Penitential earnest money for breach of contract is taxed in the general Personal Income Tax (IRPF) base

The tax treatment of amounts received when a buyer breaches an earnest money agreement (arras) has raised doubts regarding their correct integration into the Personal Income Tax (IRPF) tax base. The nature of this income determines whether it should be taxed as general income or as a capital gain derived from the transfer of assets.

What the DGT has ruled

The Dirección General de Tributos (DGT) has determined that amounts received as penitential earnest money due to the buyer's breach do not have the nature of a capital gain. Since there is no effective transfer of the asset at that moment, this income must be integrated into the taxpayer's general tax base.

Conversely, the gain or loss derived from the effective transfer of the property—which will occur later when the sale is formalized—will be calculated as the difference between the acquisition and transfer values. This second concept will indeed be integrated into the savings tax base in the tax period in which the change in assets occurs.

What this means for you

If you are a property owner and receive compensation for the termination of an earnest money contract due to the buyer's breach, you must take into account that:

• The amount of the earnest money is not added to the profit from the final sale of the property to calculate the capital gain.
• The earnest money is taxed at the rates applicable to general income, which are usually higher than those of the savings base.
• It is not possible to jointly attribute the income from the earnest money with the gain derived from the definitive sale of the asset.

What you should do

It is necessary to precisely distinguish the moment when the amounts for breach are received from the moment when the transfer of the property occurs. Since both concepts are taxed in different bases, correct classification in the tax return is fundamental to avoid errors in the tax settlement. It is recommended to assess each contractual situation to ensure that the nature of the declared income matches the criteria of the Tax Administration.