Blue Sky Spring 2020

LEGAL
Should I sign
an Earnest Money
Agreement?
by Inmaculada Domecq
When buying a property, it is common practice to sign an Earnest Money Agreement
(EMA). But this is not the only way, or necessarily the most appropriate one, to secure
the transaction in some cases.
Under an EMA the parties can desist of their respective
obligations by bearing a penalty. The seller can withdraw
its obligation to sell, and the buyer its obligation to buy,
by the former being obliged to reimburse double the
money received, and the latter by losing the moneys
already paid upon signing the EMA. These EMA are
aimed at enabling the parties (both) to withdraw from
the contract, so an EMA, although commonly used, is not
the best option to secure the purchase of a property.
The signing of a Confirmatory Deposit Agreement (CDA)
is a more adequate agreement to sign if the aim is to
secure the deal. Under this contract, the buyer makes a
payment to the seller in advance and on account of the
purchase price agreed. In the event the purchase
agreement is not executed in due course, the affected
party will be entitled to either i) demand the execution
of the purchase or ii) rescind the agreement reached
and demand an indemnity.
There is a third alternative to reserve the purchase of a
property by signing a Call Option Agreement (COA).
Under this agreement, the buyer acquires the right to
execute the purchase of a property in accordance with
the terms and conditions agreed, paying in consideration
for this right, a premium. This agreement is mandatory
for the seller (who will be bound to sell) and optional for
the buyer, who will lose the premium paid if he/she
decides not to purchase the property.
The taxation involved may be different depending on
the alternative chosen by the parties. In the case of an
EMA, providing the sale is subject to VAT, the buyer will
pay the money agreed plus VAT, since these amounts
are deemed an advance payment. However, if the sale
of the property falls under the scope of the Transfer Tax,
the payment of these moneys is not subject to Transfer
Tax at that stage, since Transfer Tax will be payable upon
the execution of the public title deed.
Whereas a Call Option Agreement option is signed, and the
grantor/seller is a VAT taxpayer, the buyer will have to pay
the premium agreed plus VAT. In this case, the amounts
paid are in exchange for the acquisition of a right to buy. It
is important to expressly agree that the premium paid will
be deducted from the purchase price upon execution of
the public deed in order to avoid the payment of the VAT
over the premium paid twice. If nothing is stated regarding
this deduction, VAT will apply on the purchase price agreed,
regardless of the fact that VAT was paid on the premium.
Furthermore, if the Call Option Agreement is executed
in a public title deed, Stamp Duty tax will be payable
by the buyer since a right to buy a real estate property
is a registerable document in the Property Register.
In cases where the sale is subject to Transfer Tax, the
Call Option Agreement will also be subject to Transfer
Tax. The taxable base will be the premium agreed
among the parties, unless this amount is below 5% of
the purchase price agreed. The subsequent execution of
the purchase agreement is treated as an independent
transaction for the purpose of the Transfer Tax. Thus,
even in cases where the parties agree to discount the
premium paid from the purchase price payable, the
Transfer Tax upon execution of the sale will be
determined based on the full purchase price agreed.
It is therefore important to carefully consider which of
the existing alternatives better suits your interests before
entering into any kind of Sale and Purchase Agreements.
Inmaculada Domecq is a qualified Spanish lawyer and a
director of tax at UHY Fay & Co
UHY Fay & Co is a multidisciplinary firm of professional
services specialized in legal, tax and labour advisory, audit,
accounting and consultancy to deliver tailor-made integral
services of the highest quality to our clients.
www.uhy-fay.com Tel: +34 952 76 40 65