Over the past three articles from Andrew Pine lawyer, we have discussed the different forms of Options. We have explained the reason why an Option Fee is often required. We have also uncovered what a Due Diligence clause is and how it protects a Buyer. We have then discussed how a Security Deposit functions. Finally we have explained when a Development Approval clause may be required.
Andrew Pine lawyer will now outline a couple of real-life examples used in the property development world. This should provide you with a practical understanding of how an Option functions and also how it can be used to benefit you from a legal and financial perspective. As has been continually explained to you throughout this series – you must obtain legal advice tailored to your specific circumstances before engaging in any form of Option arrangement. It is essential that you do not sign any Option documentation before obtaining this tailored legal advice. Andrew Pine solicitor can advise you on Option Agreements and can be contacted on the details found at the bottom of this article.
Finally, these real life examples should only be considered as examples. They are not legal or financial advice as to how an Option arrangement should be structured. They are solely used to explain how an Option agreement may be structured. This is to solely provide you with an understanding as to how the mechanics of an Option can function. Please do not rely on these examples without engaging a suitably qualified solicitor and accountant.
Example 1 – A Call Option with a Due Diligence Condition
James owns a large ‘old Queenslander’ in Brisbane. He is about to put his house on the market. An investor approaches him offering to pay him the market value of his property ($700,000), thereby avoiding the need for James to pay Agent’s commission.
The catch is that the investor wishes to determine what he can rent each room out in the house for before committing to a Contract to buy the Property. The investor will take two weeks to determine this and he can then commit to the deal. As this is not a long period of time, James agrees to this arrangement. The investor will then have a further three weeks to discuss this purchase with his bank to ensure he can borrow enough money to buy the property. After which the investor must either commit to purchasing the property at the fixed price by signing an unconditional contract, or walk away.
What is one way this deal could be structured?
One way this deal could be structured is by way of a Call Option with a Due Diligence condition. Firstly an Option Fee could be paid by the Buyer to the Seller for giving the Buyer a right but not the obligation to purchase the Property. This is likely to be a smaller amount, given the Option will not be for very long. The Buyer may then have a Due Diligence clause giving it two weeks to determine what it can rent each room out for so as to clarify whether the investment will be a good one. Once this Due Diligence Period ends, the Buyer could then have a further three weeks under the Call Option Period to determine whether its bank can lend it the requisite funds. If the bank cannot, the Buyer can therefore elect to not exercise the Option, thereby allowing the Call Option Period to expire and the Option now being over. The Buyer is not forced to purchase the Property as there is no Put Option.
This is of course one of many ways this deal could be structured. Again, please do not structure deals without contacting a solicitor suitably qualified to advise you on Options. Andrew Pine lawyer is an experienced solicitor who can advise you on Options and your circumstances.
Example 2 – A Put and Call Option Agreement with a Security Deposit and a Development Approval Condition
Sandy owns a vacant piece of land. She is considering selling the property but is not in a hurry. A developer has approached her and wishes to purchase her land for $700,000.00. Sandy is ecstatic as her land is only worth $650,000.00 at the current market rate. The developer is only willing to pay a price over the market rate because he can see the potential in subdividing the land (a form of development). This will take some time to confirm with the local council and the developer wants to ensure he is not forced into buying the land if the local council does not approve his request to subdivide the land.
The parties have agreed to enter into a Put and Call Option Agreement with a Development Approval condition.
The developer could therefore pay Sandy a small Option Fee (let’s say $1,000.00) for her signing the Option Agreement. This Fee is non-refundable so Sandy can spend it now if she likes. The developer may also pay Sandy a $10,000.00 Security Deposit at the same time. If the developer proceeds to buy the land, the $10,000.00 forms the deposit so is part of the price paid ($690,000.00 would therefore be due at Settlement rather than $700,000.00). The developer could then have a certain period of time (often at least six months) to contact the council and obtain development approval from it to subdivide the land how the developer wishes. This is called a Development Approval clause. During the Development Approval Period, the developer is able to terminate if it does not receive satisfactory development approval. It may (or may not, depending on how the Option is structured) be entitled to receive the $10,000.00 Security Deposit back from Sandy if it terminates the Option under this Development Approval condition.
Should the Development Approval condition be satisfied, the Call Option Period may still have a period of time to run. During this time, the developer may exercise its right to purchase the land. If it does not exercise this right by the end of the Call Option Period, the Put Option Period will then commence. Sandy will then have the right to force the developer to buy at the fixed Price.
This are numerous examples of how this arrangement could be structured. You must not enter into Options without contacting a solicitor experienced in Options. Andrew Pine solicitor can advise you on Options and draft any form of agreement you require.
The above two examples show how Call Options and Put & Call Options work with Due Diligence and Development Approval conditions. The above two examples also demonstrate how Call Option Fees and Security Deposits function. You must not substitute these examples for financial and legal advice.
Disclaimer: Andrew Pine is a property solicitor practising in Queensland. Andrew is not qualified to give accounting or financial advice. This article is written solely as an opinion of the writer. This article should not be relied upon for legal, accounting or financial advice. You should always seek advice which is tailored to your individual circumstances.