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Remedies for Purchase and Sale Agreement Breaches

Let’s look at remedies for purchase agreement breaches and sale agreement breaches. What happens when a commercial contract buyer fails to purchase the property as required by the purchase and sale agreement (PSA) or otherwise commits a material breach?

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Seller Remedies for Buyer’s Agreement Breaches

purchase agreement breaches and sale agreement breachesHere are specific remedy provisions to consider in the PSA, other than all “rights and remedies available at law or in equity”:

1. Liquidated Damages. The typical seller remedy for buyer agreement breaches is retention of the deposit monies posted at the time of signing the PSA. This is another reason for both seller and buyer to carefully consider the amount of the deposit when finalizing the agreement of sale, as this is not just an expression of buyer’s financial capability, but also the amount the buyer may forfeit to seller if it fails to close, after any contingency periods have expired. In NJ, liquidated damages provisions or stipulated damages provisions will be enforced so long as they are a reasonable estimate of the actual damages and not an impermissible penalty. Where the agreed upon amount is unconscionable, a court may refuse to enforce this remedy.

2. Specific Performance. An atypical remedy for a breach agreement breaches in favor of a seller is a court ordering that the purchaser buy the subject property. It is rare that a court will find that money damages are an inadequate remedy or that there are other equitable considerations, and therefore, the buyer must purchase the property.

3. Preserve Indemnity Obligations. While the liquidated damages provision is likely the exclusive remedy, a seller may also carve-out the buyer’s continuing obligation to indemnify seller for any damage caused by buyer or its representative in connection with buyer’s examination of the property. Given that the buyer entity may be a ne wly formed (and empty) special purpose entity (SPE), seller should confirm that buyer and its representatives have insurance in place to protect seller for personal and property damage. And, if the agreement of sale is assigned to a new SPE, seller should ensure that the original purchaser remains liable under the PSA.

4. Delivery of Due Diligence Materials. If buyer breaches the PSA resulting in termination, seller may demand delivery of buyer’s due diligence materials, including items like its title commitment, survey, environmental, property condition and zoning reports and any approvals, at no cost to seller. Buyer will want to be reimbursed the actual cost for these materials. A distinction should be drawn between delivery of the materials following a buyer breach versus following a termination under the due diligence contingency. An argument may be made that following a breach, seller should not have to reimburse the buyer for these costs.

A quick note about time being of the essence. While most South Jersey contracts contain a provision making time “of the essence” thereby setting a specific time frame for establishing a breach, many North Jersey PSAs do not. Where time is not made “of the essence” in the agreement of sale, a party can declare it to be so by delivering a written notice to the defaulting party after the date set for closing has passed. Following the failure to close, a written notice may be delivered demanding a new closing date, provided that it is reasonable in relation to the time that has passed. It should be no shorter than 10 days following the notice. The party ready, willing and able to close, will send this notice to the other to clarify whether there is a breach situation. Additionally, a party may declare time to be of the essence prior to the closing date where the other party has anticipatorily repudiated or breached the PSA. Notices and opportunities to cure may be included in the agreement of sale prior to a particular remedy being available.

Buyer Remedies for Seller’s Agreement Breaches

Seller’s Agreement BreachesSellers are guilty of breaching PSAs too. There are two general categories of seller agreement breaches: failure to close and breach of representations. For failure to close, the two most customary remedies are:

1. Termination, Return of Deposit and Compensation. If the seller does not complete closing, which sometimes happens when it is unable to deliver good title or when it changes its mind — perhaps due to a better offer — buyer is entitled to terminate the PSA and receive a refund of its deposit. Where this right is buyer’s only remedy, and savvy sellers are effective at making it so, the seller essentially has an option contract. If seller elects to breach (eg. to sell the property for a higher pric e or to take the property off the market), buyer may be limited to a termination right and the return of its deposit. In that scenario, buyer is stuck footing the bill for all of its diligence costs, attorneys’ fees and lender costs and expense. Therefore, buyers should seek to be reimbursed for these actual, out of pocket expenses (sometimes capped at a reasonable amount), in addition to the return of the deposit.

2. Specific Performance. If seller fails to close, buyer may be entitled to enforce specific performance against seller, provided that buyer has complied with its PSA obligations and commences the action within a reasonable period of time following the breach, say 45 days. Unlike the seller remedy which is extremely rare, a court is more willing to agree that the property is unique, and therefore buyer cannot be adequately compensated for seller’s breach with money alone. It is easier to convince a court to force the sale of the property to a buyer with “clean hands”, so buyer should make sure it has complied with its PSA obligations.

In anticipation of filing an action for specific performance, and perhaps as leverage in negotiating a settlement, the buyer may file a notice of lis pendens with the county recorder’s office indicating that it has a claim against title to the subject property. Doing so places the world on notice of the claim and essentially prevents sale of the property to another buyer or seller financing of the property. Some sellers will seek to prevent such filings by adding language which prohibits the filing of a lis pendens in the PSA. If specific performance is not available after being elected as a remedy, the PSA may state the buyer is able to recover all of its damages, without limitation.

For breach of a seller representation discovered post-closing the remedies may be based on parameters set for recovery in the PSA. The PSA may include language regarding: (i) a basket or deductible amount by which the damage must exceed for the claim to be actionable; (ii) a cap or maximum seller-liability amount; and (iii) a post-closing survival period for the representations and a period of time within which any claims must be made, which periods may be the same. Sellers will look to insert a high basket amount, a low cap on liability and a very short survival period. The dollar amounts will vary depending on the size of the transaction and the negotiating leverage of the parties. The survival period may vary significantly from PSA to PSA and may also vary within the PSA depending on the specific representation and its importance to the transaction. If the breach is discovered pre-closing and closing occurs, typically, no post-closing remedy will be available. Both buyer and seller should appreciate a prevailing party attorneys’ fees provision, like: “In the event either party employs an attorney in connection with claims by one party against the other arising from the operation of this PSA, the non-prevailing party shall pay the prevailing party all reasonable fees and expenses, including attorneys’ fees, incurred in connection with this transaction and the collection of any judgment.” This can significantly increase costs for a breach.

Conclusion

At the time of PSA negotiation, the parties rarely believe that either side will actually breach their agreement. Nevertheless, sufficient time should be spent considering the “what ifs” should the transaction go south. The parties will want to be clear on the respective remedies so that they can move on quickly following a breach. Since the deposit going to seller will often be the remedy for a buyer’s failure to close, care should be given in determining the amount. If the deposit is disproportionately high compared to the monetary damages the seller will actually suffer in the event of a buyer breach, perhaps only a portion should be delivered to the seller with the balance being returned to buyer. Conversely, if the deposit is too low relative to seller’s anticipated damages, perhaps the seller should receive additional compensation. Remedy provisions should not be considered boilerplate. The parties to a PSA should consult with experienced counsel to understand the rights and remedies, and their many variations, following a breach. The contents of this article are for informational purposes only and none of these materials is offered, nor should be construed, as legal advice or a legal opinion based on any specific facts or circumstances.

 

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Are Letters of Intent a Good Idea?

letters of intentCommercial real estate players use letters of intent (LOIs) or term sheets all the time. Buyers and tenants present offers this way, often to see if a deal can be reached before incurring the costs of negotiating an agreement of sale or a lease (the Definitive Agreement). The key question is whether these agreements are binding or not. The legal principles are fairly easy to state: If the parties intend not to be bound to each other prior to the execution of a Definitive Agreement, the courts will give effect to that intent and the parties will not be bound until the agreement has been fully executed and delivered. This is true even if all issues in the negotiations have been resolved. Conversely, if the parties intend to be bound prior to the execution of a Definitive Agreement, the court will give effect to that intent, and the parties will be bound even though they contemplate replacing their earlier understanding with a later written agreement. Courts have consistently stated that the most important factor in determining whether or which provisions in an LOI are binding is the language used by the parties in the letters of intent themselves.

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Typically, parties draft letters of intent to be partially binding. The letters of intent will contain provisions not intended to be binding and provisions expressly intended to be binding on the parties. The non-binding provisions consist primarily of the “deal points”, such as a description of the key components of a proposed transaction and any important conditions. For an agreement of sale, these include the purchase price, deposit, due diligence period, deal contingencies (e.g. financing, licensing and land use approvals), time for closing and broker payment obligations. For a lease agreement, these include the rental rate, security deposit, tenant allowance, responsibility for repairs and replacements, use and exclusivity terms, brokers and any unique arrangements. The binding provisions focus on the negotiation time period, including access to information, confidentiality, a “no-shop” or exclusivity provision in which the seller or landlord agrees not to sell or lease the subject property to another for a specified period of time, broker representations and protection and non-disclosure (to third parties) obligations. There should be a termination provision and natural end date for the life of the LOI.

The main purpose of typical letters of intent is for the parties to formulate deal points without committing to the actual transaction. Letters of intent provide counsel a blueprint for preparation of the Definitive Agreement, saving time and money. Letters of intent can keep the deal momentum moving forward while negotiating the details of a Definitive Agreement, especially when they contain milestones for delivering a draft and executing a final version. Moreover, an LOI may be necessary for a lender or investor to move to the next step of its process.
However, there are also potential risks in using LOIs. If inartfully drafted, or if the parties act as though they have reached a deal, the LOI may be deemed a binding contract, obligating the parties prematurely.

Further, many courts have found that execution of a letters of intent  creates an obligation for the parties to negotiate, in good faith, a reasonable agreement, which may be an unintended consequence of signing. Another
possible disadvantage of using an LOI is that a party may share the letter with a competing bidder to shop the deal to see if they can get a better offer. Even worse, deal momentum may die while negotiating a trivial LOI provision for a simple transaction that could have gone straight to the Definitive Agreement.

Indeed it is often the case that conceptual agreement on the basic deal points will allow a buyer to prepare
an agreement of sale, without the need to incur the time and expense of negotiating letters of intent. But, for
the complex commercial transaction, an LOI can provide a necessary level of comfort prior to expending significant resources on investigations, inspections, analysis and negotiation of a Definitive Agreement.

If you use letters of intent, be clear and specifically describe the binding provisions, carefully distinguishing them
from the non-binding provisions. If there are no special conditions or complicating factors, go straight to the Definitive Agreement instead of preparing an LOI to avoid unintended consequences, such as a forming a contract or creating an obligation to negotiate in good faith.

The contents of this article are for informational purposes only and none of these materials is offered,
nor should be construed, as legal advice or a legal opinion based on any specific facts or circumstances.

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