consideration of an agreement paid before the same is completely payable. On the other hand, the word ‘earnest stood for a sum of money given for the purpose of binding a contract, which can be forfeited if the contract does not go off and adjusted in price if the contract goes through.

“The forfeiture of the entire amount of advance money by the respondent nos. 1-4 would still be justified on the ground that there was breach of contract by the appellant, which led to financial losses for the respondent nos. 1-4. Such losses, as specifically pleaded and proved by the evidence led before the Trial Court, far exceeded the amount forfeited under the ATS, a position that was duly noted and accepted by the Trial Court,” the Court held.

Consequently, the Court ordered, “For all the foregoing reasons, we have reached the conclusion that the forfeiture of advance money by the respondent nos. 1-4 was justified. In such circumstances, we are not inclined to grant the relief of refund of advance money to the appellant.”

Accordingly, the Supreme Court dismissed the Appeal.

Cause Title: K.R. Suresh v. R. Poornima & Ors. (Neutral Citation: 2025 INSC 617)

Appearance:

Appellant: Senior Advocate Anand Sanjay M Nuli; Advocates Suraj Kaushik, Firoz Gandhi and Nahar Singh Yadav

Respondents: AOR Supreeta Sharanagouda, Supreeta Sharanagouda and Dhawesh Pahuja; Advocates Sharanagouda Patil, Jyotish Pandey, Vinod Kumar Srivastava, Saket Gogia, Gauri Pande, Sheetal Maggon and Mansingh

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