How To Write An Investor-Friendly Real Estate Contract
If you’re a Texas real estate investor, you will have many occasions when you will have to use the TREC form that most realtors use exclusively. But if there are no brokers involved, or they don’t mind if you and your seller use a different contract form, you should offer to submit the contract form yourself. If you draft the contract, you are in a superior negotiating position, as the other party will have to react to what you propose, rather than the other way around. Drafting your own investor-friendly contract is not as difficult as you might think, and if you follow a few basic principles, you can put together a form that covers all the bases and tips the scales in your favor.
- Choose an Effective Date
The effective date of the contract does not have to be the date the contract is signed. It can be the date the contract is receipted by the title company, the date the last party signs it, or another date that you choose. Regardless of what date you choose, you should put the effective date in a prominent position at the top of the contract so it’s easy to find later, when you’re calculating deadlines.
- Identify the Parties
You will want to make sure that the contract spells out who the seller is and that the seller is who actually owns the property. If the property belonged to a deceased family member, you’ll have to get information on the probate process. If the property belongs to a corporation or other entity, you’ll need to be sure you have the right entity listed on the contract. And if the property belongs to an individual who is married, you will want to have the spouse sign the contract too, because under Texas marital property law, there is a good chance the spouse has some interest in the property, even if it was bought before the marriage.
When entering your name as the Buyer, you can add “and/or assigns” if you wish, but it’s not technically necessary, since as a general rule, Texas contracts are freely assignable.
You must include a legal description of the property you are selling. Ask the seller for a copy of the deed that conveyed the property to them, and copy it verbatim into the new contract. Make absolutely sure that the legal description is correct or you could have major headaches at closing and even beyond. This section should also include an agreement by both parties concerning the transaction, e.g., “Seller hereby agrees to sell, transfer, assign and convey to Buyer, and Buyer hereby agrees to buy from Seller, that certain parcel of real property located in _____ County, Texas, and further described as follows….” You can also use this section to specify whether or not any personal property will convey with the real estate, and under what conditions.
- Purchase Price
It goes without saying that the contract should include the purchase price, but sometimes it can be pretty tricky figuring out how to specify the exact number. If you, the investor, are taking over payments on a loan, or planning on doing a short sale, or paying a price per square foot, you might not be able to nail down an exact figure. That’s okay, as long as you specify what portion of the price will be in cash, what portion will be seller financing, etc., and that it is very clear what you are paying and what you are not.
- Earnest Money
Sellers will obviously ask for as much earnest money as they can. They will usually tell you something about how 1-2% earnest money is “standard in the industry.” Whether or not that’s true, it’s certainly not true that any particular amount of earnest money is required to make the contract enforceable. As an investor, you will always want to put as little earnest money down as possible. It can be as little as $10 and the contract will still be binding. However, just to be safe, you should make a small portion of the earnest money non-refundable. Call it “independent consideration” and specify in the contract that the seller gets to keep that independent consideration no matter what. It may seem like an archaic formality, but it will erase any doubt that you have a legally valid and enforceable contract.
The contract should specify how you, the investor, will bring funds to the closing table, even if that doesn’t mean you’re paying a dime in cash. If this is a creative deal, you may be paying part of the price in cash, part with seller financing, part with third party financing, assuming a note, and/or doing a short sale!
- Title and Survey
Even though title insurance is expensive, I always strongly recommend my clients get it for each property they buy. The convention in Texas is for the seller to provide the owner’s title policy at their expense, so you should always write the contract that way. Give yourself an inspection period for the title commitment – say 10 days after the effective date for your seller to provide the title commitment, and 10 days after that for you to make your objections. If there is a fairly recent survey, you might just ask the seller to provide a copy, but if there have been any significant changes to the property since the previous survey, you will want a new one. Ask the seller to pay for it. Some won’t, but there’s no harm in asking.
- Access and Inspection
This section is one of the most important parts of the contract, because it will give you the wiggle room to get out of the deal if you discover something that makes you change your mind about buying the property. Include in the contract a provision that allows you to access the property upon reasonable notice to the seller. You can use this access to conduct inspections, but also to show prospective tenants and buyers, if you’re planning to quickly flip the property. Give yourself an “inspection period” that is as long as possible, and put a clause in the contract that you can terminate the agreement for any reason during that inspection period. That way, if you don’t like your financing terms, or you’re not sure you can flip it for a profit, or if you just decide you don’t like the deal anymore, you can terminate and walk away after a free look. Be sure to mention that if you terminate, the seller agrees to notify the title company and agree to release your earnest money back to you.
You don’t have to pick an actual date (like November 4th) for your closing date. Instead, it can be “a date not more than 30 days after the expiration of the Inspection Period, or such other date mutually agreed upon in writing by both parties.” This section should specify when and where the closing will take place and what each party has to do at the closing. As the buyer, you will only need to show up with the money, but the seller will need to deliver a general warranty deed (conveying the real property to you), a bill of sale (conveying the personal property to you), a title policy (insuring your ownership in the property), and perhaps other documents required by the particular transaction or the title company. You should specify how property taxes will be prorated, if at all, and who will pay which closing costs, and in what percentage.
Make absolutely sure you include a default provision specifying that if you walk on the deal, the sole and exclusive remedy for the seller is to keep your earnest money. Do not agree to a contract where the seller has the right of specific performance, as the last thing you would ever want is the seller suing you to try to force you to buy a property that you don’t want.
- Special/Miscellaneous Provisions
Don’t get bogged down by a form; there may be some unique circumstances in your deal that require some special provisions to be written in. You don’t necessarily need a lawyer to write in that you want the carpet to be cleaned within a week before closing. And there are a ton of so-called “boilerplate” provisions that can offer you some extra protection, such as a “merger” clause. This is a provision that makes it clear that what you sign is the complete agreement between the parties and supersedes all “prior or contemporaneous oral or written agreements” between you and the seller concerning the property. This is important because it prevents your seller from suing you after closing and claiming that you verbally promised to pay him an extra $10,000 within 60 days after closing and that that agreement was part of the agreement you signed. (I won’t get into an academic discussion of the statute of frauds as it pertains to this hypothetical, but in general, real estate contracts have to be in writing to be enforceable, but there are a few exceptions to that rule that you really don’t want to end up in court arguing over.)
My standard investor’s contract form is only 3 pages long and it covers all the bases. You can draft your own investor-friendly contract without too much trouble and save yourself thousands of dollars in the process — not just on attorney’s fees for drafting the agreement but avoiding some of the seller-friendly provisions that can cost you a great deal of money “down the line.” Good luck.