Deposit Forfeiture Upheld By Court of Appeal (Redstone)
Redstone Enterprises Ltd. sold its warehouse in Brantford to Simple Technology Inc. for the purpose of setting up a legal Marihuana Grow House.
Agreement of Purchase and Sale: July 8, 2014
Licence from Health Canada
Closing date: October 2015
Conditional Time Period: August 27, 2014
Additional Deposit: $200,000 upon waiver of conditions
Waived and paid on 20 August 2014
New Closing date: at the buyer’s request,
June 30, 2015 from October 2015.
Buyer’s letter: 7 June 2015 (3 weeks before closing)
November 30, 2015 Requested date for closing
Offered $200,000 additional deposit
Negotiated Deal December 15, 2015 closing date
$450,000 additional deposit
Non- Completion transaction was not completed, as provided
The deposit in this case was three quarters of a million dollars. That’s a lot of money. So, the Buyer didn’t want to give it up without a fight. The Buyer applied to Court and the Motions Court Judge reduced the deposit to be forfeited to $350,000 based upon the fact that the Seller hadn’t really suffered any damages.
The Seller Redstone appealed to the Ontario Court of Appeal which restored the forfeited deposit to $750,000 as provided in the Agreement.
Here are some comments made by Mr. Justice Peter Lauwers,
On the review of the decision:
The application of this general standard assumes the application judge explained his reasons for exercising the discretion.
However, in this case, those reasons are sparse and do not permit meaningful appellate review.
The Forfeiture Test:
Applies Varajao case specifying the two steps of the test as:
1. whether the forfeited deposit was out of all proportion to the damages suffered, and
2. whether it would be unconscionable for the seller to retain the deposit.
This is sometimes referred to as the test in Stockloser v. Johnson,  1 Q.B. 476 (C.A.).
Is the Deposit Disproportionate?
The respondent points out accurately that the “record contained no evidence” that the appellant had suffered any loss as a result of the respondent’s breach of the agreement.
…the application judge accordingly came to the correct conclusion that the additional deposit of $450,000 to obtain the six-month extension of the closing date was disproportionate and therefore unconscionable,
….and rightly reduced it by $400,000, so that the total amount forfeited by the respondent was $350,000.
Another way of seeing it is that the application judge thought the six-month extension was worth no more than $50,000.
Since the appellant provided no evidence of damages, it is fair to infer that it suffered none.
As I will explain, that alone does not render the forfeiture unconscionable.
Is the Forfeiture Unconscionable?
The analysis of unconscionability requires the court to step back and consider the full commercial context.
Deposits are commonplace in the operation of the market, especially for larger assets such as residential and commercial real estate.
Their purpose was explored at learned length by Newbury J.A. speaking for a five-person panel in Tang v. Zhang, 2013 BCCA 52 (CanLII), 359 D.L.R. (4th) 104.
At issue in the case was the forfeiture of a deposit of $100,000 on a residential real estate purchase of slightly more than $2 million.
While Newbury J.A. rejected the argument that simply labelling a payment as a deposit immunized it against the court’s equitable jurisdiction to relieve from forfeiture, she declined relief. She distilled several relevant principles from English and Canadian case law, at para. 30. Two are especially pertinent to this appeal:
A true deposit is an ancient invention of the law designed to motivate contracting parties to carry through with their bargains. Consistent with its purpose, a deposit is generally forfeited by a buyer who repudiates the contract, and is not dependant on proof of damages by the other party. If the contract is performed, the deposit is applied to the purchase price;
The deposit constitutes an exception to the usual rule that a sum subject to forfeiture on the breach of a contract is an unlawful penalty unless it represents a genuine pre-estimate of damages. However, where the deposit is of such an amount that the seller's retention of it would be penal or unconscionable, the court may relieve against forfeiture….
The decision of this court in Peachtree II Associates-Dallas L.P. v. 857486 Ontario Ltd. (2005), 2005 CanLII 23216 (ON CA), 76 O.R. (3d) 362 (C.A.), leave to appeal refused,  S.C.C.A. No. 420, is instructive, even though it involved stipulated penalty clauses, not deposits. The case explored the distinction between penalties and forfeitures.
I would agree that the finding of unconscionability must be an exceptional one, strongly compelled on the facts of the case.
Can unconscionability be established purely on the basis of a disproportionality between the damages suffered and the amount forfeited? While in some circumstances a disproportionately large deposit, without more, could be found to be unconscionable, this is not such a case.
As to quantum, Newbury J.A. quoted, at para. 24 of Tang, the statement of the Privy Council in Workers Trust & Merchant Bank Ltd v. Dojap Investments Ltd.,  A.C. 573 (P.C.), at p. 578:
In general, a contractual provision which requires one party in the event of his breach of the contract to pay or forfeit a sum of money to the other party is unlawful as being a penalty, unless such provision can be justified as being a payment of liquidated damages, being a genuine pre-estimate of the loss which the innocent party will incur by reason of the breach.
One exception to this general rule is the provision for the payment of a deposit by the purchaser on a contract for the sale of land. Ancient law has established that the forfeiture of such a deposit (customarily 10 per cent of the contract price) does not fall within the general rule and can be validly forfeited even though the amount of the deposit bears no reference to the anticipated loss to the vendor flowing from the breach of contract.
Justice Newbury cited one case in which a deposit at 20% was found to be reasonable, but added, at para. 27, the amount of the deposit must not be excessive.
I agree, but I would be reluctant to specify a numerical percentage, since much turns on the context. I note, however, that in this case the deposit was slightly more than 7%.
There is no evidence that this was a commercially unreasonable deposit.
Where, as here, there is no gross disproportionality in the size of the deposit, the court must consider other indicia of unconscionability. This is an analysis the application judge did not undertake. By failing to do so, the he erred in law.
The list of the indicia of unconscionability is never closed, especially since they are context-specific.
But the cases suggest several useful factors such as
inequality of bargaining power,
a substantially unfair bargain,
the relative sophistication of the parties,
the existence of bona fide negotiations,
the nature of the relationship between the parties,
the gravity of the breach, and
the conduct of the parties.
Consideration of these indicia show there was no unconscionability in this case.
This was a straightforward commercial real estate transaction undertaken in the expectation of profit by both sides, who were previously strangers.
There was no inequality of bargaining power between them.
There was no fiduciary relationship.
Both parties were sophisticated.
The effect of fixing a price for the property created some risk for both parties because of the possibility of fluctuation in the market value of the property over a long closing period.
The initial deposit demonstrated the buyer’s commitment to the property.
That commitment was increased when the buyer waived the conditions inserted in the Agreement of Purchase and Sale for its benefit, requiring it to increase the amount of the deposit.
Later, when it appeared that the buyer needed an extension of the closing date, it sought that extension offering an additional $200,000 deposit, demonstrating it knew the seller would be concerned about the buyer’s ability to close the transaction and would seek to hedge against that risk.
Further, by extending the closing date, the seller would lose any opportunity to sell the land for the then market price, which could change at a later date.
Negotiations resulted in the additional deposit being set at $450,000, higher than the $200,000 figure the buyer initially offered.
The total deposit at slightly more than 7% was not in an unfair range.
As the closing date approached, the buyer attempted to escape from the transaction by raising spurious complaints, which led to the application.
The application judge rightly found that there was no merit to the complaints. At the same time, the seller remained ready and willing to close and was prepared to extend without additional payment.
In my view, nothing in this sequence suggests that the seller unconscionably abused its bargaining power.
Perhaps its position might be described as hard bargaining, but it was not unconscionable in the commercial context.
I note in passing that the application judge’s reduction in the overall deposit to $350,000 was $150,000 less than what the total deposit would have been if the buyer’s voluntary offer of an additional $200,000 for the extension of the closing date had been accepted and added to the then total deposit of $300,000. There was no warrant in unconscionability for such a reduction.
I would allow the appeal and vary the judgment to increase the forfeiture from $350,000 to the contractual amount of $750,000, together with any accrued interest to be paid to the seller, plus costs to the respondent in the amount of $10,000 for the appeal and $15,000 for the application, both inclusive of disbursements and taxes.
This case is now the leading case in Ontario in respect to deposits. It quotes with approval the BC case of Tang v. Zhang where a 10% deposit was permitted and not reduced on account of the Court’s discretion.
In Redstone (4 April 2017) we have a 7% deposit. It too was forfeited.
There are no new rules here. This is simply confirmation of the law relating to deposits.
There may, indeed, be cases where there would be some relief against forfeiture if a stronger case could be made than the one here.
Brian Madigan LL.B., Broker