How do you back out of a deal when the numbers are off?

Question

I recently finished reading a real estate book where the author recommends tying up a property quickly (if initial analysis suggests the deal is a good one) and then doing the due diligence. This sounds pretty obvious but the question then is what if the numbers turn out to not be so good after all? I am aware that a buyer can back out of a deal and have their deposit returned based on the contingencies (loan, inspection, etc.) that were in place when the contract was signed. Doing a proper due diligence on an apartment building can take some time with respect to getting all the paperwork related to income, expenses, leases, and going over all the documentation. What do you do if a deal looks good initially but upon closer inspection, it becomes apparent that the numbers you were told are off such that you no longer want to do the deal? How do you back out of a deal strictly based on the numbers being off?  What kind of contingencies should you put in place for that type of a situation?

Russell Brazil · Answer

Edit: was thinking this was a standard residential sale whe  I initally posted, then reread and and saw it was commercial.

Tom Gimer · Answer

@Cody Evans We're talking about verifying material information relied upon in making the offer, not filling in spreadsheets.

Tom Gimer · Answer

This site is supposed to be for GOOD advice.

You make an offer based upon information provided by the seller prior to contract.  During the study period you discover the numbers are off. False, inaccurate, whatever. Measurements, income, who cares.

You withdraw in good faith. Pretty simple.

Ian Walsh · Answer

I would not go around locking up contracts if I was new UNLESS I had done the proper due diligence on my market and already was aware of potential construction costs.  With that said, there is usually a clause in the contract that allows for an exit before execution.

Joe Villeneuve · Answer

First, all those reason you mentioned for backing out of the deal you should find out before you even make any offers.

Cody Evans · Answer

That is a sure way to make people angry and ruin a reputation which with this type of strategy seems like that would happen quickly because why not tie up every property on the MLS or that you see?! I am just starting out but running numbers before tying up a property(or at least attempting to) has never been an issue. I do my due diligence and make the numbers conservative and ask a fellow experienced investor (or bigger pockets) if the deal makes sense and based off the feedback I will adjust or keep my numbers. I then submit an offer. This can all be done easily within 12 hours if not sooner. I am doing residential and am young with more time than money so perhaps thats a disclaimer but running numbers seriously should take like 10 minutes after you have estimated repairs.

Tom Gimer · Answer

The study period is the buyer's best friend. Since your contract obligates the seller to produce records and information and permits access for inspections (or at least it should) then there should be sufficient time within which to do these things plus a little extra time to say "no thanks" and get your deposit back.

Casity Kao · Answer

@Matt Lefebvre You really should be able to unless you are stringing the process along and acting in good faith but given this market I would agree that "standard" is vague as nothing is really standard.  But in reality you really should know up front what circumstances you can back out.  You should not be asking this question after, and if you are new your broker really should not be allowing you to offer with no outs.  In my opinion financial harm can go both ways and not disclosing accurate numbers is highly unethical but unfortunately common.  Now do I think about it I am curious if the numbers stated were proforma or actual.

Max Gradowitz · Answer

That is what contingencies are for.  In CA, if your agent is good enough to use the correct type of purchase agreement for a rental property (not the normal purchase agreement), there is a specific contingency for the buyer to be satisfied with income/expense documents, lease agreements, etc.  If you aren't using an agent, have a real estate attorney draft a purchase agreement with that in it, in the proper legal language, so that you can easily back out on that basis.

If the purchase agreement is properly written, you can easily back out on the basis of numbers.  You just sign a cancellation of contract form, send it to the escrow company, and the cancel escrow and send you back your deposit.  As a practical matter, sellers (and their agents too, honestly) don't even understand this, and they will likely let you back out on any basis.  If you say its the numbers and they say there is no such contingency, just say "oh, and I don't like the condition of the property either".  If you want to back out right away in a transaction for any reason, the seller will just want to cancel and move on the next buyer that WILL perform.

This is not legal advice, just informational.

Matt Lefebvre · Answer

@Casity Kao - That's not exactly true.  Unless your contract specifically has a clause based on numbers, "standard contingencies" you can't just back out and cite that.  Its never that cut and dry.  Escrow monies can still get tied up for months even if there's a little ambiguity in a clause in a contract.   Determining if something was misrepresented or just not all of the information was initially provided is not always easy.  It needs to be spelt out in black and white or you can land in a tough situation

How do you back out of a deal when the numbers are off?

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