Buying a business is an exciting and challenging time. Once you decide that you want to purchase, the seller will want to know that you are serious. This is commonly achieved through the payment of a deposit. This article will explain and discuss the key issues that you should keep in mind when it comes to deposits.

Why Do I Need to Pay a Deposit?

Paying a deposit demonstrates your willingness to proceed with the purchase of the business. A deposit also provides the seller with some protection by requiring you to forfeit the deposit if you pull out of the sale before settlement.

For instance, if the seller incurs expenses preparing the business’ sale, the deposit can ensure that they are not left out of pocket if you drop out. Common expenses include fees to their lawyer and accountant to assist them with the sale. Deposits allow both you and the seller can move forward with the sale of the business with confidence and certainty.

How Much Do I Have to Pay as a Deposit?

Typically, the seller will request 10% of the total purchase price as the deposit. There are no specific laws that regulate how much deposit should be paid, but this is the industry standard.

The deposit should be a reasonable amount that covers any losses or expenses that the seller may incur if you pull out of the sale. A seller can require less than a 10% deposit. However, this is less common because it gives the seller less financial security. Any more than 10% is usually considered: 

  • unnecessarily high;
  • not advisable commercially; and 
  • a disproportionate burden for the buyer. 

However, the amount of the deposit is always a matter of negotiation.

When Do I Pay the Deposit?

You will usually pay the deposit when you exchange and sign the contracts of sale. However, you can sometimes pay it when you sign the heads of agreement. The heads of agreement is the agreement you enter into before you sign and exchange the final contract. This is particularly if the seller has a business broker assisting them. If the seller has a legal representative or a business broker, it is common for them to hold the deposit in their trust account. This is sometimes known as paying the deposit into escrow, where a third party receives and handles the deposit until the business sale is settled.

The seller (or their business broker or lawyer), should provide a receipt in writing for any deposit you make. If you do not pay the deposit by the time agreed in the contract, the seller usually has the right to terminate the contract.

Issues to Consider as a Business Purchaser

It is important that both you and the seller are clear on the conditions on which a deposit is refundable. Similarly, it is important to understand at what point in the purchase process you can no longer request for your deposit back. Sometimes the seller may set out in the contract that only a partial deposit can be refunded once the transaction has reached a certain point. This will depend on the expenses the seller will need to incur until that point in time. 

If the business operates on physical premises and the seller has a lease in place, the seller will need to obtain the landlord’s approval to transfer the lease to you, as the incoming purchaser. Often the landlord will require the seller to pay the costs of any transfer documentation. The seller may then seek to recover these costs from you if you decide not to proceed before settlement. However, you may be entitled to end the contract and have the deposit returned to you in full if the seller (through no fault of yours) is unable to transfer the lease to you.

Key Takeaways

It is important to consider what your contract of sale states about payment and refund of deposits. This is to ensure that the vendor is fair and reasonable in the transaction. You should also ensure that you understand your obligations in relation to the deposit under the contract. This includes any potential consequences of pulling out of the contract before settlement. If you have any questions about your sale of business contracts and any of the provisions relating to deposits, get in touch with LegalVision’s business purchase lawyers on 1300 544 755 or fill out the form on this page. 

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