Court’s Decision:
The Kerala High Court allowed the Regular First Appeal challenging a trial court’s decision refusing refund of advance paid in a suit for specific performance. Holding that the forfeiture of earnest money was unsustainable in the absence of a proven breach of contract by the appellant, the Court ordered refund of ₹3 lakhs along with 6% interest per annum from the date of suit till realization. The Court also held that there was no concluded contract and hence, no question of breach arose.
Facts:
The appellant had paid ₹3,00,000/- as advance for the purchase of a property, following a consensus to execute a sale deed for ₹6,00,000/-. The amount was paid via cheque and received by the respondent. The respondent, however, did not execute the sale deed, allegedly due to unresolved liabilities and issues with title, prompting the appellant to file a suit for specific performance of the contract or, in the alternative, refund of the advance.
The trial court dismissed the suit, holding that the agreement was not enforceable and the appellant was not entitled to refund since he had not sought specific performance. Aggrieved by this finding, the appellant filed an appeal seeking return of the advance amount along with interest.
Issues:
- Whether there was a concluded agreement between the parties that was breached by either party?
- Whether the respondent was entitled to retain the advance amount in the absence of a formal agreement or breach?
- Whether Section 74 of the Indian Contract Act would apply where there is no concluded contract or breach?
Petitioner’s Arguments
The appellant contended that the parties had orally agreed to the terms of sale and that the cheque of ₹3,00,000/- was paid as part of this mutual understanding. The failure of the respondent to execute the sale deed due to unresolved encumbrances and lack of clear title constituted a repudiation of the agreement, entitling the appellant to specific performance or, alternatively, refund of the earnest money.
The appellant emphasized that there was no default on his part and the respondent’s inability to perform their obligations was the sole reason for the transaction falling through. Therefore, the respondent’s retention of the advance was arbitrary and violative of the principles of equity and justice.
Respondent’s Arguments
The respondent argued that there was no concluded agreement for sale between the parties, and hence no binding contract existed which could give rise to either specific performance or refund. It was contended that the cheque was issued voluntarily by the appellant, and its receipt could not amount to proof of a legally enforceable contract.
The respondent also contended that since the appellant failed to pursue specific performance and sought only refund, the suit was rightly dismissed. Moreover, there was no agreement stipulating refund, and hence Section 74 of the Indian Contract Act could not apply.
Analysis of the Law
The High Court examined the scope of Section 74 of the Indian Contract Act, 1872, which deals with compensation for breach of contract where penalty or liquidated damages are stipulated. The Court observed that forfeiture of advance money is permissible only when the party claiming forfeiture proves breach of contract by the other party.
In the present case, the Court held that there was no concluded contract as the sale deed was never executed, nor were any formal terms settled or recorded. The appellant had paid advance purely on the assurance of the respondent, and the transaction collapsed due to the respondent’s own inability to clear title and liabilities.
In such circumstances, the Court held that the retention of the advance would be arbitrary and unjust.
Precedent Analysis
The Court relied heavily on two key judgments:
- Kailash Nath Associates v. Delhi Development Authority, (2015) 4 SCC 136: The Supreme Court held that forfeiture of earnest money without proof of breach of contract is impermissible and amounts to unjust enrichment. The forfeiture must satisfy the test of reasonableness and causality between breach and damage.
- K.R. Suresh v. K.S. Kannan, ILR 2021 (2) Kerala 671: The Kerala High Court reiterated that if there is no breach attributable to the plaintiff, forfeiture of advance amount is not sustainable.
Both decisions emphasized that Section 74 does not allow for retention of money unless a concluded contract is breached, and the Court used these rulings to set aside the trial court’s order.
Court’s Reasoning
Justice Devan Ramachandran noted that the trial court erred in assuming that the absence of a written contract absolved the respondent of all obligations. The evidence showed that the advance was paid with a clear intention to proceed with the sale, but the sale failed because the respondent could not fulfill basic conditions such as clearing title.
The Court observed:
“It is now well settled that forfeiture of advance is permissible only when breach of the terms of contract by the other party is clearly demonstrated.”
The Court found no material suggesting breach by the appellant and held that equity demanded refund of the amount. It therefore allowed the appeal and ordered refund with interest.
Conclusion
The Kerala High Court allowed the Regular First Appeal and set aside the trial court’s judgment. It directed the respondent to refund ₹3,00,000/- to the appellant along with 6% interest from the date of filing of the suit until realization. The Court held that forfeiture without breach or contractual stipulation was illegal and contrary to principles of equity.
Implications
This ruling reinforces the doctrine that earnest money cannot be forfeited in the absence of breach or a concluded contract. The decision will guide future disputes involving oral agreements, advance payments, and unjust enrichment.
It protects buyers who act in good faith and clarifies that a party cannot be penalized merely for the other party’s failure to complete a transaction. This judgment is a strong restatement of the principles of fairness and accountability in property transactions.
FAQs
Q1. Can advance money be forfeited if there’s no written agreement?
No. The Court held that forfeiture is only valid if there is a concluded agreement and a breach by the party who paid the advance.
Q2. What if there was no breach by the buyer?
In such a case, the seller cannot retain the advance. The Kerala High Court clarified that forfeiture without breach is unjust and illegal.
Q3. Does Section 74 of the Indian Contract Act apply when there’s no formal agreement?
Section 74 applies only when there is a concluded contract. If the contract never materialized, retention of money is not covered by Section 74.
