As is said of American politics, legal negotiations between parties with equal leverage are generally played between the “40 yard lines.” The party who prepares the first draft of the legal agreement will usually draft a contract which puts the “ball” on the other side’s 40 yard line (i.e., noticeably, but not unreasonably more in favor of the party who prepares the first draft). When the opposing side makes revisions to the contract, they may push the ball back to the other side’s 45 yard line (i.e., slightly in favor of the party who makes revisions to the first draft). However, when all the back and forth is complete, as a general rule, the party who does not prepare the first draft usually winds up with a contract that is at best equally balanced
(i.e., at the 50 yard line) or slightly more in favor of the party who prepared the first draft (i.e., at second party’s 45 yard line). So the decision as to who prepares the first draft of the agreement is important, and as a general rule, you want your attorney to prepare the first draft. Clients are often reluctant to do this because they believe (correctly, in most instances) that preparing the first draft is more expensive. The additional cost, however, is generally worth it as you will usually end up with a contract that is more favorable to you than the other party. There are exceptions, however. Where the parties are not co-equal, the party with the greater leverage will almost always insist on preparing the first draft. Loan transactions are a classic example of this – borrowers never prepare the first draft. Another exception may be where your attorney does not have a “standard” form of contract for the particular transaction. For example, if your attorney is a corporate lawyer, he or she may not have a standard commercial lease agreement. In such a situation, the cost of having your corporate attorney prepare a lease from “scratch” will be significantly more expensive. The cost may be worth it (for the reasons discussed above), but there is another concern. Your corporate attorney might not know what is and what is not generally included in a commercial lease, and without this knowledge, it is difficult to know how to draft a lease in a pro-landlord or pro-tenant fashion. Recall, the goal of preparing the first draft is to put the ball on the other side’s 40 yard line. Without a working knowledge of the common terms in a lease, there is a risk the ball might wind up on the 50 yard line – or even on your own side of the field (i.e., a lease that is marginally in favor of the other side). (This may in and of itself be a reason to use an attorney with more knowledge of leases. However, even if your corporate attorney is not an “expert” in leases, he or she can often understand the issues after seeing the agreement prepared by the other side.) In sum, it is best to have your attorney prepare the first draft of any agreement, even though it is usually more expensive. There may be instances where leverage dictates that you have no say in the matter. However, if you do have a say, ask your attorney if he or she has a “standard” form from which to work, and if not, whether he or she has sufficient knowledge of the issues to know what to include and not include in the agreement itself. It is not uncommon in the current market for investors to purchase distressed loans secured by real or personal property. The loans are purchased at a discount from their face value – often pennies on the dollar. Although some investors expect repayment from the borrower, in most instances, the investor is purchasing the loan in order to foreclose on the real or personal property security (which the investor believes is worth more than the discounted loan purchase price).
There are significant tax traps and issues pertaining to the purchase of a loan (and in my opinion, if the goal is to acquire the real property, you are better off agreeing to purchase the property after the lender forecloses). But this post focuses on a different issue, an issue that is generally not even contemplated by the buyer or seller in the loan purchase agreement – what happens if the borrower repays some or all of the loan before closing? In the vast majority of cases, the loans being sold are in default. Usually, the borrower has not made a payment in months and the expectation for future payment is slim to none. Perhaps then it is not surprising then that most loan purchase agreements do not even address the issue. Consider the following possibility: Investor agrees to purchase a secured loan with a face value of $100 for $60, but prior to closing, the borrower repays the loan in full. Is the purchase agreement cancelled, and who gets the $100? Or, consider if the borrower repays $40. Who gets the $40? Is the buyer obligated to purchase; is the seller still obligated to sell? What if the borrower pays $60? There are no clear answers to these questions (and it can be a true mess if the issue is not addressed in the purchase agreement). Perhaps the closest analogies are the “damage” and “condemnation” provisions in most standard real estate purchase contracts. Generally, in the event of damage to or the condemnation of property prior to closing, the buyer has the option of either terminating the contract or affirming it (in which case the seller will assign the insurance proceeds or the condemnation award). In the case of a loan purchase agreement, the converse should generally be true – the seller should have the right to terminate the agreement or affirm it (in which case the payments received prior to close would be credited toward the purchase price). Drawing from the “damage” and “condemnation” provisions in a standard real estate purchase agreement, it might also be possible to set an amount below a certain threshold where the seller would not have the right to terminate (and the payment(s) would be credited toward the purchase price). But these are just some of the options. There are no “rules.” For example, there is no reason why the “risk” of payment could not be shifted to the seller by crediting all proceeds received after closing to the buyer (even if they exceed the purchase price). One could even give the buyer the right to terminate (which can be important especially if the buyer’s goal is to foreclose the property – not to be a long-term lender). In any event, the issue of what happens if payments are received prior to closing should be addressed in all loan purchase agreements. I often hear real estate brokers, attorneys and even judges mindlessly hype the importance of “as is” clauses found in most real estate purchase agreements. A typical “as is” clause provides that the buyer agrees to “acquire the property‘AS IS’ and with all faults.”
But what legal effect, if any, does an “as is” clause really have? If you listen to your average broker or plaintiff’s real estate attorney, you might think an “as is” clause dramatically alters the relationship between seller and buyer in favor of the former. It does not. In fact, I would suggest that an “as is”clause legally adds nothing to a real estate purchase agreement. An “as is” clause simply means that the seller is not making any representations or warranties with respect to the condition of the property. But this is the default rule in California. Under Civil Code §1113, only two representations are implied by law – (1) that the seller has not previously sold the property (or any right or interest therein), and (2) that the property is free from encumbrances. There are no other implied covenants. In other words, unless modified by agreement, all sales of real property are “as is” as a matter of law. So, what matters is not whether the sale is or is not expressly “as is.” What matters are the express representations and warranties the seller is actually making in the purchase agreement. For example, a purchase agreement which limits the seller’s representations to those found in Civil Code §1113 is as close to an “as is” sale as you can find – regardless of whether or not there is an“as is” clause. On the other hand, a purchase agreement which contains an “as is” clause, but where the seller makes 35 different representations and warranties is a far, far cry from a true “as is” sale. With that being said, do I include “as is” provisions in my purchase agreements when I represent the seller? Absolutely. Why? It is quite simple. As long as many brokers, attorneys and judges continue to believe that an “as is” clause somehow alters the seller-buyer relationship, I am going to include it. So while I include the “as is” for whatever marginal or perceived effect it may have, I devote my time and attention to the representations expressly included in the purchase agreement, and not to the presence or absence of an “as is” clause. |
blogHi. I'm Stephen Flynn. Attorney and founder of the Law Offices of Stephen M. Flynn. This is my blog. Enjoy! Archives
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