Even in a market with low inventory and high demand, there still may be reasons for a buyer to want to cancel a purchase agreement. When that happens, a dispute may arise as to whether the buyer’s deposit money is to be returned or whether the seller is entitled to keep it. Who is right? As always, it depends.
The standard Residential Purchase Agreement (RPA) used in California is produced by the California Association of Realtors® (CAR). While the RPA doesn’t spell out who will be entitled to the funds in every case, it does provide guidance in terms of the respective parties’ rights and obligations.
First of all, we note that the RPA says (#10) “Buyer’s acceptance of the condition of, and any other matter affecting the Property, is a contingency of this Agreement” [my emphasis], and the buyer shall have a right to “conduct inspections, investigations, tests, and other studies… ” There is a default period of 17 days for the buyer to conduct those investigations, but that period can be made longer or shorter by agreement of the parties at the time the contract is formed. For example, a buyer who is intending to have a geological inspection may request a longer period because it takes time both to schedule an inspection and to write up the results of the inspection.
Suppose, then, that within that inspection period, the buyer finds something about the property to which he objects. The RPA provides the buyer with three options: (1) he can request that the seller make repairs (two items to note here: (a) not every objectionable feature is something that can be repaired, and (b) the seller may refuse to make the repairs), (2) he can remove the contingency anyway, or (3) he can cancel.
Suppose that he cancels. This is where disputes arise. The purchase agreement requires “…cancellation under this paragraph by either Buyer or Seller must be exercised in good faith and in writing… ” Sometimes sellers will question the good faith aspect of a cancellation. That is understandable, but sellers need to realize that the buyer’s inspection contingency is very broad. The RPA says that the buyer has a right to satisfy himself “…as to any matter specified in the attached Buyer’s Inspection Advisory (C.A.R. form BIA).” To realize how broad the buyer’s inspection contingency is, then, we need to look at the Buyer’s Inspection Advisory.
Not only does this form advise the buyer to conduct investigations of such items as property condition, square footage, boundaries, soil stability, environmental hazards, and zoning requirements, but also it advises inspection regarding “personal factors” such as “personal needs, requirements, and preferences of Buyer.”
It is this broadness of the buyer’s inspection rights that have led many to say that the inspection period is, essentially, a free-look period. While the buyer must exercise his cancellation rights in good faith, his good faith reason can be very, very subjective.
Suppose, though, that a seller objects to the buyer’s cancellation. Suppose he thinks it is frivolous or in bad faith. Well, they are just going to have to argue that before a judge or a small claims court commissioner. The RPA only says that, upon cancellation, “Buyer and Seller agree to Sign mutual instructions to cancel the sale and escrow and release deposits, if any, to the party entitled to the funds… ” [my emphasis] It doesn’t predetermine who is entitled to them.
Given the broadness of a buyer’s investigation rights, sellers want to be careful about refusing to return deposits when cancellation is based on an inspection contingency. The RPA puts both parties on notice that “A Buyer or Seller may be subject to a civil penalty of up to $1,000 for refusal to sign such instructions [to release deposits] if no good faith dispute exists as to who is entitled to the deposited funds.” But there we go with that good faith business again.
I hope you found the article useful. Give me a call if you have any questions.