There are many misconceptions about the role that a deposit plays in a practice sale/purchase transaction.
Is it negotiable? Is it refundable? Who holds the deposit? How is it released?
To provide some clarity in this regard, we thought we would answer some practice sale deposit FAQs.
FAQ1. What is the usual amount of a deposit in a business sale?
While the standard deposit amount is 10% of the purchase price, it can be negotiated to be a higher or lower amount, depending on the commercial terms agreed to by the parties.
FAQ2. At what stage in the purchase/sale of business does the purchaser need to pay a deposit?
Usually, a deposit is paid by the purchaser to the deposit holder upon execution (signing) of the formal, binding contract of sale, or by a specified date shortly after the contract is signed.
FAQ3. Who holds the deposit? Can the deposit holder use the money?
Depending on the scale of the transaction, the deposit is usually held by the vendor's agent or the vendor's lawyer. In either case, the deposit is usually held in a trust account (a special kind of bank account maintained by agents and lawyers). The deposit is held until one of the parties to the transaction becomes entitled to it under the contract of sale. The deposit holder is not permitted to access or use the deposit funds (and would be in for some serious consequences if they did!).
FAQ4. At what stage in the purchase/sale of business does the deposit become non-refundable?
Once the deposit is paid, it is dealt with under the formal contract of sale. Often, if a contract is subject to purchaser conditions (such as finance, due diligence or premises lease approval, etc.), the contract might specify that if the condition does not eventuate, then the deposit is returned in full to the purchaser. If a contract is signed unconditional or becomes unconditional, then generally speaking the deposit is "non-refundable".
FAQ5. At what stage in the purchase/sale of business does the deposit get released?
This depends on what is written in the contract.
Generally, the deposit is released:
- back to the purchaser if the contract is not unconditional and one of the conditions precedents are not met (e.g., unsatisfactory due diligence of the contract subject material, failure to obtain suitable finance, the premises lease not being assigned, etc.)
- to the vendor at the settlement/completion of the transaction
- to the vendor if the purchaser defaults on completion
FAQ6. Some purchasers offer to pay a deposit with their offer (i.e., before a formal contract is signed) - what are some of the implications of this?
Offering to pay a deposit prior to contract is sometimes used by prospective purchasers as an incentive for their offer to be accepted. However, such an arrangement without a formal contract in place comes with significant risk for all parties involved - including the deposit holder.
Without a contract of sale signed by both parties, it is very difficult to know if all parties are on the same page about how the deposit is to be held and distributed. As such, a deposit should only be paid once the formal, binding obligations of the parties are agreed and signed.
FAQ7. The purchaser has asked for a reduced deposit… does this mean that they are not serious about the transaction.
Not necessarily.
A purchaser will often be relying on finance to purchase a business. This finance is only released by the lending institution at settlement.
A deposit is payable on exchange of signed contracts BEFORE the finance becomes available.
This means that the purchaser often needs to pay the deposit before finance is available out of their savings. On a large deal, with a significant purchase price, a serious purchaser may simply not have enough of their own funds saved to pay the usual deposit %. amount.
FAQ8. If the purchaser defaults on an unconditional signed - but not completed – deal… What are the damages a vendor can seek from a purchaser?
What role does the deposit pay in these damages?
The damages that are payable if a buyer defaults ultimately depends upon what the contract says.
Assuming the purchaser has withdrawn from the contract (without a proper basis), damages seek to compensate the vendor to the extent that the vendor has been financially disadvantaged by the purchaser not completing the sale.
Losses which are commonly suffered, and which may be recoverable, include:
- Any loss of value (eg if the vendor sells the practice to another purchaser for a lower amount);
- Any operating losses or capital expenditure which are reasonably incurred by the vendor seeking to minimise any loss in value;
- A readvertising fee; and
- Other fees and charges associated with the intended sale, such as bank fees (this can include legal fees,).
The deposit plays an important role in these damages:
- Some contracts provide that the deposit may be retained by the vendor, in full, if the purchaser causes the contract to not complete.
- The deposit becomes the first and most accessible part of the damages paid to the vendor, HOWEVER, the purchaser may be liable for damages that far exceed the deposit amount.
- The vendor may have to take legal action against the purchaser in order to recover the rest of the damages they are entitled to.
The deposit is, in any circumstances, important security for the vendor for any losses it might suffer.
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