Chapter 7: Real Estate Contracts

Chapter Seven
Real Estate Contracts

DRE Requirements
Agent must give parties copies of agreements they sign when they sign
Brokers must keep copies of transaction documents for minimum of 3 years
Listing agreements
Deposit receipt and purchase agreement
Trust fund records
Copies of canceled checks

Listing Agreements
Listing agreements are agreements where a seller employs a broker to find a buyer for the seller’s property for compensation
Listing agreements are always with a broker, even if a salesperson negotiates and signs the agreement
Salesperson is acting as an agent of the listing broker

When is compensation earned?
Generally, listing agreements state that the broker earns compensation if, during the tem of the agreement (or any extension):
a buyer is located who is ready, willing, and able to purchase the property at the price and on the terms stated in the listing, or
the seller accepts an offer to purchase on other terms and conditions
Type of listing agreement determines whether the broker is entitled to a compensation if someone other than the listing broker finds the buyer
Types of Listing Agreements
Three main types of Listing Agreements:
Exclusive Right to Sell
Exclusive Agency
Exclusive Right to Sell
Most common, most beneficial to listing broker
Figure 7.1, pages 129-131
Listing broker entitled to commission if property is sold by:
Listing broker
Any other broker
The seller
Exclusive Agency
Listing broker entitled to commission if property is sold by:
Listing broker, or
Another broker
Listing broker is not entitled to commission if commission is sold by the seller
Open Listing
Listing broker entitled to commission only if property is sold by listing broker
Must be procuring cause of the sale
Listing broker is not entitled to commission if the property is sold by:
Another broker
The seller
Listing Agreements Requirements
Listing agreements must be in writing for the broker to enforce agreement to pay compensation
Statute of Frauds requirement
A copy must be given to all sellers when they sign
Definite termination date required for:
Exclusive Right to Sell
Exclusive Agency
But not for Open Listings
Special Requirements
In listing agreements for residential properties (1-4 units):
The broker must notify the seller that the amount of commission is not set by law, but is negotiable
See page 146, paragraph 3, Notice
The amount (or percentage) of commission cannot be preprinted
See page 146, paragraph 4. A
Net Listings
Net listings are a classification based on the amount of commission, not when the broker earns the commission
Could be exclusive or open
Seller sets the amount of money that seller wants to "net" from sale of property
Net = sales price minus loans and closing costs
Broker tries to sell the property for a price that will be more than the amount required to get the seller’s net amount
Broker's commission is the sales price less the amount required for seller to get the "net" proceeds
Net Listing Examples
Seller want to net $40,000, has a $150,000 loan against the property that will be paid off, and will have $10,000 in closing costs, excluding the real estate commission
Net listing disclosures
Before the seller signs the purchase agreement, the broker must disclose:
the sales price, and
the amount of commission the broker will earn
Net listings are not recommended
Potential for violation of duty of loyalty (adverse interest)
CAR® Purchase Agreement
California Association of Realtors® Residential Purchase Agreement is the most commonly used purchase agreement for residential properties (up to 4 units)
Example, text pages 143-150 (note that CAR® updated form)
Purchase Agreement Purposes
The CAR® agreement
When completed and signed by buyer:
serves as receipt for buyer’s deposit
sets forth the terms of the buyer’s offer
If accepted by seller:
becomes the contract between seller and buyer
confirms agencies and commission
Receipt for Deposit
Remember - buyer’s deposit check is a type of trust funds
Buyer’s instructions: broker not to cash check until acceptance
seller notified in writing that check not cashed
Broker must, within 3 business days:
Deposit trust funds in escrow, or
Deposit trust funds in broker’s trust fund account
No option to give deposit to broker’s principal
Buyer's Offer
The entire form, when completed and signed by the buyer, is the buyer’s offer
Some of the more important terms of the offer are detailed in paragraph 1
Contingencies – Conditional Promises
If a party to a contract makes an unconditional promise (covenant), that party must perform as promised when time for performance arises
Failure to perform is a breach of contract
Other party can seek a remedy
If a party makes a conditional promise, that party must perform only if certain condition or event occurs
If event condition or event does not occur, the party is not in breach and has a legal excuse for not performing the promise
May cancel contract or waive condition and proceed
The other party is not entitled to seed a remedy
Common Contingencies in Real Estate Purchase Agreements
Financing contingency
Paragraph 3 H
Appraisal contingency
Paragraph 3 I
Inspection contingency
Paragraphs 10 and 14B
Approval of title contingency
Paragraph 12
Sale of Buyer's current home contingency
Paragraph 13 (if box is checked) and form COP is attached
Loan Contingency
Standard contract language makes buyer’s promise to purchase contingent upon buyer being able to obtain the loan or loans described in paragraph 3
Checking H (4) means there is no loan contingency
Standard language provides that buyer will remove loan contingency and proceed or will cancel contract within 17 days
Other time periods can be specified
Appraisal Contingency
Under standard contract language, buyer’s promise to purchase property is contingent upon the property appraising for at least the purchase price
Checking first box in 3 I means there is no appraisal contingency
Standard contract language provides that the buyer must remove the contingency or cancel contract at same time as the loan contingency
Different time periods can be specified
Inspection Contingency
Standard contract language makes buyer’s promise to purchase contingent upon inspections
Paragraph 14 B provides that the buyer must remove contingency or cancel contract within 17 days
Different time periods can be specified
Buyer may request that Seller make repairs, but Seller is not obligated to make repairs
Liquidated Damages
Liquidated damages are an amount of money agreed to when the contract is made that will be paid if one party breaches the contract
Actual damages may be more or less than the amount agreed to as liquidated damages
Buyer and seller in real estate contracts often agree that the seller may retain the buyer's deposit as liquidated damages if the buyer breaches
Liquidated Damages in Residential Purchase Agreements
For purchase of owner-occupied residential properties, up to 4 units, liquidated damages clause must be in bold type and separately initialed
Rebuttable presumptions:
liquidated damages equal to 3% or less of the purchase price are reasonable
liquidated damages of more than 3% of the purchase price are unreasonable
Liquidated Damage Clause in CAR® Purchase Agreement
If initialed by buyer and seller, parties agree that buyer’s deposit will be kept by seller as liquidated damages
If deposit is more than 3% of purchase price, only amount equal to 3% is liquidated damages
If paragraph is not initialed, seller must prove actual damages if buyer breaches
Example: if purchase price is $400,000 and deposit was $20,000, what part of deposit represents liquidated damages if this clause is initialed?
Resolving Contract Disputes
When there is a dispute about the terms of a contract or whether one party is in breach, the parties can resolve the dispute by:
Negotiation – parties reach voluntary settlement
Mediation – third party helps parties to reach voluntary settlement
Litigation – decision by judge or jury
Arbitration – decision by arbitrator
Requirements for Binding Arbitration in Listings and Purchase Agreements
Agreements for binding arbitration in real estate listing agreements and purchase contracts:
must be printed in bold or red type
must contain the exact notification language required in Code of Civil Procedure § 1298
must be separately signed or initialed
CAR® Residential Purchase Agreement: Mediation
In CAR® Agreement, mediation is a required first step, whether or not the buyer and seller agree to binding arbitration
CAR® Arbitration Clause
For the buyer and seller to agree to binding arbitration, both parties must initial the arbitration provision
Arbitration provision is in bold type and has statutory notice, as required for provision to be valid
Presenting Offers
Listing agent must present all offers to seller, even if seller has accepted another offer
Seller instructs agent not to present offers
Agent knows the offer is frivolous
Option Requirements
All contract requirements apply to the option
The optionee must pay separate, non-refundable consideration for the option
an option that is not supported by consideration is merely a revocable offer
consideration for the offer makes the option offer irrevocable
First Right of Refusal (right of preemption)
With first right of refusal, owner is not obligated to sell the property, but if the owner decides to sell the property, the owner must first offer the property to the holder of the right of first refusal
Unlike an option, the holder of first right of refusal cannot force the owner to sell the property
Contract requirements apply
Capacity, mutual consent, consideration, lawful purpose, and in writing
The terms of first right of refusal must be definite
An option is an agreement that gives one party (the "optionee") the right, but not the obligation, to buy the property owned by another person (the "optionor") on stated terms for a specified time period
The optionor agrees to keep open the offer to sell the property for the time period set in the offer
Optionee may exercise offer or not
If optionee exercises the option to purchase on the terms stated in the offer, optionor is obligated to sell on terms set forth in the option
If optionee chooses not to exercise offer, optionee is not in breach
Installment Sales Contracts (Land Contract, Contract for Deed)
Installment sales contracts are agreements to sell a property with the purchase price paid in installments over the contract term
Buyer (vendee) takes possession and makes payments to seller (vendor)
Seller (vendor) holds title until vendee pays the contract price
Vendee gets a deed only after paying the contract price
Installment Sales Contracts Risks
Installment sales contracts have risks for both the buyer (vendee) and seller (vendor)
Risks for vendee:
Vendor may not be able to give good title when vendee completes payment, vendor may default on an existing loan (foreclosure)
Risks for vendor
Vendee may default on payments, difficult to regain possession of the property, may need to reimburse vendee some of payments received
Risks for both parties
Due on sale provision in vendor's existing loan
A lease is an agreement in which the owner of property gives another the exclusive right to possess, use, and enjoy the property for a specified period of time in exchange for payment of rent
Landlord and tenant have relationship based on contract and based upon the transfer of an estate in real property
Requirements for a valid lease
Contract requirements apply:
Parties with capacity
Legal object
Mutual Consent (offer and acceptance)
Written lease:
required if lease term is over one year
recommended for all other leases
Essential Parts of Lease
Names of parties
Description of premises
Amount of rent
When rent is due
Duration of lease
Maximum term for urban property: 99 years
Maximum term for agricultural property: 51 years
Rent is the consideration paid for the possession, use and enjoyment of the premises
Classification of leases by types of rent provisions:
Gross lease
Net lease
Percentage lease
Gross Leases
Tenant pays only rent to landlord
Tenant may pay utilities to utility companies
Landlord pays property expenses
Examples: property taxes, insurance premiums, maintenance, property management
Gross leases are typical for residential leases
Net Leases
Tenant pays base rent plus all or some share of property expenses
Typical expenses: management, maintenance, property taxes, insurance premiums
Commonly used for offices and industrial properties
Percentage Leases
Rent calculated as a percentage of the tenant’s gross sales on the property
Percentages differ for type of tenant
May be combined with a minimum base rent
May be combined with a net lease
Commonly used for retail properties
Percentage Lease Example
Rent Escalator Clauses
For longer-term leases, landlord will want the right to increase rents at specified periods
Lease states how and when rent will increase
Rent can increase by specific amounts at specific times
Example – Rent for year 1 is $1,000 per month, rent for year 2 is $1,200 per month
Rent changes often tied to an index
for example, the Consumer Price Index
Rent Due Dates
Unless specified, rent is payable in arrears
Most leases require rent payable in advance
Security Deposits
A security deposit is any charge collected by the landlord to protect the landlord against future defaults by the tenant
Examples: cleaning deposit, key deposit, pet deposit, last month’s rent
Security deposits belong to the tenant until applied
Amount of Security Deposits
For residential leases, maximum security deposit is:
2 times monthly rent, if unfurnished
3 times monthly rent, if furnished
For non-residential leases, there is no maximum security deposit
Amount of security deposit is negotiable between the landlord and the tenant
Use of Security Deposits: Residential Leases
Security Deposit can only be applied by landlord for:
non-payment of rent
repair of damages to the premises caused by tenant
reasonable cleaning
But not for normal wear and tear
No security deposit can be labeled as non-refundable
Residential Leases: Tenant’s Right to Walkthrough Inspection
Landlord must notify the tenant in writing of tenant’s option to request a walkthrough inspection
If tenant requests walkthrough , inspection must occur within last 2 weeks of lease
Landlord must give tenant itemized list of potential deductions from security deposit
Residential Leases: Return of Security Deposits
Landlord must provide an itemized list of any retained deposit and return balance of deposit within 21 days after tenant vacates
Landlord generally must provide receipts for any amounts withheld
Unless waived or under $126
Landlord has burden of proving that amount retained was reasonable
Security Deposits: Non-residential Leases
Landlord has up to 30 days to return deposit
No maximum security deposit
Security deposit can be non-refundable
Tenant’s Right to Possession
Landlord cannot unreasonably interfere with tenant’s right to possession
“covenant of quiet enjoyment”
In residential leases:
Landlord may enter premises:
in an emergency
to make repairs
to show premises to potential tenants, lenders, purchasers
Landlord must give tenant reasonable notice of intent to enter premises

Repairs and Maintenance
Residential properties:
“Implied warranty of habitability”
Landlord must maintain premises in a habitable (“tenantable”) condition
Tenant has duty to keep premises clean, properly operate fixtures, not to cause damage
Commercial leases:
Landlord has no duty to repair
Landlord may agree in lease to make repairs
Habitability Factors
A dwelling is not habitable if it lacks:
effective weather proofing
proper plumbing facilities
hot and cold water
proper heating facilities
proper lighting and wiring
clean grounds
adequate trash disposal facilities
stairways, floors or railings in good repair
deadbolts on main doors (13/16”)
window locks
Tenant’s remedies for Landlord’s breach of warranty of habitability
File complaint with local health officials
Sue landlord for damages
Abandon premises and terminate lease
Repair and deduct cost of repairs from next rent due
Only if tenant gives landlord notice and a reasonable time to repair
Limited to repairs costing up to 1 month’s rent
Can only be used 2 times in any 12 month period
Assignments and Subleases
In an assignment of a lease, the tenant transfers the tenant’s entire leasehold estate for the remaining term of the lease
In a sublease, the tenant retains some lease rights and transfers:
less than all of the premises,
less than all of the remaining term, or
a combination of both
Liability under the Lease: Assignment
In an assignment, the assignee (new tenant) is liable to the landlord for rent and for performance of other lease terms
Assignor (old tenant) remains liable unless the landlord agrees to release the assignor from liability
Liability under the Lease: Sublease
In a sublease, the tenant/subleasor remains liable to the original landlord
The subtenant has no direct liability to the landlord, but is liable to the tenant/subleasor
If the lease terminates, the sublease terminates
Termination of Leases
Leases can terminate by:
Expiration of fixed term (estate for years)
Proper notice by landlord or tenant (periodic estate)
Generally 30 days notice for month-to-month
Landlord must give 60 days notice for month-to-month lease if tenant has been in possession for more than 1 year
Tenant’s breach of lease
Landlord’s breach of lease
Mutual consent (surrender and acceptance)
Destruction of premises (maybe)
Operation of law
Procedure on Tenant Defaults
Landlord must give notice to terminate the lease
Type of notice depends on type of default
For non-payment of rent
3 day notice to pay rent or quit
For curable defaults other than non-payment of rent
3 day notice to perform or quit
Example: keeping a pet
For non-curable defaults
3 day notice to quit
Example: assignment without consent
Serving Termination Notices
Lawful methods of serving notice of termination (in required order):
Personal delivery to tenant
Leaving copy with a person of suitable age at the premises or the tenant’s place of business and mailing copy to premises
Posting copy in conspicuous place at premises and mailing copy to premises ("nail and mail")
Regaining Possession
If a tenant remains in possession after lease is terminated, landlord must file court action for unlawful detainer to regain possession
Landlord files complaint
Tenant can file answer
If landlord wins, court issues writ of possession
Sheriff sends eviction notice
Sheriff evicts tenant