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.
“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. §
As in most areas,
the law of the State of
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.
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.
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
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
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