Contractors' Questions: Can I keep the deposit on a cancelled contract?

Contractor’s Question: If a client of my company who paid a deposit when they entered into a contract with us but has since cancelled that contract, can we still keep the deposit?

Expert’s Answer: The short answer appears to be ‘yes,’ your business can keep the deposit, but do read on because the answer to legal questions like this one is often not clear-cut.

Firstly, where a deposit is taken to secure or guarantee the customer’s performance of the contract it can usually be kept but note, I am addressing the instance where a business contract was in place – in B2C transactions different considerations may apply.

Secondly, a deposit must be distinguished from a pure part-payment of the contract price. A deposit is paid to guarantee the customer’s performance; it will also be treated as a part-payment assuming the contract proceeds as planned. If that key characteristic of securing the buyer’s performance is not present, the payment will be a part-payment which will be returnable even if the customer cancels the contract. The cancellation might well give rise to a right for your business to claim damages for breach of the contract, but that is a separate issue.

If there is a dispute as to whether a deposit is returnable the court will look at what was intended – either expressly or by implication. It will consider whether the parties intended the sum paid by the buyer to be kept by your business (and not be recoverable by the buyer) if the buyer cancelled the contract.

Thirdly, a true deposit should be retainable, but a number of cases have put the matter in some doubt. This is because there has been some suggestion that a buyer could challenge what is known as the forfeiture of its deposit on the basis that it is a penalty and therefore void. That risk seems to have receded at the moment, but that doesn’t mean that it won’t arise again.

So what can you do to help your business to retain a deposit if the customer cancels the contract? The main advice I would give is to make sure that your business contract makes it clear that the deposit is acknowledged by the customer as not being returnable if the customer terminates the contract in breach of its terms.

I would suggest that you do not require a deposit of an amount which is unreasonable in the circumstances. That is more for commercial and tactical reasons than a legal one, in that an unreasonable amount is more likely to provoke a claim by the buyer than if it is reasonable.

What’s my position if I work for the client via a recruitment agency?

In this situation, the agency is generally the interface between the customer and the contractor. The contractor’s terms will be set out in the contract with the agency, as will the customer’s, so there won’t always be a direct contractual link for this issue between contractor and customer.

The agency will, amongst other things, generally be responsible for obtaining payment from the customer and paying the contractor. The first port of call for checking your rights and obligations as a contractor will therefore be your contract with the agency. 

If there is no specific provision for a deposit and the circumstances of a particular proposed contract with a customer are such that you as the contractor require a deposit, you will need to make arrangements for that deposit. That might best be done direct with the customer, provided your contract with the agency does not preclude you from doing that, so that you can ensure that all the necessary terms are agreed. 

The expert was Sue Mann, commercial solicitor at legal advisory Cousins Business Law.