What is a deposit bond?

A deposit bond is an alternative way of paying a deposit when you purchase a property and usually costs around 1% of the purchase price. It is a document which guarantees payment of the 10% deposit on settlement or default giving the vendor security. No cash is provided by the purchaser on exchange, rather the full purchase price is paid at settlement. If circumstances arise where the deposit would be forfeited, the insurance company pays the deposit to the vendor and then seeks payment from the purchaser for the amount paid.

It is important to understand that a deposit bond does not mean the insurance company pays the deposit if it is forfeited, it simply guarantees payment to the vendor. The purchaser will then need to pay the deposit back to the insurance company. The purchaser is still liable for all other costs under the contract due to their default.

Why use a deposit bond?

Deposit bonds can be useful in a number of circumstances:

  • If a purchaser is waiting for funds to come from another source, for example the sale of another property, and does not want bridging finance:
  • If a purchaser's equity is in their home rather than liquid assets;
  • If a purchaser is intending to bid at auctions;
  • If a purchaser is buying off the plan as settlement is often years after exchange; and
  • If a purchaser has the funds that would otherwise be the deposit invested and does not want to take them out of the investment until settlement. It is worth noting that cash deposits can be invested by the depositholder if mutually agreed by the purchaser and vendor, although that will be at bank interest rates.

Downfalls of deposit bonds

Deposit bonds have expiry dates which you must be aware of. They usually expire on the earlier of settlement, rescission or the set expiry date. The premium paid for the deposit bond is not refundable if the deposit bond is not used.

The vendor may be reluctant to accept a deposit bond if they want the deposit to be released early to enable them to purchase another property. Purchasers should always seek the vendor's permission to use a deposit bond to ensure there are no surprises or issues at exchange.

Some agents will be reluctant to allow offers from purchasers with deposit bonds as their commissions are often taken from the deposit prior to its release to the vendor. A deposit bond will mean they may be chasing their commission from the vendor after settlement.

Conclusion

Deposit bonds can be very useful when purchasing a property, however it is important you seek the vendor's consent and are aware of the cost and expiry date of the deposit bond.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.