Changing the Game in Commercial Real Estate Contracts

Originally published in the November/December 2015 edition of The Nebraska Lawyer.

I’m mad as hell and I’m not going to take it anymore. Hopefully, this article will be preaching to the choir. In a perfect world (in a real estate practice), I would assist clients with buying and selling real estate, leasing real estate, and helping clients with transactions. I would help my clients understand their rights and responsibilities, and draft clear documents so that the parties can proceed with the deals of which they intend to be a part.

In that perfect world, there would be no real estate disputes (this is my perfect world, not a litigator’s perfect world). Rather, the parties would amicably close transactions, and my clients would feel that I helped them reach the best deal possible and achieve their goals. I suspect that many real estate practitioners feel the same way, and will understand why I am writing this article. If so, this is a call to my fellow attorneys to take up the cause – – bang the drum for better real estate contracts.

There needs to be a fundamental change in the forms of contracts that real estate practitioners are using in Nebraska. Talk to your friends – – brokers, both commercial and residential, talk to people within the Nebraska Real Estate Commission, and talk to the Nebraska Board of Realtors. In New York, a residential real estate transaction rarely closes without an attorney. In Nebraska, it is uncommon for realtors to involve an attorney in a residential transaction.

Unfortunately, it is becoming more common for brokers to facilitate closings of commercial transactions without an attorney. While it sounds self-serving, I am not trying to create more business for myself (although that’s always nice). Rather, I frequently see the same situation repeating itself – – real estate transactions gone bad – – with bad parties, and even worse contracts. When these situations occur, there is little I can do to achieve the client’s original goals. Rather, at that point, all I can do is attempt to make the most out of a bad situation.

Why is this happening? Simply put, bad contract forms, which are getting altered over time and becoming even worse. The standard uniform real estate purchase agreement that is used by many Nebraska brokers is, in my humble opinion, a bad form. It contains checkbox options which often do not get cleaned up or checked, signature pages that are difficult (at best) to understand, and terms that are not clearly defined. In particular, I see the follow problems:

1. Improper (or no) use of defined terms. Defined terms are used inconsistently, sloppily, and also without quotations to indicate that they are, in fact, “Defined Terms”.
2. Not properly identifying the parties. When I draft a commercial form of purchase agreement, I clearly state the date of the agreement, the name of the buyer, and the name of the seller in an introductory paragraph. The commonly-used residential broker’s form merely states “the undersigned buyer”, and does not necessarily have the buyer or seller print their names. Instead, we are left to guess at who that party may be by an illegible signature.
3. Lack of proper representations and warranties. The residential form of purchase agreement is seller-friendly, but many times this form is used by an agent representing both parties through a dual agency, or not negotiated heavily by a buyer’s agent, other than filling in the blanks. Obviously, brokers have a valid interest in obtaining a commission. However, a contract simply cannot (or at least, will rarely) protect both a buyer and a seller equally.
4. Offers, counteroffers, and addendums. The residential form of purchase agreement starts with an offer; later, counteroffer terms are added, often unclearly. Then, addendums are added. At this point, you cannot tell where the offer and/or the acceptance – – the true classic “meeting of the minds” – – occurs (or when it occurred).
5. DocuSign. An increasing number of residential brokers are encouraging the use of DocuSign (or similar software), so that contracts are signed electronically. Many commercial brokers are following suit. I get it; we live in a world where we can (and need to) move quickly. While electronic signatures are often enforceable in Nebraska and many other states, the best practice remains to follow up with an original ink signature. Why give a party any argument that they didn’t really sign a contract?

As lawyers, we must ask ourselves, both for ourselves and for our clients, what is the true purpose of a contract? Ideally, a contract should provide a guideline for the parties (and, if necessary, a judge or jury) for what was supposed to happen, when it was supposed to happen and where it was supposed to happen. It should clearly state the parties, and their rights, responsibilities, obligations and intent. What is supposed to happen? When is it supposed to happen? Where is it supposed to happen? A contract should, in plain language, spell out these terms.
In Nebraska, a residential purchase agreement MUST:

1. Be in writing. Nebraska Revised Statute § 36-103.
2. Be signed by the parties involved in the transaction, or by those with sufficient (written) authority to sign for the parties involved. Nebraska Revised Statute § 36-105.
3. (If selling homestead property) Be executed and acknowledged by both the husband and wife, as “seller”. Nebraska Revised Statute § 40-104.
4. Include a Seller Property Condition Disclosure Statement, executed and delivered by seller to the purchaser (or purchaser’s agent) on or before the effective date of any contract and the purchaser must acknowledge receipt of the same. Nebraska Revised Statute § 76-2,120.
5. (To overcome a possible statute of frauds claim) Contain sufficient certainty and definiteness as to the parties, property, consideration, terms, and time of performance.

When drafting a contract, it is always a good idea to work backwards, and assume the deal will go bad. While many people dislike (to be kind) lawyers for thinking in this “worst-case scenario” frame-of-mind, without this manner of thinking, there would be no need for contracts. Instead, the parties could simply do things the old-fashioned way, with a verbal agreement, and spit and a handshake.

It would be nice if the world could operate this way, but it often doesn’t. Parties disagree. People change their minds. Unforeseen circumstances occur. Contracts should clearly address all these possibilities, and, more importantly, should address what happens if a party defaults. The form of uniform residential purchase agreement commonly used in Nebraska often does not contain a remedy provision. What happens if a party defaults?

Without a clear remedy provision, a judge or jury is left to award the full universe of possible remedies that occur by state law. This could include consequential damages, even if that is not what the parties intended. This is probably one of the biggest areas of difference in the goals of a buyer versus a seller. Sellers want specific performance – – for the buyer to follow through with the deal. Buyers typically want only to risk their earnest deposit. The parties should negotiate and clearly set forth in the purchase agreement the remedies they require.

More and more frequently, I see the standard residential uniform purchase agreement being altered by brokers for commercial transactions, without the advice of a lawyer. Again, I would love to review many of these deals, not just for the business, but to make sure they are closed correctly. Many of the potential problems stated above regarding the residential form of purchase agreement are magnified in a commercial setting.

For example, the amount at stake in a commercial setting is often larger. Moreover, the residential form includes many provisions that simply do not belong in a commercial form. These include smoke detector clauses, sanitary and improvement district clauses, and termite clauses. While it may be necessary to include such provisions, it is usually not the case. Additionally, in commercial contracts, it is often necessary to include broader environmental and inspection clauses, more detailed representations and warranties, and more specific due diligence terms.
Often, commercial buyers or sellers are limited liabilities or corporations. Without clearly identifying the parties in the contract, these corporate protections can be lost. Often, forms contain no assignment or 1031 exchange language, which can also be a key and necessary component of commercial contract forms.

The mechanics of the offer and counteroffer (and addendums) used in the residential contract setting are often confusing, and they simply do not work well, if at all, in a commercial setting. Rather, parties would usually be better served to agree upon certain terms (such as price, closing date, and due diligence period) through a nonbinding letter of intent, and then draft a clear contract that both parties can negotiate, and, after that negotiation, execute the agreement simultaneously (or as close as possible) to achieve the offer and acceptance required to form a valid and enforceable contract.

Lastly, even the execution provisions of the residential purchase agreement form leads to confusion about the parties. For instance, why does the witness signature line exist? The best witness to a contract is a notary, who should be a party without an interest in the transaction, and should be set forth in a separate notary block – – not a witness line. The best practice would be clean, clear signature blocks with the parties’ names printed underneath the signature lines, with clean, clear notary blocks to follow (not always required in commercial settings, but highly advisable).

Addressing the above concerns won’t fix every potential problem, but it’s a valuable start in the right direction. So tell other lawyers. Tell your clients. Tell your broker friends. For the benefit of the real estate industry and all involved (other than litigators), let’s create and use better real estate forms.

Jon E. Blumenthal