Real Estate Lesson 9: Purchase and Sale Agreements

Modifications: Counter Offers

Instead of accepting or rejecting the buyer's offer outright, the seller may want to make a counteroffer. This happens when the seller wants to change one or more of the buyer's terms, such as the purchase price, the amount of the earnest money deposit, or the closing date. The purchase and sale agreement form should have a place to indicate that the seller is making a counteroffer.

Earnest Money Deposit

It's customary for a buyer to tender an earnest money deposit to the seller, to show she really intends to go through with the purchase if the seller accepts the offer.

Purpose of a Purchase and Sale Agreement

Its main purpose is to bind the parties to the terms of their agreement during the closing process. Of course, a contract can't prevent one party from backing out of the transaction. However, it can give the other party a legal remedy in case that happens.

Seller's Acceptance

Next, the agent gives the buyer's offer to the sellers. If the sellers decide to accept the offer, they sign the same form the buyer signed, the agent gives each party a copy, and they have a binding contract. The consideration supporting the contract is the promises the parties have made to one another: the buyer's promise to pay the agreed price and the sellers' promise to transfer title.

Home Warranty Plans

Regardless of what is disclosed in the seller's disclosure statement, the buyers may choose to protect themselves against the risk of unexpected and potentially expensive repairs by purchasing a home warranty plan from a third party at closing. This is a short-term insurance policy, usually in effect only for the first few years of home ownership, that will reimburse the owners for any expenses related to the failure of covered systems or appliances.

FHA, VA, & RD transactions

Some transactions are contingent on the buyer obtaining a loan arranged through one of the FHA, VA, or rural development loan programs. In that case, because of FHA, VA, and RD regulations, special contingency clauses are necessary. The clauses pertain to the loan costs, appraisal, and home inspection.

Seller Disclosure Statement: New Information

Sometimes a seller discovers new information about the property after the buyer has already accepted the disclosure statement. In that case, the seller must either give the buyer an amended statement, or else take corrective action so that the original disclosure statement will be accurate.

Conveyance and Title

The type of deed that the seller will use to convey title to the buyer should be specified in the purchase and sale agreement. Most forms provide that a warranty deed will be used. It's also standard for the seller to agree to provide marketable title, pay for a title insurance policy protecting the buyer, and pay off all liens the buyer has not agreed to assume.

Unauthorized Practice of Law

The unauthorized practice of law occurs when someone who is not a licensed attorney engages in the practice of law. An example would be a real estate agent who drafts a complicated clause for a purchase and sale agreement.

Time is of the Essence

This clause means that the deadlines set in the agreement are an important part of the contract and will be strictly enforced. Failure to perform by the agreed date is a material breach of the contract. So if one party misses a deadline, the other party isn't required to fulfill the agreement and can sue for breach of contract. Because of the time is of the essence clause in the agreement, if the buyer or the seller misses a deadline, the other party can either treat that as a breach of contract, or waive the deadline and go ahead with the transaction.

Lead-Based Paint Disclosure

This federal law applies to transactions involving housing built before 1978. It requires sellers and landlords to disclose any lead-based paint hazards to prospective buyers or tenants. The seller or landlord must: 1. Disclose the location of any lead-based paint 2. Provide a copy of any existing inspection report concerning lead-based paint on the property 3. Give buyers or tenants a pamphlet on lead-based paint prepared by the EPA. In addition, buyers must be offered at least ten days in which to have the home tested for lead-based paint. The purchase and sale agreement must include a statement signed by the parties confirming that the legal requirements have been fulfilled.

Bump Clause

A bump clause allows the seller to keep her property on the market while she's waiting for a contingency in the purchase and sale agreement to be fulfilled. If the seller receives another offer before the contingency is fulfilled, the seller can notify the buyer that their agreement will be terminated unless the buyer waives the condition. If the buyer refuses to waive the contingency, the seller can terminate the agreement and accept the offer from the other buyer. A bump clause can be used with any contingency. One is most likely to be used when there is a good chance the contingency will not be fulfilled on time.

Casualty Loss Prevention

A casualty loss provision addresses the issue of what will happen if the property is destroyed or substantially damaged before closing, by a fire, a flood, or some other hazard. Typically, the buyer is not required to go through with the transaction under those circumstances.

Financing Contingency

A financing contingency makes the agreement contingent on whether the buyer can obtain financing. At a minimum, the clause should contain basic information about: 1. The type of loan (e.g., fixed or adjustable, conventional or government-sponsored), 2. The amount of the downpayment, deadlines for applying for the loan (and consequences for not doing so), and 3. The party who will pay the fees for the loan application (usually the buyer).

Brokerage Fee Provision

A purchase and sale agreement form almost always has a brokerage fee provision. Here the seller and the buyer agree that they will pay the brokerage commission in accordance with the terms of any listing agreement and/or buyer representation agreement they previously entered into. The provision may also confirm that the buyer and seller consent to the listing and selling firms sharing the commission and receiving compensation from both parties. In addition, the provision typically authorizes the closing agent to disburse the commission funds to the brokerage firms.

Earnest Money Provision

A purchase and sale agreement form will provide a space to fill in with the amount of the buyer's earnest money deposit. It should also have a place to indicate what form the deposit takes --> There are usually checkboxes to indicate whether the deposit is cash, a check, a promissory note, or in some other form. It's illegal for an agent to accept a promissory note as earnest money unless the purchase and sale agreement states that the deposit is in the form of a note. The agent is also required to disclose to the seller that the deposit is a promissory note when presenting the offer. And it should also explain how the deposit is going to be held while the transaction is pending. The selling agent must either deliver the buyer's check to the closing agent for deposit into escrow, or else deposit the check into one of her real estate firm's trust accounts.

Second Buyer Contingencies

A seller may receive other offers for the property after a purchase and sale agreement is signed. The seller may want to accept one of these later offers, especially if it's starting to look as though the first transaction could fail. If the seller enters into a second purchase and sale agreement under these circumstances, the second agreement should be contingent on the failure of the first one. It should state that the seller will not be bound by the second agreement unless the first buyer signs a rescission agreement, releasing the seller from all claims in connection with the first agreement.

Agent could be liable when preparing a P&SA

An agent preparing a purchase and sale agreement form has to meet the same standards as an attorney. If one of the parties sues the agent because the agreement had unintended consequences or was legally ineffective, the agent can't use ignorance of legal requirements as a defense. The agent is liable for harm caused by negligence or incompetence.

Election of Remedies

An election of remedies means that after the buyer has defaulted, the seller can choose between simply keeping the deposit, suing for damages, or pursuing some other legal remedy.

Included Items Provision

An included items provision lists fixtures and other furnishings that will be included in the sale unless otherwise agreed. A purchase and sale agreement form usually has an "Included Items" provision, which lists appliances, equipment, fixtures, and other articles that will be included in the sale, and covered by the purchase price, unless otherwise agreed. Most of the items listed would normally be included in the sale even without this provision, because they're legally classified as fixtures. But the provision in the purchase and sale agreement can prevent arguments over what's included in the sale. They can get any questions about particular items answered before the agreement is signed.

Who may prepare the agreement

As a general rule, only lawyers are allowed to prepare contracts for transactions they aren't personally involved in. Preparing a contract on behalf of others is considered to be the practice of law. There are certain exceptions to that rule, however. One exception allows real estate agents to prepare purchase and sale agreements on behalf of their clients and customers. In Washington, an agent is permitted to fill in the blanks on an approved form for a transaction she is handling as a real estate agent, as long as no separate fee is charged for completing the form. But if an agent were to draw up an agreement from scratch instead of using a form, that would be considered the unauthorized practice of law. So would filling out a form for a transaction in which the agent wasn't representing either of the parties. A real estate agent shouldn't go beyond filling in the blanks and attaching simple addenda to the form. If it seems necessary to rewrite provisions or add complicated clauses, either the agent needs to find a form that's better suited to the transaction, or else the agreement should be drawn up by an attorney.

Functions of the Contract Form

As you can see, the form prepared by the real estate agent in the course of the negotiations serves two functions: 1. It is the buyer's offer to the seller 2. When signed by the seller and returned to the buyer, it becomes a binding contract.

Elements of a Contingency Clause

Every contingency clause should state the following four elements: 1) what has to be done to satisfy the condition, 2) the procedure for notifying the other party of satisfaction or waiver, 3) a deadline for satisfaction or waiver, and 4) the rights of the parties if the condition is not satisfied or waived.

Earnest Money: Amount Negotiated

How much should the earnest money deposit be? That's up to the parties. The real estate agent may suggest an amount based on local custom. As a general rule, though, the larger the buyer's deposit, the less likely she is to breach the contract. It's easier to walk away from $500 than $5,000.

Seller Disclosure Statement: Failure to Comply w/ Requirements

If the seller neither provides an amended statement nor takes corrective action, or never provides a disclosure statement at all, then the buyer may rescind the contract at any time up until closing. Once the sale closes, however, the buyer's right of rescission ends. At that point, the buyer has to fall back on any traditional legal remedies he may have against the seller, such as a lawsuit.

Counter Offer Addendum

If the seller's counteroffer consists of only a few small changes to the buyer's offer, the real estate agent may be tempted to write the changes directly on the buyer's offer. However, in almost every case, it's best to prepare a counteroffer addendum and attach it to the purchase and sale agreement form. There are counteroffer forms available for this purpose. A counteroffer terminates an offer, so a contract is formed only if the buyer accepts the seller's counteroffer. Just as with an offer, there should be a deadline for acceptance of the counteroffer.

Addendum for Exclusions

If there are items on the list that the seller wants to exclude from the sale, an addendum specifying that those items will be excluded should be attached to the agreement. It's extremely important for the buyer to sign this addendum, indicating that he consents to the exclusions. In addition, the real estate agent should consider whether the property has any special features that aren't mentioned in the "Included Items" provision and that could be a source of controversy. The agent should find out whether or not the seller intends to include those items in the sale, and attach an appropriate addendum to the agreement.

Seller Disclosure Statement

In Washington, a seller of real property must provide the buyer with a seller disclosure statement when the purchase and sale agreement is signed. The act doesn't apply to sales of agricultural or timber land, foreclosures, bankruptcy transfers, or gifts to family members. Nor is a seller disclosure statement required in the sale of most condominiums or timeshares, since the Condominium Act or the Timeshare Act generally require their own disclosures. The law requires different disclosures for improved residential property, unimproved (vacant lot) residential property, and commercial property. In the disclosure statement, the seller's required to disclose what he knows about various aspects of the property and the title. The law provides that a buyer can't treat the statement as a warranty from the seller or as representations made by any of the real estate agents involved in the transaction. Neither the seller nor the agents may be held liable for inaccuracies in the statement unless they knew the information was incorrect. The seller has to give the buyers the disclosure statement within five business days after they sign the purchase and sale agreement, unless they agree in writing to a different deadline, or unless the buyers expressly waive the right to receive the statement. Note, however, that no waiver is allowed for the environmental section of the form if any of the questions in that section would be answered "Yes."

Liquidated Damages

In Washington, the amount of earnest money that can be treated as liquidated damages is limited by law. The deposit may be any amount, but the seller is allowed to keep no more than 5% of the property's sales price in the event that the buyer defaults.

Dispute over Deposit

In a residential transaction, if one party submits a written demand for the earnest money, the deposit holder (the escrow agent or the brokerage holding the funds) must notify the other party or parties in writing and give them a chance to submit written objections. If there are no objections, the deposit holder must release the funds as demanded. But if another party does object or demand the funds, the deposit holder must file an interpleader action, turning the matter over to a court. In an interpleader action, the court decides which party is the rightful owner of the funds.

Closing Agent and Closing Costs

In addition to a provision for the closing date, most purchase and sale agreement forms have a provision in which the parties can appoint an escrow agent or other closing agent. The closing agent coordinates various tasks such as ordering title insurance and paying off liens. The closing agent tries to ensure that all the requirements of the purchase and sale agreement are met by the closing date. The purchase and sale agreement usually also has a provision stating which of the parties will be responsible for paying certain closing costs, such as the escrow fee and the excise tax. The agreement also specifies how certain property expenses, such as the property taxes and any homeowner's association dues, are to be shared.

P&SA Modifications

In many transactions, the terms set forth in the buyer's original offer will be modified, either before or after the offer becomes a binding contract. A modification requested before the contract is finalized takes the form of a counteroffer. A modification that the parties agree to after they already have a binding contract takes the form of an amendment.

Offer and Acceptance

In most cases, a buyer makes an offer only after the seller has listed the property. But a listing isn't a contract offer; the buyer can't create a binding contract just by accepting the seller's listing price. Instead, the buyer makes an offer to the seller. The buyer is the offeror and the seller is the offeree. The seller has the power of acceptance—the power to form a legally binding contract.

Contingency Clauses: Waiver

In most cases, a contingency clause is included in the contract primarily for the benefit of only one of the parties. The party who benefits from a particular contingency clause generally has the power to waive that contingency.

Transfer of Possession

In most cases, the closing date is also the date possession of the property is to be transferred from the seller to the buyer. But in some cases the buyer will take possession before closing, or the seller will remain in possession for a certain period after closing. Whatever the arrangement, the purchase and sale agreement should set out the terms. And when the transfer of possession will take place before or after closing, it's a good idea for the parties to sign a separate rental agreement. Occasionally, the seller fails to vacate the property by the date agreed. Some purchase and sale agreement forms provide for a penalty in this situation; the seller is required to pay the buyer a specified sum for each extra day she remains in possession.

Back-Up Offer

In some cases, a would-be buyer might be so enthused about a particular house that he is willing to make an offer even after the seller has accepted an offer from someone else. This would be known as a backup offer, and is contingent on the failure of the first contract.

Closing Date Tied to Contingency

The time required to fulfill a contingency needs to be taken into account in setting the closing date. In some purchase and sale agreement forms, the closing date may be expressly tied to fulfillment of a contingency.

Property Description

Like a deed, a purchase and sale agreement must include an adequate description of the property being sold. This means it must contain a description that's sufficient to identify the property without having to rely on outside evidence. If the description is ambiguous, the purchase and sale agreement may not be enforceable. When the property is listed, the listing agent should obtain the property's legal description, so it will be on hand when it's time to prepare a buyer's offer. Some forms have a provision which authorizes the agent to insert a legal description over the parties' signatures if it's not available when they sign. The agent should take care of this right away, since the agreement may not be enforceable until the description has been inserted. Many forms provide only enough room for a simple lot and block description. If the description won't fit easily in the space provided, the agent should put it in an attachment instead, and write "See attached legal description" on the form. The NWMLS form states that the legal description will be attached to the agreement as "Exhibit A." Like any attachment to a contract, the exhibit should be signed or initialed by the parties.

Inspection Contingencies

Many purchase and sale agreements are contingent on one or more inspections or tests of the property. The buyer may want a building inspection, a pest control inspection, a geological inspection, a hazardous materials inspection, or a percolation test. In some cases, certain inspections are required by the buyer's lender. An inspection contingency clause should state what kind of results will fulfill the condition. Whenever possible, an objective standard should be stated, instead of simply requiring results satisfactory to the buyer. Inspection contingencies should establish: 1. Who is responsible for ordering and paying for the inspection, 2. When and how the buyer must give the seller notice of disapproval of the inspection report, the seller's option to perform repairs or terminate the agreement 3. A time limit for re-inspection if the seller performs repairs.

Sale of buyer's home contingencies

Many residential buyers are planning to sell the home they're currently living in and move into the home they're buying. In fact, the buyer's often counting on using funds from the sale of the current home to make a downpayment on the new home. In that case, the purchase and sale agreement for the new home should be contingent on the sale of the old home. The contingency clause should state exactly when the contingency will be considered fulfilled. This could be when the buyer accepts an offer for the old home or when the sale of the old home actually closes. The clause should state how much time is allowed for this contingency.

Attorney's Fees

Most purchase and sale agreement forms also have an attorney's fees provision. In a lawsuit over the contract, the losing party must pay the other party's court costs and reasonable attorney's fees.

Contingency Clauses

Most purchase and sale agreements make closing the sale contingent on one or more specified events or conditions. Unless those events occur or those conditions are fulfilled, the agreement is terminated without liability. Both Parties are off the hook! When a purchase and sale agreement terminates because a contingency isn't met, the buyer is ordinarily entitled to have the earnest money refunded. A financing contingency—making the purchase and sale agreement contingent on the buyer's ability to obtain financing—is the most common type of contingency clause. There's a financing contingency in most residential purchase and sale agreements.

Seller Disclosure Statement: Acceptance or rescission

The buyer has three business days after receiving the disclosure statement either to accept it, or to rescind the purchase and sale agreement. The decision to accept the disclosure statement or rescind the agreement is entirely within the buyer's discretion. Even if the statement doesn't disclose any problems, the buyer may rescind the contract and withdraw from the transaction. The law provides no objective Standards If the buyer decides to rescind the contract, the buyer must notify the seller (or the seller's agent) in writing within the three-day period. The buyer is entitled to a full refund of the earnest money deposit.

Creating the Agreement: Written Offer

The buyer's offer should be submitted to the seller in writing, since the statute of frauds requires contracts concerning real property to be in writing. In transactions involving a real estate agent, the agent usually writes up the offer by filling in a purchase and sale agreement form with the price and other terms of sale as specified by the buyer. The real estate agent gives the buyer a copy of the purchase and sale agreement form after the buyer signs it.

P&SA Signatures: Deadline for Acceptance

The form should state a deadline for acceptance by the seller. If the seller hasn't signed and returned the form by that date, the buyer's offer is terminated. If no deadline is set, the offer terminates if it's not accepted within a reasonable time.

Contingency clauses: Good Faith Effort

The parties to a contract are generally required to make a good faith effort to fulfill any conditions in their agreement. One party can't get out of the contract by refusing or neglecting to take necessary steps to ensure that the contingencies are met on time.

Closing Date

The purchase and sale agreement must set a closing date, the date on which the transaction is to be consummated. The agreement may also include a definition of closing. Closing is typically defined as the date on which all the pertinent documents are recorded and the sale proceeds can be disbursed to the seller. The buyer and seller often rely on the real estate agent's advice in selecting a closing date. The date should allow sufficient time for all the requirements of the agreement to be fulfilled. In most residential transactions, the main consideration is how long it will take to arrange for financing from an institutional lender. The specified closing date is also the termination date of the purchase and sale agreement. If the transaction fails to close by that date, the agreement may no longer be enforceable. So if it begins to look like certain requirements of the agreement won't be met by the closing date, the buyer and seller should sign an amendment to their agreement, postponing the closing date and keeping the purchase and sale agreement in force.

Price and Method of Payment

The purchase and sale agreement should set forth both the total purchase price and how the buyer is going to pay it. There usually isn't any confusion about the total price, except perhaps when the buyer is assuming or taking title subject to an existing mortgage or deed of trust. In that case, the balance of the existing debt should be included in the price. The method of payment should be set forth in detail. With some pre-printed forms, information about the method of payment will be written on an addendum that's attached to the purchase and sale agreement. If the buyer will be using funds from an institutional loan or seller financing, that information should be included in an addendum as well. If the buyer is assuming the seller's mortgage or if seller financing will be used, the interest rate and the monthly payments should be specified, along with the loan balance.

Marketable Title

Title is considered unmarketable if the title report reveals encumbrances or title defects that weren't disclosed in the purchase and sale agreement. If the seller can't (or won't) clear up these problems before closing, the buyer has the option of withdrawing from the transaction. However, there are some everyday circumstances that don't make a homeowner's title unmarketable. For example, if the title report reveals an easement for underground wiring, or that there are recorded CC&Rs that apply to all of the properties in the neighborhood, the title is still considered marketable.

Agency Disclosure

To prevent misunderstandings, Washington law requires the real estate agents involved in a transaction to disclose to the buyer and the seller which party or parties the agents are representing. The disclosure must be in writing. There's usually an agency disclosure provision in the purchase and sale agreement, but the disclosure can be made in a separate document instead.

P&SA Signatures

Under the statute of frauds, a purchase and sale agreement is not enforceable unless it is signed by the parties who are to be bound by it. Although we've been talking in terms of "the buyer" and "the seller," many transactions involve more than one buyer and more than one seller. It's the real estate agent's responsibility to make sure everyone who is supposed to be bound by the agreement signs the form.

P&SA Effect of Signatures

When the buyer signs the purchase and sale agreement form, it becomes a contract offer. If the seller signs the form and returns it to the buyer or the buyer's agent, it becomes a binding contract.