As the actor Courtney B. Vance, playing the part of Johnnie Cochran, said to the assistant prosecutor in a film drama about the O.J. Simpson trial, “sometimes you just gotta pick a side.” In this article, we pick the side of the seller in a purchase agreement for commercial property.
Numerous issues must be addressed in this process. What will the warranties be? What will the seller be liable for, and on what issues will the seller be relieved? What will be the inspection rights of the purchaser before the sale, and will there be any limitations on those inspections?
Below, I identify some provisions that will protect solely the interests of the seller. Some of these provisions will be extremely strong, and therefore will lead to serious negotiation.
Seller Warranties
Seller warranties are important because they create potential liabilities for the seller that can extend well beyond the closing date. Here are some suggestions to reduce that exposure.
First, if the seller is a legal entity, limit the seller’s warranties to the knowledge of one or two specific individuals, who should be identified by name and by their titles within the organization. This way, the seller is not potentially responsible for the knowledge of everyone within the seller’s organization.
Second, limit the seller’s warranties to the actual knowledge of the seller, and specifically state that these warranties are made without any duty of inquiry. This will avoid the potential argument that the seller’s warranties include what someone “should have” known.
Due Diligence
Due diligence is central to any purchase agreement. From the seller’s point of view, it affords the buyer multiple opportunities to terminate the contract or to attempt to extract concessions from the seller, based upon the buyer’s investigations into the physical condition and the legal status (including title) of the property. Here are some seller-oriented provisions designed to put some guardrails on the buyer’s discretion during this process.
With respect to environmental investigations, specifically exclude any invasive testing, including without limitation any Phase II environmental assessments, without the prior written consent of the seller, in the seller’s sole discretion.
Regarding the due diligence investigations in general, add a provision that the buyer is prohibited from sharing the results of any of its investigations, including without limitation environmental investigations, with any third party except for third-party professionals retained to assist the buyer in connection with the prospective purchase of the property, specifically including without limitation governmental agencies or entities. Further provide that if any reporting is required by applicable law, such reporting shall be handled by the seller, and the buyer will be required to give notice to the seller of the reporting requirement and to provide to the seller the data that is required to be reported.
If the buyer wants to include a provision allowing the buyer to extend the due diligence period, and if the seller is amenable to that, then limit the specific matters that may be the subject of further due diligence investigations during the extended due diligence time period, such as environmental matters or matters relating to the availability of governmental permits. Specifically provide that with respect to all other matters, due diligence is closed, and the buyer declares itself to be satisfied with respect to all of those matters.
Also, require additional funding as a consideration for the extension of the due diligence period. If possible, describe the additional funding as a non-refundable extension fee that will be paid directly to the seller, not to the escrow agent, and which will be returned to the buyer only in the event seller refuses, without justification, to consummate the closing. If the seller is not successful in negotiating such a provision, then provide that the additional funding will become part of the existing deposit (or earnest money, as the case may be).
Buyers sometimes threaten to terminate a contract based upon the due diligence investigations in order to gain leverage over sellers (i.e. by threatening to terminate the contract). Here are a couple of provisions designed to curb that practice.
First, make sure that existing mortgages, judgments or liens voluntarily created by the seller, that may be discharged by a monetary payment smaller than the purchase price, are not matters that may be the subject of a due diligence objection by the buyer. Instead provide that any such encumbrances must be discharged from the proceeds at closing.
Second, make sure that if the buyer expresses any due diligence objections, including as to title, the seller has the opportunity to elect whether or not to attempt to cure them, and has enough time to do so. If the buyer has the unilateral right to terminate the contract based upon a due diligence objection, the buyer can, if it wants to get out of the contract, simply find some minor objection and terminate on the basis of that, even if the problem could be easily cured by the seller.
Also, a contract may provide that a buyer has the right to terminate the contract during due diligence “for any reason or no reason.” Replace that clause with a provision that (a) allows the buyer to terminate if it finds the property to be unsuitable for its purposes but (b) requires the buyer to identify the due diligence matter(s) upon which the buyer is terminating the contract, and require the buyer to provide the seller with a copy of any written report or examination that relates to such matter(s).
Finally, require that, if the buyer terminates the contract as a result of due diligence, the buyer must provide to the seller complete copies of all due diligence reports and examinations obtained by the buyer during the due diligence time period.
Provisions Concerning Notice
There are many occasions during the process of purchasing commercial real estate when one party must give written notice to the other in order to exercise a legal right under the purchase agreement. If notice is not given in conformity with the purchase agreement, then notice will be ineffective, so it is important to pay attention to the provisions concerning notice and to make sure that they are user-friendly.
First, explicitly provide that all notices under the purchase agreement must be in writing.
Second, delete any provisions allowing notice by regular mail or even by certified mail. Hand delivery or commercial overnight courier service are better.
Third, if the contract allows for notice by email, provide multiple email addresses (in case of electronic glitches in one or more of them) and require that notice by email must be accompanied by a copy of the email being sent to the seller by commercial overnight courier service for delivery on the next business day, and must be sent on the same day that the email is sent, in order for the email notice to be effective.
Provisions Concerning Closing
The purpose of the purchase agreement is to guide the process whereby the parties consummate the transaction at a closing. Therefore, the provisions dealing with the closing process itself are critical.
Of course, provide that to the maximum extent permitted by law, the sale is as is, where is, without any warranties whatsoever, except for those affirmatively required by applicable law. Make sure to ascertain the maximum extent to which applicable law allows the waiver of warranties by the buyer, and use any specific language that is required under applicable law.
Make sure that the exclusion of warranties includes an exclusion of any warranties of title. Review the applicable law carefully to use the correct wording in order to achieve an exclusion of any warranties of title.
In many states, the term “limited warranty deed” is used. If this phrase is used in the purchase agreement, make sure that it has a legal meaning in the state where the property is located, and make sure that it is the vehicle that excludes all legal warranties (as to physical condition and as to legal status, including title) to the maximum possible extent.
Make sure to include a provision that requires the parties to execute any additional documents that may be necessary, after the closing, to memorialize any matters under the purchase agreement with respect to the closing or the property.
Specify who will prepare the closing documents. Designate the seller’s attorney as the party who will prepare the first drafts. If time permits, consider attaching specimen documents to the purchase agreement as exhibits, to avoid any disagreements about the drafting of the closing documents later.
Default
Of course, the purchase agreement must address what happens if either party breaches the contract. Bluntly stated, the seller wants to minimize its exposure but maximize its remedies on account of a default by the buyer.
In case of a default by the seller, limit the buyer’s remedy to the return of the deposit or the ability to obtain specific performance, as the buyer’s exclusive remedies. Specifically exclude the right to recover any other damages.
If the contract is going to allow the buyer any other remedies, attempt to narrowly describe the circumstances under which such other remedies are allowed; attempt to provide a fixed monetary amount that the buyer may recover, rather than just allowing the buyer to recover “damages” in general; and, if the buyer is allowed to recover “damages,” specifically exclude punitive or consequential damages.
If the buyer defaults, provide that the seller may receive the deposit upon making written demand to the party holding the deposit. This is often the seller’s only remedy, so avoid the situation where the buyer’s lawyer or agent is holding the deposit. Also, this puts a premium on the amount of the deposit. Make sure that it is substantial and will adequately compensate the seller if the buyer walks away from the purchase.
Attempt to add a provision whereby, if the buyer, after the close of due diligence, refuses to purchase without any justification, the seller can recover some measure of damages. Most often this would be a specified additional monetary amount as a penalty. In an extremely competitive situation, the seller could attempt to negotiate a provision to the effect that if the seller can prove that it lost a purchase from another prospective purchaser, the seller can recover the damages that it sustained on account thereof. This last provision will be difficult to negotiate; all the more reason to obtain a substantial deposit.
Also attempt to specify the measures that the seller must pursue in order to place the purchaser in default if the purchaser refuses to consummate the closing. Provide that it will be sufficient for the seller to provide a copy of the seller’s signature on the Act of Sale (Deed) and indicate by written notice that the seller is ready, willing and able to close, without any further formalities. Specifically state that no other closing documents need to be prepared or executed by the seller, and that the seller does not have to follow any other proceedings or procedures.
The above list is not exhaustive, of course. There are a myriad of different situations faced by a seller in a closing of commercial property, and the possible provisions for all of these situations are almost endless. But, the above provisions do close some of the most important loopholes, from the seller’s perspective.
