Civil Law and Land Titles and Deeds › Special Contracts › Sales › Nature and Form

d. Earnest Money

OPTION MONEY vis-à-vis EARNEST MONEY

In the law of contracts, option money and earnest money are two different concepts that refer to distinct types of payments made by a party in a contractual relationship.

Option money is a payment made by a party in exchange for the exclusive right to purchase a property or asset at a later date. Essentially, option money is a payment made by a prospective buyer to a seller for the option to buy a property or asset within a specified period. The payment of option money is made to ensure that the seller does not entertain offers from other buyers during the option period. In the event that the prospective buyer does not exercise their option to purchase the property or asset, the option money is typically forfeited to the seller.

On the other hand, earnest money is a payment made by a buyer to a seller to demonstrate their seriousness or "good faith" in completing the transaction. Under Article 1482 of the Civil Code, earnest money forms part of the price and is proof of a perfected sale. If the sale does not proceed, whether it must be returned depends on the parties’ agreement and circumstances; return may be denied when inequitable.

Updated: Earnest money is not automatically refundable when a sale does not close; return may be denied where it would be inequitable. Racelis v. Spouses Javier, G.R. No. 189609, 29 January 2018.

Earnest money or “arras”

This is the money given to the seller by the prospective buyer to show that the latter is truly interested in buying the property, and its aim is to bind the bargain. It is actually a partial payment of the purchase price and is considered as proof of the perfection of the contract.

NOTE: Option money may become earnest money if the parties agree.

Significance of giving an earnest money

It is considered as:

  • Part of the purchase price – earnest money is deducted from the total price; and
  • Proof of perfection of the contract. (NCC, Art. 1482)

Option money v. Earnest money

BASIS OPTION MONEY EARNEST MONEY
As to Money Given Money given as distinct consideration for an option contract. Forms part of the purchase price.
As to Perfection Applies to a sale not yet perfected. Given only when there is already a sale.
Obligation of the buyer upon payment of consideration Prospective buyer is not required to buy When given, the buyer is bound to pay the balance
As to Recovery If the prospective buyer does not exercise the option, option money is generally not recoverable, unless the parties agreed otherwise or the circumstances warrant its return. If the sale does not proceed, return of earnest money depends on the parties’ agreement and circumstances; return may be denied when inequitable. (Villanueva, 2014; Pineda, 2010)
As to Transfer of Ownership Payment of option money does not transfer ownership. If the option is exercised, transfer of ownership is governed by the resulting sale and its terms. Title passes to the buyer upon delivery of the thing sold.
Effect of Nonpayment The prospective buyer generally has no obligation to buy; remedies depend on a breach of the option agreement. For a perfected sale, nonpayment of the price may give rise to remedies under the Civil Code, subject to applicable requirements.

Updated: Earnest money need not be returned when repayment would be inequitable under the circumstances (Racelis v. Spouses Javier, G.R. No. 189609, 29 January 2018).

Authorities

  • Civil Code, Art. 1482
  • Pineda
  • Villanueva