Why you should know the difference between an advance and a down payment
Many freelancers warn their younger colleagues about dishonest contractors. Vendors often establishing relationships with new customers are looking for ways to protect themselves from sending high-value goods to untested parties. On the other hand, owners of popular accommodations or banquet halls use an advance or down payment to offset the risk of incurring losses by a customer cancelling an overnight stay or party “at the last minute.”
So what are these forms of collateral? In financial terminology, there are few terms that are confused with each other as often as advance and down payment. Although the apparent difference between an advance and a down payment is not great, confusing one with the other can carry unpleasant financial consequences. It’s time to dispel doubts once and for all!
Down payment vs. deposit
Both the deposit and advance share the same purpose – they provide additional security for the service provider or seller. Receiving part of the payment before work begins is a sign of trust, but also a kind of commitment on the part of the buyer – this indicates that his intention is to bring the deal to a happy conclusion.
If the transaction goes smoothly, no practical differences dividing the deposit and down payment will become apparent. Only when one of the counterparties backs out or the exchange fails for some other reason will the form of financial security chosen at the outset matter.
Advance payment – what is it?
An advance payment is a certain portion of the amount due for a service or goods. The buyer makes an advance payment to the seller’s (contractor’s) account even before the transaction (delivery of goods or performance of services). An advance payment is an unregulated form (unlike a down payment), which means that in disputed situations (for example, when the customer requires the return of an advance payment), the parties will settle the matter based on the provisions of the law on advance payments. reciprocal agreements (specifically Art. 410 § 2 of the Civil Code.
EXAMPLE 1
Mr. Christopher and his family booked a week’s stay in an apartment in the Mazury region. The owner of the guesthouse asked for a down payment of 25% of the total amount.
Option A: Mr. Christopher arrives on the agreed date and pays the remaining 75% of the amount on the spot. The transaction thus proceeded as planned.
Option B: A few days before his arrival, Mr. Christopher learns that he will not be able to use the reservation he purchased, due to fortuitous reasons. So he reports the situation to the owner of the guesthouse and asks for a refund of the advance, which is due to him regardless of the reasons.
In this situation, the owner of the guesthouse seems to be the aggrieved party – after all, she has prepared a place for guests, blocked the reservation, and probably won’t manage to find anyone willing to stay in the apartment that has just become vacant. In a nutshell, this means that the down payment will be a more attractive form of security for the buyer – even if the deal doesn’t go through, he will get his money back.
However, this does not mean that the contractor is left alone. What if he has already started working on an assignment for a client and if the client cancels, he will lose not only the potential profit, but also the money already spent on materials and the time spent on the work?
EXAMPLE 2
The handicraft workshop accepted an order to make a unique frame for a painting – both its shape and dimensions were precisely specified by the client. During the course of the work, however, the contractor unexpectedly backed out, leaving the artist with a half-finished product. The ordering party then asked for a refund of the advance payment of PLN 700.
In response, the contractor submitted a deduction statement showing that it had already incurred costs amounting to PLN 2,000. As a result, not only does he not have to return the advance, but he can also claim compensation in the amount of PLN 1,300. However, the case may end up in court, in which case it will be up to the contractor to prove losses.
Down payment – definition
The deposit is also a form of security for the transaction, but is characterized by more precisely defined provisions for disputed situations (it applies here Art. 394 Civil Code). Let’s return for a moment to the example discussed earlier, but this time look at the circumstances from the opposite perspective.
EXAMPLE 3
The owner of the aforementioned guesthouse – Ms. Paulina – wanting to more effectively protect herself in case of sudden cancellation of the reservation, asked subsequent customers to pay a deposit of 25% of the price of the stay.
Option A: in which customers use reservations, proceeds identically to the previous example, so we will not discuss it a second time. It gets more interesting in other cases.
Option B: Ms. Paulina received a deposit, but on the eve of the expected arrival date, the guests informed her that they could not come to the site.
In this situation, the owner of the guesthouse can submit to the would-be guests a declaration of withdrawal from the contract – this entitles her to keep the deposit. As a result, he would not have suffered a total loss (the room would certainly have been rented by someone else had it not been booked in advance), but only a partial loss. Those responsible for non-performance of the contract in this situation were the ordering party.
Option C: Two college friends plan to go on a long weekend in the Mazury region. They booked a room for four nights, paid a deposit amounting to ⅓ of the total stay. Just as they are getting ready to leave, they receive information that their reservation will not be fulfilled – the owner of the guesthouse has to leave urgently, and she runs the business alone.
Under such circumstances, bookers may demand a refund of twice the deposit. In order to do so, it will be necessary to submit a declaration of withdrawal. Exactly the same as in option B – this duty belongs to the party who wants to receive a refund.
The contractor was responsible for non-performance in this situation.
Option D/E: Circumstances in which the contract is not fulfilled, for example, due to a tragic accident or a fortuitous event that prevents the completion of the transaction, are considered differently in the context of the return of the down payment. We are talking about a situation in which the result was the same as in option C (the reservation was not realized), but the reasons for this were beyond the control of either the contractor or the ordering party. In such a situation, the deposit is refunded, but there is no obligation to double the refunded amount.
The same treatment is given to the situation in which both parties terminate the contract (for example, by agreement) – then the return of the full amount of the deposit is also sufficient.
Withdrawal from the contract
You no longer have to wonder whether the advance is refundable or whether the deposit is refundable – refundable applies to both, but the advance has the advantage of not requiring any additional documents to do so.
In order for the return of the deposit (in the case of the buyer) or the retention of the deposit (if the seller seeks it) to take place, the party concerned should provide the contractor with a statement of withdrawal, for example, in writing. Withdrawal from the contract does not require the use of any special formula, a single sentence is entirely sufficient:
I declare that, in accordance with Article 394 § 2 of the Civil Code, I withdraw from the contract [contract number] concluded with [contract date] for the purchase of goods/provision of services [brief description of the item or service] due to [indication of the reason].
The document should, of course, be signed and dated. To be sure, you can include in the statement that you want to keep the deposit or receive a refund.
We hope that with this short guide, distinguishing between a down payment and an advance payment will not be a major problem, which will help to avoid unclear situations in the future and better prepare for an unfinished transaction.
