Court emphasizes seller must prove actual loss to forfeit earnest money; mere breach insufficient under Section 74 of Indian Contract Act
In a significant judgment delivered on October 27, 2026, the Delhi High Court in the case of Somnath Kharbanda (through his legal representatives) v. Arvinder Kaur (through her legal representatives) clarified the legal position on forfeiture of earnest money (bayana) in real estate transactions governed by an Agreement to Sell. The court held that forfeiture of earnest money by the seller is not an automatic consequence of the purchaser's breach. Instead, the seller must prove actual legal injury or loss caused by the breach, as stipulated under Section 74 of the Indian Contract Act, 1872.
Background facts reveal that Arvinder Kaur had entered into an Agreement to Sell dated June 21, 2008, with Somnath Kharbanda and Anoop Kharbanda for the sale of a property at a price of Rs. 40,00,000. She paid an earnest money amount of Rs. 4,00,000 (bayana) as part of the agreement. The contract required the balance payment of Rs. 36,00,000 on or before September 5, 2008. The agreement also contained a clause stipulating that if the purchaser defaulted, the earnest money would be forfeited, while if the seller defaulted, double the earnest money would be payable to the purchaser.
The purchaser claimed that the sellers failed to provide title documents for verification, which led to her not paying the balance sale consideration and subsequently seeking a refund of double the earnest money amount. The sellers contended that it was the purchaser who defaulted and thus the earnest money was rightly forfeited. They also claimed to have suffered loss because they had entered into a subsequent property purchase agreement contingent on this sale and had lost earnest money on that deal due to the purchaser's default.
The trial court partly decreed the suit by ordering refund of Rs. 4,00,000 with interest but rejected the claim for double the earnest money. The sellers appealed against this judgment.
On appeal, the Delhi High Court thoroughly analyzed the provisions of Section 74 of the Indian Contract Act, which deals with compensation for breach of contract where a penalty is stipulated. The Court reiterated the Supreme Court's authoritative position that the sum named in a contract as liquidated damages is not automatically payable upon breach. Instead, the party seeking to enforce such penalty must demonstrate that a legal injury or loss has actually occurred. Mere breach alone does not justify forfeiture or penalty.
The Court examined the evidence regarding the sellers' alleged loss from the failed subsequent transaction and found that the sellers failed to produce any cogent documentary proof or witnesses to substantiate their claim. The receipt and agreement relating to the subsequent property purchase were not exhibited, and no evidence was led to establish the loss. Consequently, the Court held that the sellers had not discharged the burden of proving legal injury or loss.
The Court also rejected the sellers' contention that the purchaser was not ready and willing to perform the contract. While the purchaser's financial capacity was scrutinized, the Court emphasized that the primary question was whether forfeiture of earnest money was justified by proof of loss, not merely whether the purchaser was financially ready.
Moreover, the Court clarified that observations made by the trial court regarding title documents were incidental and not findings on ownership or title disputes, as the suit was strictly for recovery of earnest money and not for specific performance or declaration of title.
Importantly, the Court distinguished this case from suits for specific performance, noting that the principle requiring a specific prayer for refund under Section 22(2) of the Specific Relief Act, 1963, did not apply here because the suit was for recovery of earnest money simpliciter.
In its final verdict, the Delhi High Court dismissed the appeal and upheld the trial court's decree directing refund of Rs. 4,00,000 with interest to the purchaser. The claim for double the earnest money was rejected for lack of proof of loss caused to the sellers.
This ruling reinforces that in real estate agreements, sellers cannot arbitrarily forfeit earnest money without establishing actual damages caused by the purchaser's breach. This judgment thus provides much-needed clarity and protection for purchasers against unfair forfeiture of earnest money in property transactions.
Bottom Line:
Agreement to Sell - Forfeiture of earnest money is not automatic merely because purchaser committed breach - Seller must prove legal injury/loss under Section 74 of the Indian Contract Act, 1872 - In absence of proof of loss, seller cannot forfeit bayana and purchaser is entitled to refund of earnest money though not double amount.
Statutory provision(s):
Indian Contract Act, 1872 Section 74, Civil Procedure Code, 1908 Section 96, Specific Relief Act, 1963 Section 22(2)
Somnath Kharbanda v. Arvinder Kaur, (Delhi) : Law Finder Doc Id # 3003881
