By Robert S. Kutner, Esq. Partner, Casner & Edwards
One of the most common issues facing real estate brokers is what to do with escrowed funds when a sale is not completed and both the buyer and seller claim the funds. Fortunately, in 2000 the Massachusetts Association of REALTORS® was able to have a law enacted that provides substantial protection.
The law, which my law firm drafted at the request of MAR, bars claims against escrow agents in disputes between buyers and sellers provided that the real estate agreement (Offer or P&S) authorizes the escrow agent to continue to hold funds in the event of a dispute. Only if the agent violates the instructions of the parties may the escrow agent be sued.
The law, Chapter 184, Section 17A, is set forth at the end of this article. It has slowed disgruntled buyers and sellers who otherwise would have sent claim letters to the escrow agent, threatening to sue unless the deposit was
immediately paid to them. Worse yet, some buyers and sellers would have jumped the gun by filing a complaint with the real estate licensing board
or a lawsuit in court, naming the escrow agent as a defendant, in the hope of coercing a payment. Even if the complaint lacked merit, the escrow agent would have been forced to hire an attorney and incur the expense and aggravation to defend the claim. The amendment to Section 17A also provides guidance to brokers acting as escrow agents.
When faced with a deposit dispute, it may be helpful to review some of the steps that are recommended.
1. Review Regulations Governing Escrow Agents
Your first step in a deposit dispute is to review your duties as an escrow agent. There are two primary sources. A broker holding funds in escrow is
obligated to discharge the broker’s duties in accordance with both Massachusetts license laws and regulations and the instructions of the parties. A broker who violates the escrow agreement may be sued for:
breaching contractual duties; breaching fiduciary duties as escrow agent; converting the funds to his own use; and violating the Massachusetts
Consumer Protection Act, Chapter 93A.
The licensing regulations governing escrow accounts,continued from page 10 254 CMR 3.00(10), provide:
(a) Escrow Accounts. All money shall be immediately deposited in a bank escrow account and the broker shall be responsible for such money until the transaction is either consummated or terminated, at which time an account and distribution of such money shall be made. The account must be established, so that it is beyond the reach of creditors of the escrow agent. Merely labeling one of the broker’s accounts as “escrow” is insufficient. The bank must establish it as an “escrow” account. The account may or may not bear interest, but if it is interest bearing, the broker must make a proper account of such interest when funds are distributed.
(b) Record Keeping. Every broker shall keep a record of funds deposited in his/her escrow accounts, which shall indicate the date and from whom the
broker received the money; the deposit date; the source of the money and check number; the date of withdrawal with the name of the person receiving such withdrawal; information about the transaction; and to whom the money belongs. Every broker shall also keep a copy of each check deposited into and withdrawn from the escrow account for a period of three years from the date of issuance. All such funds and records shall be subject to inspection by the real estate board.
(c) Salespersons Prohibited from Holding Funds. A real estate salesperson or broker engaged by another broker shall immediately turn over all deposit
money or other money received to the employing broker. No salesperson shall at any time hold client funds.
2. Review Escrow Instructions
The terms of the escrow agreement are usually part of the accepted Offer or P&S. Those terms establish when and to whom the escrow agent
must distribute funds. Special provisions can be included in the P&S concerning the duties of the escrow agent in the event of a dispute. It is legally permissible for the buyer and seller to agree in advance that, in the
event of a dispute, the broker is authorized to hold the deposit until the
buyer and seller agree or until a court determines to whom it should be paid. It is highly recommended that such language be included in all agreements. If such language is included, the broker will not have to determine who is entitled to the funds, thereby avoiding the risk of paying one party and being sued by the other.
3. Try to Negotiate a Resolution
When a dispute occurs, try to get out from the middle by suggesting that the parties agree to allow someone else to hold the deposit. The longer you hold the deposit, the more likely you will become a target to be added to a
lawsuit between buyer and seller and the more paperwork you will have each year, accounting for interest payments. One approach that often works is to suggest that the money be transferred to the escrow account of one of the parties’ attorneys. If they do not have attorneys, suggest that a joint
escrow account be established in their names and that both signatures be required for withdrawals.
Be aware that some P&S agreements give the broker the right to a portion of funds paid to the seller upon the buyer’s default. If you want to preserve
your claim, expressly reserve it if you turn over the funds to another person before resolution. Some shrewd buyers and sellers will settle their dispute by an agreement that the full deposit be returned to the buyer, but that the buyer will then make a separate payment to the seller in settlement. In this way they will try to cut out the broker. If the sole purpose of the arrangement is to cut out the broker, you can challenge the arrangement.
4. Encourage the Buyer and Seller to Negotiate a Settlement
If the parties can settle the matter by compromising, everyone can move on to more productive activities. An argument that may be persuasive in producing a settlement is for the broker to raise the possibility of filing an “interpleader” lawsuit, asking a court to decide the controversy. In such a lawsuit the broker will be the plaintiff and both the buyer and seller will be
named as defendants. The buyer and seller will each have to retain an attorney and incur expenses. In order to avoid such expenses,the parties may settle.
Filing an interpleader lawsuit is generally not recommended, since it may cost the broker $1,000 to $1,500 for an attorney, plus several hundred dollars in filing fees and for the deputy sheriff to serve each of the parties.
To protect against this cost, it may be wise to include language in the
P&S authorizing you, as escrow agent, to recover your court costs and attorneys’ fees from the escrowed funds in the event that you file an interpleader action orare made a party to any lawsuit in your capacity as repository for escrowed funds.
5. Don’t Distribute Funds Absent an Agreement
If the parties have been unable to settle and you are still holding funds, you are better off holding the funds until the parties reach agreement or a
lawsuit is filed. In a lawsuit the escrow agent or any party may file a motion and escrowed funds may be paid to the court clerk until resolution. Only in rare circumstances should the escrow agent make a decision that one
party is entitled to the funds, despite objections by the other. If there has been a clear default and the agreement provides that the seller is entitled to the deposit as “liquidated damages,” the seller may have a valid claim. The
term “liquidated damages” means that the parties agree when they signed the Offer or P&S that the amount of the deposit fairly represents the
damage likely to be suffered by the seller upon default by the buyer. If a transaction fails after the signing of an Offer or P&S, but the agreement
does not contain a liquidated damage agreement, the seller is not automatically entitled to the deposit. The seller must sue and prove damages in court.
If your investigation reveals who is clearly entitled to those funds with certainty, then you may turn over those funds to the rightful party. Be very
careful before doing so. Even if you have made a determination in good faith concerning who is entitled to the funds, you may be subject to being sued by the other party.
6. Obtain a Waiver or Indemnification
There are three things you can do to reduce that risk: (1) include a provision in the P&S that states that “no party may assert a claim against the escrow agent who has accounted for or remitted the deposit in good faith, but the
sole remedy shall be against the party to whom the deposit was paid;” (2) request that the party to whom the deposit is paid agree to “indemnify, defend, and hold the broker harmless from any claim or loss which may be asserted with regard to the deposit;” or, (3) file an “interpleader” lawsuit, asking the court to determine what should be done with the money.
An escrow agent does not have the absolute right to obtain an indemnification agreement from the buyer and seller before releasing funds. If the buyer and seller have given the escrow agent mutual instructions concerning distribution of funds, but either declines to sign a provision
indemnifying the escrow agent/broker, the broker cannot continue to hold the funds. The funds must be distributed as instructed.
By including language satisfying the statute in the P&S, the broker gains substantial protection. Standard forms available from MAR contain
such language. Should a claim be received, merely bringing this law to the attention of the buyer and seller will cause them to withdraw most claims.
The 2000 amendment to Chapter 184, Section 17A provides:
If an individual, firm, or corporation holds funds entrusted to him pursuant to a written agreement for the sale of real property and the written agreement expressly authorizes the individual, firm, or corporation, as escrow agent, to continue to hold the funds in the event of a dispute between the buyer and seller concerning entitlement to the funds, no claim shall be maintained against the individual, firm, or corporation, as escrow agent, whether as trustee, stakeholder, or otherwise, if the escrow agent has complied with the mutual written instructions of the buyer and seller, if any, and any order or judgment of a court or final decision of an arbitrator with regard to accounting for or disbursing the funds. In an action commenced with regard to entitlement to such escrowed funds, a party to the action may file a motion seeking an order to have the funds paid into court by the escrow agent. Written notice of the motion shall be given by the moving party to all other parties and to the escrow agent. The escrow agent shall pay the funds into court within 10 days of receipt of such order or within such other time as provided by the court.