What is earnest money?
Earnest money (foglaló) is a security for performance of the contract, expressly regulated by the Hungarian Civil Code. Its essence is that it encourages both parties to perform, because failure has financial consequences:
- if the contract fails for a reason for which the party who gave the earnest money (usually the buyer) is responsible, they lose it;
- if it fails for a reason for which the party who received it (usually the seller) is responsible, they must repay double the amount;
- if neither party, or both parties, are responsible for the failure, the earnest money is returned.
If the contract is performed, the earnest money is credited against the purchase price.
What is an advance payment?
An advance payment (előleg) is simply part of the purchase price paid in advance. It has no security function: if the contract fails, the advance is, as a rule, returned regardless of who was responsible. The party responsible for the failure may still owe damages, but this has to be proved and claimed separately.
The difference in an example
| Situation | Earnest money (HUF 5 million) | Advance payment (HUF 5 million) |
|---|---|---|
| Performance fails for a reason within the buyer's responsibility | The buyer loses the HUF 5 million | The advance must be accounted for; the seller may have a separate claim |
| Performance fails for a reason within the seller's responsibility | The seller repays HUF 10 million | The seller repays the HUF 5 million advance; further claims are possible |
| The bank refuses the buyer's loan, and performance fails as a result | Decided by the contract and who bears the risk; not automatically returned | The advance must be accounted for; a separate damages claim may also arise |
What to watch for in the contract
Clear wording
The label given to the amount is not decisive in itself. The contract must make it clear that the money is paid to reinforce the commitment. Without this, the rules on losing or repaying double the earnest money cannot be applied.
The amount
The parties are free to set the amount of earnest money; in practice it is typically around 10% of the purchase price. The 10% is not a statutory requirement. If the earnest money is excessive, the court may reduce it at the request of the obligor.
The financing condition
If the buyer is purchasing with a loan, it is worth stating in the contract what happens to the earnest money if the loan application is rejected through no fault of the buyer. A refused loan does not in itself release the buyer from responsibility: the financing risk is best addressed expressly in the contract.
Combining the two
The two can be combined: part of the amount paid on signing can be earnest money, while later instalments can be advance payments or instalments of the purchase price. The key is that the contract makes the legal nature of every payment clear.
Losing or repaying double the earnest money does not automatically give a right to withdraw from the contract. Further claims for a contractual penalty or damages may also arise, but these are reduced by the amount of the earnest money. When an advance payment is returned, set-off and other accounting issues may also arise.
In summary
Earnest money is a strong security for both parties, but it only works if it is worded precisely. In a property transaction, the contract should therefore be drafted so that it also answers in advance what happens if the deal falls through.
Legal backgroundCivil Code Sections 6:140–6:142, 6:185 and 6:212–6:213.
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