Option agreements and conditional contracts - Part 2
Special issues
Here are some of the finer points of strategy you may find helpful. First, choose an agreement designed for the purpose. If the subject matter is a domain name, the procedures will be very different from those in an option to buy land.
Second, choose a full version document which will cover as many as possible of the contingencies and risks. Use a simpler version only if you think your optioner will be frightened away by a real “legal document”. Fortunately all Net Lawman documents are comprehensible to most non-lawyers, so your land or property owner is not likely to be put off easily.
Next you have to consider what terms you really want in your document. I do refer here to Net Lawman documents because this article is also intended to give you specific advice on which document to choose.
First, the basic deal: do you want an option or a conditional contract? Here is the difference:
- An option ties the seller, but gives the optioner complete freedom to buy or not buy, without having to give a reason.
- A conditional contract is different in that the contract is firm and binding on both parties from the beginning, subject only to the condition being satisfied.
An option is usually the most flexible instrument for the buyer, particularly in a situation where there are several unknown variables. (You cannot have a conditional contract if you are unable to identify the conditions!)
A conditional contract protects a seller by preventing the buyer from avoiding the contract if the expected condition is satisfied.
An example where an option is usually used, is when an optioner wants to tie down a seller of land while he obtains planning consent. So long as the satisfaction of the condition is in the hands of the buyer, the seller does not need to worry about the buyer wandering away. If that buyer gets his consent, he will be knocking at the seller’s door with a cheque in his hand.
An example where a conditional contract may be appropriate is: suppose the Department of Transport is discussing a new road through the seller’s land. The road will take land for which the seller will be compensated, but the buyer sees that a ten acre site will end up adjacent to an industrial area and may well be re-designated as industrial land. In this case there is nothing that either party can do to make the re-designation happen.
The buyer wants to buy and to tie the seller to him, but only if the land is re-designated. The seller also wants to sell, and he also wants to avoid the buyer deciding that he can do a better deal later, or walk away from it completely. So he wants something binding. He will go for a conditional contract, which binds the buyer to buy if the re-designation happens, whether he still wants to or not.
If you want a conditional contract document, use PR311. It is all there.
Now we will look at alternative option agreements available from Net Lawman. PR304 is a very short agreement. It contains all that is required in law to tie the seller to the deal, incorporating the Standard Conditions of Sale. However, it does not include bells and whistles, so that there is a higher risk of additional work or problems in obtaining a transfer of the land than with the fuller versions.
The “basic” version is PR303. It is actually a full version which includes for example:
- a director’s guarantee, in case the seller is a company;
- a list of sellers warranties as to the current planning status of the land;
- seller’s indemnity;
- provision for buyer to nominate the purchase to someone else;
- inclusion of any unregistered rights over adjacent land;
- and more
PR301, 302 are variations on the basic version. PR304 is a simple version. We will discuss in turn.
A common problem in an option negotiation is the timing. The optioner does not want to commit money and time to increasing the value of the land, only to find his option has expired before he is ready to buy. Suppose the optioner depends on borrowed money to complete his purchase: he cannot borrow until his lender is sure that the full value is in place. So, while the optioner may be quite happy to complete, knowing for sure that his formal planning consent will be through in a week, if he cannot find the money before the option expires, he is simply handing a large windfall to the land owner.
However, the land owner wants to tie up his land for the shortest possible time. He also wants a payment for the option which reflects the fact that his hands are tied for that time. So it is easier for the optioner to negotiate an option for one year than for five years.
One way round this dilemma is to provide a “second bite at the cherry”, through an extended option. How this works is that the original agreement provides for the extension of the last exercise date, but usually, only against a substantial additional payment. The land owner has a good profit for the extra time, and the optioner has the choice (no compulsion of course) of whether to abandon the option and take his loss, or pay the extra because he is pretty sure that an extra period will see him home and dry.
Provision for an extension is useful when it is likely that the optioner will be better able to assess the chances of achieving what he wants at some later date. He may be able to negotiate a low price for an option for one year, enabling him to make investigations and test the water, with a higher price for say a further two years, when he is reasonably confident of success. Net Lawman option PR301 provides for this.
Another common problem is that neither side knows what the land will really be worth on the last date for exercise of the option. Planning issues are rarely cut and dried. It is likely that some compromise will be needed by the optioner from his preferred scheme. He may have to build less, or change the scheme, or improve nearby roads. The land owner wants full value, but the optioner does not want to commit to a scheme he may never see. There are two possible solutions.
In a clear case, it may be possible to devise an exercise price at various levels depending on the outcome. In that way the optioner pays roughly the same proportion of the end value whatever the outcome. This can be covered in the option agreement by specifying a base price and one or more additional prices, depending on the outcome. This option is covered ib PR302.
Another alternative is to have the land valued by a professional valuer at the exercise date and for the optioner then to pay the proportion of that value which was set out in the agreement. The only issue here is to identify a valuer trusted by both parties. This is preferable to merely providing for a joint appointment at the time of exercise.
Finally, a word on contracts for options to buy other goods or rights. First, consider that you can create a valid option contract to purchase almost anything. By far the most common contracts are those to buy financial instruments of one sort or another: shares, debt instruments, interest rate swaps, financial options .. . . . They are in a category of their own, not covered by Net Lawman. But we do provide contracts for an option to buy any “goods” such as a horse or caravan or boat, and to buy intellectual property, such as a domain name or a trade mark.
All these possibilities (except the valuation version) are covered in the various Net Lawman documents which you will find at http://www.netlawman.co.uk/bizdoc/property-options.php . You will appreciate that the possible alternative scenarios are without limit. Net Lawman can draw a document to your precise instructions, or fine tune your own edited changes. (But we do not like to try to sort out a document you may have picked up elsewhere!)
Relevant Net Lawman documents:
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