This article is written by Shivalika Misra, pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from Lawsikho.

Escrow agreement

An escrow agreement is a legal document that defines the terms and conditions between parties to the agreement and responsibilities of each party. The Escrow Agreement is a financial agreement in which a third party holds the payment of a transaction between two parties. In an Escrow agreement there is generally an involvement of an independent third party, called an Escrow Agent, who holds a valuable asset until the specified conditions of the agreement are fulfilled. An escrow agreement generally includes, but is not limited to, information and details about the escrow agent’s identity, the funds in the escrow account, and the acceptable use of funds by the escrow agent. Escrow agents can be an individual, two or more individuals acting jointly, a company, a firm, or an institution, a professional firm, and an institution (e.g. bank). Anything that has value can be put in escrow such as stock, money, deed, written instrument, mortgage, promise to pay, bond, license, patent, check, source code, object code, program, etc.

In an escrow agreement, a party usually a depositor deposits the funds or assets with the escrow agent until the time the agreement is fulfilled. Once the contractual conditions are fulfilled, the escrow agent then will deliver the funds or the assets to the beneficiary under the agreement. Now let’s take a look at various types of Escrow Agreements.

Types of escrow agreements

There are various kinds of Escrow Agreements which are a secure mode of financial transactions. 

• Internet Escrow Agreement

Internet escrow agreement is the most fundamental one. Internet Escrow allows the deposit of money with an independent licensed third party to safeguards the financial transaction between buyer and seller.

• Software Escrow Agreement

In a software escrow agreement, an escrow agent is involved who protects the source code, object code or program of the developer until the terms and conditions of the agreement are fulfilled. 

• Real Estate Escrow Agreement

In real estate transactions, escrow payments are mostly made due to a considerable amount of payment. In real estate transactions, the buyer gives money checks to the escrow to show the reliability and willingness to buy the properties. The real estate escrow agreements are used for lawyers, title agents and notaries.

• Intellectual Property Escrow Agreement

Source code escrow agent holds source code or object code of software. Escrow agents hold escrow intellectual property and other important information and documents which include song lyrics, music, designs, and software code of an application and so on. 

• Legal Escrow Agreements

In legal escrow agreements, the defendant deposits money with the escrow fund and then the fund distributes the money as per the settlement between the parties.

• Banking Escrow Agreement

In the banking world, Escrow is used for preserving automatic banking and vending equipment like Automated Teller Machine (ATM). The money is deposited in the ATM before execution of transfer of money between the customer and the bank.

• Mergers and Acquisitions Escrow Agreements

Escrow agreements are also used in schemes of arrangements to secure indemnities and warranties provided by sellers due to high credit risk on the seller to be able to recover the money. 

• Securities Industries Escrow Agreements

Escrow Agreements are also famous in securities markets under public offerings and stock plans and depositories to secure the deposit amount and allotment money of the investor.

• Businesses Escrow Agreements

In order to secure financial transactions, escrow agreements are commonly used in businesses during various financial transactions.

• Gambling Escrow Agreements

Escrow Agreements are used in the gambling transactions where an independent third party becomes a stakeholder who holds money until the final event takes place and then the third party distributes the funds accordingly.

After looking at the types of escrow agreements, we can distribute them under the following two heads namely, financial transaction and source code. All the other types of escrow agreements except software escrow agreement and intellectual property escrow agreement will come under financial transaction as in these escrow agreements money is held by the escrow agent. Software escrow agreement and intellectual property escrow agreement will come under source code as in these escrow agreements source code, object code or program is held and protected by the escrow agent.

Escrow agreement for sales of goods v. escrow agreement for source code

Escrow agreement for sales of goods is an agreement where all the parties to the agreement namely buyer and seller are protected by involving an independent third party as escrow agent who is responsible for the financial transactions between the buyer and the seller whereas, Escrow Agreement for source code also known as software escrow agreement is an agreement that helps to protect all the parties namely the developer and the client by involving an independent third party as escrow agent who is responsible for holding source code of the program or application, data, and documentation until the terms and conditions of the contract are fulfilled.

In an escrow agreement for sales of goods, an escrow agent is involved to take care of the money provided by the buyer related to the goods whereas in escrow agreement for source code or object code, an escrow agent is hired to hold and take care of the source code or object code provided by the developer. 

In an escrow agreement for sales of goods, an intellectual property rights clause is not necessary whereas it is an extremely important clause in escrow agreement for source code as it establishes the legal ownership rights with respect to the source code, object code or software program.

Escrow agreement for sales of goods is a part of sale of goods agreement whereas escrow agreement for source code is a part of master service agreement or license agreement.

In escrow agreement for sales of goods, the ownership rights of the goods are transferred from seller to buyer whereas in escrow agreement for source code, only the license to use the source code is transferred from the developer to the licensee or client and not the ownership rights of the source code. 

Let’s take an example to understand the difference between escrow agreement for sales of goods and escrow agreement for source code.

Escrow agreement for sales of goods- “Amirbaani Private Limited” is a company which deals in buying and selling of properties in Ludhiyana, India. The company wanted to sell a property situated in Haibowal, Ludhiyana to “Shriram Builders”. In order to protect the financial transaction between the seller and the buyer, an escrow agent is hired to whom the payment with respect to the property will be deposited. When the terms and conditions of the agreement is fulfilled, then the escrow agent will give money to the seller of the property and the title deed, interest in title and other documents related to property will be transferred to the buyer of the property.

Escrow agreement for source code- “Charmine Private Limited” is a fashion company based out of Lucknow, India. The company is looking to launch an application that allows users to upload their pictures and try the outfit virtually. They hire “Sam Private Limited”, a technology based company for the creation of the program their application would be based on. In order to protect the source code, an escrow agent is hired to whom the source code and the documentation will be deposited. When all the release conditions are fulfilled and the terms and conditions of the agreement are met, then the escrow agent will grant license of the source code to the licensee or client.

Conclusion

Escrow agreements ensure protection of both the parties to the agreement. The escrow agent protects both buyers and sellers in case of escrow agreement for sales of goods and developer and client in case of escrow agreements for source code from potential defaults or fraud. In particular, escrow agreements ensure that buyer or client does not bear the risk as they bear in open trade. 

Escrow agreements are provided by independent escrow service providers whose trustworthiness must be examined before carefully. The escrow agent is responsible for holding and releasing of funds in case of escrow agreement for sales of goods and holding and releasing of source code and/or object code in case of escrow agreements for source code. The responsibility of the escrow agent is large and indeed a noteworthy risk to both the parties to the agreement. Parties should conduct proper due diligence into escrow services to eliminate the risk of fraud.

In drafting an escrow agreement, release conditions are considered as important as escrow materials. The release of the conditions entitles the client or buyer to receive the escrow materials. Therefore, the escrow agreement should be drafted carefully.

Escrow agreements are widely used to balance the divergent interest of the parties to the agreement and allow them to do business together.

References

• https://www.escrowtech.com/software-escrow.php#typesOfEscrow
• https://www.contractstandards.com/public/clauses/source-code-escrow
• https://corporatefinanceinstitute.com/resources/knowledge/deals/escrow-agreement/

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