Real Estate: Buyers and Sellers Beware
Pitfalls and traps for the unwary using the standard California Association of Realtors ("CAR") form of Real Estate Purchase and Sale Agreement ("PSA") in real estate sales transactions.
Purchase Price terms; Deposits; early release to SellerOne of the most frequent areas of dispute in real estate transactions lies in the terms for the purchase price. Most of the time, the price term is prepared by the broker for the Buyer. The problem is that frequently the buyer and seller have agreed to certain special terms of payment, for example for early release of some portion of the buyer's "Earnest Money Deposit" ("EMD") to the seller. This can occur becaue the seller will have ongoing expenses and costs of sale, including payments coming due on the mortgages while the transaction is "pending". Thus, many times sellers ask the buyer for an early release of all, or some portion of the EMD. There's nothing wrong with this, but it does require a special note in the PSA contract document itself (or addendum to it), and a special joint escrow instruction as to the amount to be reased and the specific date on which the release is to be made. Make sure that both buyer and seller sign and inidial both the Addendum and a set of Joint Escrow Instructions requiring the early disbursement to the Seller. Otherwise, the EMD will be held up in escrow until a "Joint Escrow Instruction" is signed by buyer and seller. I once had a case where the parties had agreed in the PSA itself that the Buyer's Deposit was to be "immediately released" to Seller. However, the buyer later sent an "e-mail" to the escrow officer asking her to hold off on making the disbursement until after the seller signed some added provisions to the PSA. Of course the seller did not agree to the added provisions. Nevertheless, the escrow officer held up the early distribution merely because the buyer sent her a unilateral instruction to not do it. Had the parties prepared a specific escrow instruction requiring the early disbursement on a specific date,the Escrow officer would have been ethically required to make the disbursement upon the agreed date.
Inspection, Appraisal and Financing "Contingencies"Many people involved in real estate transactions think that they can "back out" of the deal, for any reason, and at anytime they want to before closing. Not so. The standard CAR PSA contains time limits for "inspections" and for "exercise" of an "inspection contingency". This must be done in writing by the buyer, within a certain period of time. The inspection contingencies also appear to be limited to only certain things related to the condition of the property which can be identified by a buyer's inspection (termites, water damage, roof leaks, electrical problems, plumbing, heating, and the like). Financing contingencies require the Buyer to arrange financing for the balance of the purchase price by a specified date. Once financing has been committed, then a written removal of the financing contingency must be made.by the buyer. The same is true for the "Appraisal" contingency. If there is a loan contingency, buyer's removal of the loan contingency also removes the appraisal contingency. Otherwise, the buyer has to give a written removal of the appraisal contingency or cancel within a specified period of time (usually 17 days from acceptance). If written removal is not given within the 17 day timeframe, or the transaction is not cancelled, the legal effect should be that the buyer has waived the contingency as not having been timely exercised or extended by an amendment or addendum to the PSA.. There is a provision in all CAR PSAs that "time is of the essence" (para. 28). Also, any extensions alterationns modifications or changes of time periods for removal of contingencies or cancelation rights must be done by a written agreement. The "time is of the essence" clause means that the contract time periods are "material terms" to the PSA contract, and any expiration of any given time requirement is a material breach (unless extended, which requires a writing). What this means is that, contrary to common thought, the PSA contract cannot be cancelled at the whim of either buyer or seller. If buyer misses his deadlines, and the contingency period passes without cancelation, the buyer is bound and can be compelled to close, or sued for damages (usually the liquidated damages consisting of the buyer's earnest money deposit), or for Specific Performance.
Earnest Money Deposits and "Liquidated Damages"The standard CAR PSA contract also has a provision for the buyer to deposit his or her "EMD" (Earnest Money Deposit) into escrow. If the buyer cancels for no fault of the seller, and without support of any contingency, then buyer is in breach. The EMD also serves as "liquidated damages" (to the extend that it does not exceed 3% of the purchase price). Liquidated Damages means that the parties have agreed that the EMD amount will be the stipulated amount of damages owed to the seller by the buyer in the event of a buyer's breach of the contract. Most real estate agents and brokers usually allow their clients to sign the "liquidated damages" clause (CAR PSA para. 25) without giving any thought to its consequences. For the buyer, this means that buyer will forfeit his EMD if the contract is cancelled due to buyer's breach. Since the seller does not put any EMD into escrow, there is little risk for the seller; and there is no provision under the liquidated damages clause as to what the damages will be in the event of a Seller default. If you are the Seller, however, you might want to reserve your right to sue for money damages (the difference between the "contract price" and the price on re-sale to a replacement buyer (which is usually lower than the first sale price to the defaulting buyer). Theoretically, the liquidated damages provisoion should work both ways. However, the CAR PSA contract does not so provide, and since the seller has no "deposit" in escrow, he has nothing "at stake". This means that the buyer will have to prove actual damages in the event of a seller's breach, or sue the seller for "specific performance". This is probably the buyer's best option if he really wants the property, and the seller has breached without any valid ground, defense or excuse. The buyer will also be able to recover any "incidential and consequential" damages incurred by the seller's breach, and of course, the CAR PSA contract includes an "attorneys fees" clause, which means that attorneys' fees are awarded to the prevailing party in any litigation.
Dates; Closing; special Escrow InstructionsThere a number of deadlines set forth in the standard PSA contract. For example, contingency periods are ususally 17 days, there may be a deadline for the buyer to make his initial deposit (usually 3 days from acceptance), or to make any "increased deposit" (time frame to be inserted). Closing is also left to be filled in by the parties, but the standard closing is 30 days. For some types of purchases, e.g., "short sales" the closing period requirements may have to be longer (90 days). Note, under paragraph 14 of the CAR PSA any extentions of the contingency periods must be in writing. Likewise, any extension of the closing date must be made in writing. Technically, if the deal does not close within the contract period, and buyer has not exercised his rights to cancel within the "inspection" timeframe, then the buyer is in breach based on the "time is of the essence" clause. Seller would be entitled to cancel and keep the buyer's deposit for buyer's breach, or if buyer cancels for no valid reason under the PSA. Hence, it is very important for Real Estate Agents and Brokers to make sure the time deadlines under the contract are met. While there are a few cases on the books that have permitted a "non-material" breach to slide by where the buyer has otherwise fully performed, the prevailing rule is that "time" is a meaterial term in the face of express contract language stating: "time is of the essence". (CAR PSA para. 28)