Forfeiture Of Earnest Money Requires Proof Of Loss If Contract Is Concluded; Defendant's Own Actions Contributed To Breach: Kerala High Court - 2025-08-19

Kerala High Court Upholds Refund of Earnest Money, Cites Airport's Unilateral Change in Tender Conditions

Ernakulam, Kerala - In a significant ruling on contract law, the Kerala High Court has dismissed an appeal by the Cochin International Airport Ltd. (CIAL), upholding a trial court's decision to refund ₹5,00,000 in earnest money to a contractor. The court, presided over by Justice C. Pratheep Kumar, held that CIAL could not forfeit the deposit as it failed to prove any actual loss and had itself contributed to the contract's non-performance by unilaterally imposing a new, onerous penalty clause after the tender was awarded.

The judgment underscores the principle that when a contract is concluded, forfeiture of an earnest money deposit under Section 74 of the Indian Contract Act is contingent upon proving actual loss or damage resulting from the breach.

Brief Overview of the Case

The dispute arose after Mr. Abraham K. George, the successful bidder for a three-year contract to manage the car park at Cochin Airport, withdrew from the agreement. He had deposited ₹5,00,000 as Earnest Money Deposit (EMD).

CIAL awarded the contract to Mr. George via a letter dated March 19, 2003. However, this letter introduced a new condition not present in the original tender notice: a penalty of ₹1,00,000 per month for the remaining contract period if he relinquished the contract within the first two years. Mr. George initially accepted the award but later withdrew, stating his bank refused to finance the required ₹90.18 lakh security deposit specifically because of this new, high-risk penalty clause. In response, CIAL deleted the clause and extended the deadline, but Mr. George did not proceed. CIAL then forfeited his EMD, claiming he had breached the contract.

The Additional Sub Court, North Paravur, initially ruled in favor of Mr. George, directing a full refund. CIAL challenged this decision in the present appeal.

Summary of Arguments

CIAL's Position (Appellant): -

CIAL argued that the plaintiff, Mr. George, committed the breach by failing to deposit the security amount. -

They contended that Clause 21 of the tender notification gave them the right to "stipulate additional conditions." -

CIAL claimed that once Mr. George accepted the award letter (which contained the new clause), a concluded contract was formed, and his subsequent withdrawal was a breach, justifying the forfeiture of the earnest money. -

They further argued that they had acted in good faith by removing the contentious clause after Mr. George raised objections.

Mr. George's Position (Respondent): -

The respondent maintained that the contract failed because CIAL unilaterally altered the terms by adding a burdensome penalty clause after the tender process. -

He argued that this new condition was the direct cause of his bank's refusal to provide financing, making it impossible for him to fulfill his obligations. -

Crucially, his counsel asserted that CIAL had not presented any evidence to prove it suffered any financial loss or damage due to his withdrawal, which is a prerequisite for forfeiture under Section 74 of the Contract Act.

Court's Analysis and Legal Precedents

Justice Kumar systematically analyzed the core legal issues: whether a concluded contract existed, who was responsible for the breach, and the legality of the forfeiture.

1. Existence of a Concluded Contract: The court found that a concluded contract did exist. When Mr. George sent his acceptance letter (Ext. A3) on March 29, 2003, the acceptance was complete as against him. His subsequent attempt to revoke this acceptance on April 16, 2003, was deemed ineffective under Section 5 of the Indian Contract Act, as the acceptance had already been communicated.

2. Breach of Contract and Culpability: The court placed partial responsibility for the contract's failure on CIAL. It accepted the plaintiff's testimony that his bank withdrew its financial support due to the newly introduced penalty clause. The judgment noted:

"Therefore, I do not find any grounds to disbelieve the evidence of PW1 that it was because of the additional penalty clause imposed by the defendant, the Bank refused to advance the loan to him. It was in the above context the plaintiff had withdrawn from the contract and as such the entire blame could not be put on the shoulders of the plaintiff... In other words, the defendant also had some contribution in the non-performance of the contract."

3. Forfeiture and Proof of Loss: This was the central issue. Since a concluded contract existed, the court held that the principles of Section 74 of the Contract Act were applicable. Citing the Supreme Court's landmark decision in Kailash Nath Associates v. Delhi Development Authority , the High Court reiterated a key principle:

"Since Section 74 awards reasonable compensation for damage or loss caused by a breach of contract, damage or loss caused is a sine qua non for the applicability of the Section."

The court observed that CIAL, despite claiming it suffered losses from re-tendering and making interim arrangements, failed to produce any documentary evidence to substantiate this claim. DW1, the defendant's witness, could not even state whether the re-tendered amount was lower than what Mr. George had offered. This failure to prove actual loss was fatal to CIAL's case for forfeiture.

Final Decision and Implications

The High Court dismissed CIAL's appeal, affirming the trial court's order for a full refund of the ₹5,00,000 earnest money with 6% annual interest.

The judgment serves as a strong reminder that parties, especially public bodies, cannot arbitrarily forfeit earnest money deposits. While EMDs are meant to guarantee performance, their forfeiture in a concluded contract is not automatic. The party claiming forfeiture must demonstrate that it has suffered a genuine loss due to the breach, and the amount retained must be a reasonable compensation for that loss. Simply having a forfeiture clause in the contract is not sufficient if no actual damage can be proven.