Understanding Liquidated Damages

The liquidated damages clause is a key home buyer protection.  The funny things about it is that sometimes buyers are hesitant to initial the liquidated damages clause, which is optional.  It is paragraph 25 of the California Residential Purchase Agreement.

As a buyer, at first glance the liquidated damages clause may seem like you are agreeing to lose your deposit in the case that you should default.  However, that is not the case, nor the focus of this clause.  The buyer has actually already agreed to lose their deposit if the buyer does not complete the transaction once contingencies are removed because of fault of buyer.  This is agreed to in clause 14F regarding the effect of cancellation of escrow on the buyer's deposit.

What the liquidated damages clause does is limit the buyer's liability at not more than 3% of the purchase price.  For this reason, the initial deposit is normally 3% of the purchase price.  However, sometimes the deposit can be more, which is why the liquidated damages clause really is an effective buyer protection.

Imagine This...

Another scenario when liquidated damages provides huge protection for a buyer is in the following example.  Imagine an escrow for a $500,000 home where something goes terribly wrong and there is a dispute.  For whatever reason, the dispute takes up to six months to resolve and the home is tied up in escrow during this entire time.  During the course of the dispute the seller is paying property taxes, HOA fees if applicable, and utilities.  Also, property values may have dropped during that time frame.

By the time the dispute is solved and the home is freed to go back on the market for another buyer, it is calculated that the seller has lost $40,000 in value and expenses.  Liquidated damages clause prevents the seller from going after the buyer for that amount, which is called actual damages.  Instead, the buyer's liability is reduced to 3% of the purchase price, or $15,000.

Take the above example and now imagine that the home burned down during that time period.  Now you can really see how much protection the liquidated damages clause provides the buyer with San Diego houses for sale.

So by all means, do not hesitate to initial this clause, especially if you are a buyer.  It is really in the best interest of sellers to initial the clause as well because it is not a sign of good faith not to do so.  It can make a buyer cautious to deal with you because it will make you seem litigious and predatory.