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Promising Too Little

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This article was published in The Offer, a publication of the Georgia Real Estate Investor's Association, in 2003.  


Promising Too Little


Yes, Virginia, you can promise too little.  In many “no money down” real property transactions in which the investor-buyer takes property “subject to” the seller’s underlying indebtedness promises may or may not be made over the coffee table.  What matters most is the promises that are made in writing when the documents get signed.  And, yes, you can promise too little in writing. 


The term “consideration” as discussed in this article is a legal term that relates to the providing of a thing or act of value in exchange for the thing or act of value received from the other party to a contract.  Money or other personal property can be consideration.  A promise to do something or to refrain from doing something can be consideration.   The creation of a legal relationship can act as consideration. 


The Official Code of Georgia Annotated provides as follows, “A consideration is essential to a contract which the law will enforce.” O.C.G.A. § 13-3-40 (a).  In other words there must be consideration in order to have an enforceable contract. 


As in most areas, the law of the State of Georgia has balance regarding the issue of consideration.  On the one hand the law requires consideration and yet declares that the amount of consideration is not generally an issue.  The law provides that so long as the requirement of consideration is met, courts will not look into whether one party was disadvantaged or advantaged.  However, the law also provides as follows, “Mere inadequacy of consideration alone will not void a contract. If the inadequacy is great, it is a strong circumstance to evidence fraud; and, in an action for damages for breach of a contract, the inadequacy of consideration will always enter as an element in estimating the damages.”   O.C.G.A. § 13-3-46 .  In other words if one party conveys something of great value (say, a house) and the other party conveys very little (say, $10) the courts may find there is no consideration or may deem the amount paid as such inadequate consideration so as to amount to evidence of fraud.  See Hobbs v. Clark, 221 Ga. 558 (1965) and Sutton v. McMillan 213 Ga. 90 (1957).

Most real estate transactions are conventional, with the purchaser paying the full purchase price, typically borrowing most of the money, acquiring full fee simple title to the property on a warranty deed, and with full pay off of any underlying indebtedness owed by the seller.  However, many sophisticated real estate investors have been educated in methods for acquiring property that involve little or no money changing hands (“no money down”) and taking ownership of property while the underlying indebtedness remains a lien on the property (“subject to” investing).  This approach can be extremely lucrative and is sometimes necessary for an investor that has little capital or credit.  The risk in this type of investing is how little is too little to pay for a piece of property in a “subject to” transaction.  Or put a better way how few promises can the investor make and still have an enforceable contract? 


Many real property investment advisors have proposed using extremely aggressive contract forms in connection with acquiring an interest in real property.  The forms used have different names, such as Standard Real Estate Purchase Agreement or Purchase and Sale Agreement, as well as associated disclosure forms.  In a conventional transaction there in no question about consideration in the typical Purchase and Sale Agreement.  In the typical conventional transaction the purchaser is agreeing to pay tens or hundreds of thousands of dollars in exchange for title to property.  In contrast many of the forms currently being used by investors and recommended by real estate investment advisors provide that the purchaser is paying $10 and other good and valuable consideration.  The reality is that there is no “other good and valuable consideration” and almost always the $10 has not been paid or at least there is no cancelled check to establish that it was paid, not that $10 would be adequate consideration even if the cancelled check was available. 


In many instances the forms currently being used by “no money down” real estate investors include liquidated damages provisions.  These provisions purport to limit the damages payable to the seller in the event of breach by the investor buyer.  In many cases this turns what would have been a contract in which the seller had an obligation to sell his house and the buyer had an obligation to purchase the house into what is in effect an option to buy on the part of the investor buyer. 


Also prevalent among form sets being used by “no money down” investors are disclosure documents that basically advise sellers that the purchaser has made no promises to the seller.  These documents will often disclose that the seller’s underlying mortgage will remain in place, the seller will remain obligated on the underlying mortgage, that the buyer assumes no obligation to pay the underlying mortgage, and if the buyer opts not to pay the underlying indebtedness that the property will go into foreclosure. 


When one combines the effects of the liquidated damages provisions in typical investor real estate purchase documents with the effects of the disclosure documents, it begins to appear that the buyer has promised nothing or almost nothing in writing and has sometimes acquired all right, title, and interest in a piece of property or at least stands to so acquire that interest. 


This author suspects, without knowing, that some of the professional real estate investment advisors that recommend specific forms market them on the basis that the buyer will not be obligated to do anything as if that is a good thing.  In some cases the buyer might want to have little obligation.  On the other hand if the buyer wants to enforce the agreement he may well have preferred to have obligated himself to do something.  Regardless of whether such marketing is occurring the fact remains that some of the form packages being used are shockingly lacking in consideration flowing from the investor buyer to the seller. 


The problem here is that the courts may look upon transactions that are documented in this way as being without consideration.  As mentioned above this can be fatal to the enforceability of a contract.  This can be a problem not just when the investor buyer goes to close and the seller has had second thoughts.  Problems can arise months, a year, or sometimes years after a transaction.  A seller may have righted his financial ship.  He may believe that he was taken advantage of.  The investor buyer may be renting the property.  The seller may sue to cancel any deed or conveyance and may prevail if the courts deem that the transaction included no consideration or such inadequate consideration as to be tantamount to fraud. 


On occasion an investor may want to acquire rights in property with an eye toward assigning his interest as a “wholesaler” to another investor or with some other short term purpose in mind.  The investor may not want to have any obligation and may not care if the seller has a change of heart and wants to back out for lack of consideration.  In those transactions the investor buyer may prefer a contract that provides no obligation on his part.   Note that any investor purchasing from such a wholesaler should be wary of the consideration issue. 


In the more common situation in which the investor buyer intends to spend some money on the property and typically hold the property for some period of time the buyer should put whatever his minimum intentions are in writing.  In these contexts typically the investor buyer has made up his mind to spend some amount of money improving the property or bringing the underlying obligation current.  Even if the investor buyer has only decided to bring the mortgage current, clean, paint and carpet for possible resale, or pay 2,4,or 6 mortgage payments while attempting to rent or sell he should include these intentions in writing in the contract(s) with the seller.  Doing so helps avoid the consideration issue.  Typically the dollar amounts are in the thousands and questions about the adequacy of the consideration and fraud begin to disappear particularly in comparison to arguable equity in the subject property.  The bottom line advice here is that whatever you are willing to do, whatever you are willing to spend, put that in the contract.  Don’t go into a deal knowing you will spend $7,500.00 and not put that in the contract.  You will be obligated to no more than you had already psychologically committed yourself to in the first place.  And you may avoid a nasty legal problem down the road.



About the Author


David J. Reed is in the private practice of law in Atlanta .  For inquiries see davidjreed.com. 

Send mail to davidjreed@davidjreed.com with questions or comments about this web site.
Last modified: December 05, 2006