Real estate investors want sales purchase contracts that make sure they are investing in a profitable real estate investment. The real estate purchase contract should protect the buyer against unknown risks and traps, and it should provide the buyer with the maximum amount of flexibility and time. Flexibility includes options for the buyer to fully inspect the property, satisfy any conditions which could affect his use of the property, and obtain the best financing. The contract to purchase needs to protect the buyer against liability for expenses and impediments upon the buyer’s use of the property for his intended purpose.
Here are some “killer clauses” that which the most experienced real estate investors may want to insert in their contracts to buy investment property.
Due Diligence
The Buyer will usually have contingencies in the purchase contract which will provide the Buyer a “due diligence” period of time (expressed in days) for property inspection and to obtain third party financing. The Buyer should define the days as “working days” rather than calendar days which will increase the amount of time allowed to investigate the investment. For example, ten working days translates to 14 calendar days.
Buyers want a very broad due diligence contingency. The Buyer’s contract should contain an broad scope inspection and due diligence contingency that gives the Buyer an unequivocal and unconditional withdrawal right in the event the property is not suitable for his purposes intended for any reason. The Buyer should use specific contingencies to cover the greatest purchase risks such as environmental inspection and radon inspections to make sure that there are no environmental issues with the Buyer’s intended use.
Buyer’s inspection period should not be delayed because of Seller’s actions. The Buyer’s inspection contingency date should provide dates by which the Seller needs to provide documents and information about the property. If the Seller does not provide all requested documents and information, the contract should automatically extend Buyer’s contingency period.
Financing Contingency
Financing contingencies should be specific. The Buyer should spell out terms of the loan terms and mortgage provisions he anticipates from third party lenders.. For example, the Buyer’s financing clause can make the purchase contingent upon a maximum interest rate and a minimum amortization term that he expects and which he believes is needed to make his investment profitable. Avoid a finance contingency clauses that merely state that the Buyer’s purchase is subject to a loan approval. The loan commitment the Buyer actually gets from a bank may have financial terms that make the intended investment unprofitable or risky but may inadvertently satisfy the express financing provision.
Buyers can add an automatic extension of financing contingencies. Again this automatic extension could be written outside the general financing contingency and hidden among other contract provisions. The contingency could say, for example, that if the Buyer does not obtain the specific financing within the initial financing provision, the Buyer has the option for an automatic extension of the financing contingency period. Some Buyers also add that the financing contingency is also extended if there is any delay in financing as a result of Buyer’s prospective lenders so that the Buyer gets protection in the event that banks unreasonably delay financing and valuation.
Some Buyers will assert a financing clause that states that in the event the Buyer does not obtain required financing within a certain period of time, the Seller must provide “owner financing” under the same terms and conditions that the Buyer expressed in the financing contingency. This provision forces “owner financing” if the bank rejects the Buyer’s financing applications. The Seller would be in default if he refuses to finance the sale.
Sellers will automatically reject this clause if it is put in the general financing contingency provision. Therefore, Buyers may try to insert the mandatory Seller financing in other parts of the contract and even in the miscellaneous and general provisions at the end. Financing contingencies do not have to all be contained in the same contract provision to be enforceable. Contract drafting where important provisions are intentionally placed in the middle of otherwise innocuous small print is “sneaky” but legal. Buyers are not required to make the contract review process easy for the Seller’s legal counsel.
Government Approvals and Permits
Purchase contracts for commercial development will have contingencies that the property has to be properly zoned and that during the contingency period the Buyer obtains all licenses he needs to operate a business on the property. Buyers may consider a broadly crafted condition that the Buyer’s purchase is contingent upon the Buyer obtaining all applicable and necessary government permits and final government approvals for the Buyer’s intended use.
The Buyer’s contract should try to anticipate specific permits and approvals which he can expressly make conditions in the purchase contract. However, other requirements may be discovered during the contingency and inspection period. If these unanticipated government hurdles are not covered in a contract contingency the Buyer may be forced to close the purchase without certainty that his commercial development can be permitted. The general provision protects the Buyer against the inability to foresee some type of government approval that would be absolutely necessary for profitable use of the property.
In the course of the inspection contingency, the Buyer will often hire experts to perform studies of the property and the Buyer’s use. These studies could include, for example, environmental analysis and engineering studies. If the Buyer is paying for these studies, he wants to retain total use and possession of the work done on the Seller’s property. He does not want to release the studies to the Seller in the event he does not buy the property so as to prevent the Seller or another Buyer from using the studies.
The Purchase Deposit
Buyer and Seller have different interests concerning the purchase deposit. The Buyer wants the deposit held in the trust account of the Buyer’s attorney so that the Buyer knows that the holder of the deposit will act reasonably if there is a dispute over the contract or the deposit. The Buyer does not want his deposit money held by a title company or the broker. In the event of any dispute, the broker and/or title company would quickly deposit the money in the court registry which would require expensive litigation for either party to recover the deposit.
Buyer wants representations by Seller that there are no problems related to the property. Specifically, Buyer wants the Seller to guarantee that there are no foreclosures or other litigation existing or threatened and that there are no financing balloons or defaults in Seller’s existing financing. Buyer wants to make sure it does not get involved in any disputes between Seller and Seller’s bank. Contract provisions might provide that Seller will provide property unencumbered and that there are no lender approvals required for Seller to convey title.
Leases
Lastly, a Buyer who purchasing a property that is currently rented must obtain a copy of all tenant leases during due diligence periods to make sure that the tenants do not have rights that would interfere with the Buyer’s use.
Conclusion
A buyer should have an experienced attorney carefully review any counter offer submitted by the property owner to make sure that the owner has not included one of their own “killer clauses” that may have a detrimental economic effect for buyer or that would hasten the failure of what could have otherwise been a mutually satisfactory real estate transaction.