Hey BP!
I recently found myself in an interesting scenario where myself and a seller are battling over an earnest money deposit due to differing views on the definition of a mortgage financing contingency. In short, here is how everything panned out:
1. I inquired about a mixed use commercial property in Northern New Jersey with four apartments, a loft office space, and a Pizza Hut occupying the ground floor.
2. After a tour of the property I submitted an offer where I felt comfortable moving forward based on the income and expense provided and several statements made by the owner regarding the commercial tenant’s willingness to renew its lease when it comes due in 2019.
3. After a week or two of negotiation seller accepted my offer and a P&S agreement was drafted. The seller would not agree to a mortgage financing contingency, but I felt very comfortable in my ability to close the deal given the property's credit tenancy (Pizza Hut), their long history at the property, and the quality of the location and building. The seller was reluctant to provide much more than a rent roll and leases prior to me signing the contract and tendering a $25,000 deposit, which is relatively customary.
4. After having a few banks evaluate the property and receiving strong indications of a favorable LTV and interest rates I decided to move forward with the deal. The seller insisted that I use his attorney as the escrow agent, which I typically don't do, but the deal was relatively cut and dry so I was agreeable after drafting favorable escrow language. I then tendered the $25,000 deposit and awaited all DD materials (commercial tenants financials, contact information, detailed expense reports, etc) to get the clock ticking on my 30 day DD period.
5. After receiving “all” of the DD materials from seller almost 10 days later, he explained that he didn’t have much more than just a lease for the commercial tenant. No historical financials, communications, indications of interest in renewing their lease, etc. I requested contact information for the Pizza Hut operator, and my email requests for said contact info were evaded. I was excited about the deal, so about 10 days into DD I decided to make a last ditch effort to save the deal and verify the sellers claims that Pizza Hut wanted to renew their lease. I took it upon myself to reach out to Pizza Hut, who informed me that they were “not sure” if they would be renewing their lease. Clearly, this poses a huge risk given that they are the largest tenant in the property and pay almost half of the annual real estate tax.
6. The contract that I signed had a standard out clause stating that I had the right to cancel the contract “for any reason or no reason” so long as it’s within the 30 day DD period. I decided to exercise that right and emailed the seller stating that neither myself, nor my investors were comfortable moving forward with the deal given that Pizza Hut could not confirm their willingness to renew the lease.
7. The seller promptly fired back and claimed the following:
- I had breached the contract by “acting in bad faith” when I contacted Pizza Hut without his permission.
- Mine and my investors discomfort in the deal was irrelevant given that the contract had no financing contingency.
- Due to the fact that the contract was signed in my name, and not an LLC, I would have to prove that I personally had the funds in cash to purchase the property at the time that I signed the contract.
My questions are as follows:
- Has anyone encountered a similar type scenario?
- Of course, a judge will not read the "for any reason or no reason" out clause in a vacuum, and will also consider the fact that their is no mortgage financing contingency, but how can I prove that I am not backing out due to financing reasons, but rather due to the fact that I was induced into signing the contract by a seller making false claims about the commercial tenant?
- Regardless of the fact that I'm not backing out for financing reasons, will a judge view investors (equity) and mortgages (debt) differently?
I'm not necessarily seeking legal advice, but rather looking to start a discussion surrounding this legal grey area found in contracts without a financing contingency.
Helpful advice for anyone in a similar scenario:
- Never use sellers attorney as escrow agent.
- If your "out clause" states that you have the right to back out "for any reason or no reason", do NOT state a reason - there is simply no need and you'll likely find yourself in a similar scenario of he said - she said.
Looking forward to chatting!
Nick
