Letters of Intent for Residential Real Estate Transactions
UPDATED: October 25, 2013
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A letter of intent is used to outline the general terms of an agreement that has not yet been fully written up or signed. While a detailed binding agreement required in commercial real estate transactions often requires lengthy negotiations, careful investigation, and long delays, a letter of intent is not binding. As such, the parties are not required to adhere to the terms of the letter of intent because it is not intended to be a formal contract.
A letter of intent may also be used in residential real estate as a first step in the purchase and sale process, depending on local custom and practice. The letter of intent helps demonstrate that the parties are serious, can flush out any potential problems, and can speed up the signing of the formal agreement. A letter of intent typically outlines some of the basic terms, without creating an obligation on the part of the buyer or seller to complete the transaction, without incurring any obligation on the part of the real estate broker, or penalizing a party if either the prospective buyer or seller changes his/her mind and does not reach a final agreement.
Preparing a Letter of Intent for Residential Real Estate
The letter of intent itself is not a binding agreement, enabling either party to walk away if negotiations or inspections go poorly. To demonstrate the intent that this is not a binding contract, it is a good idea to incorporate a clause stating "this letter of intent is not a binding contract for the purchase or sale of any real estate or other property,” and the date. However, the letter of intent should set out the basic terms of the proposed transaction. The following is typically addressed:
- The buyer(s) and seller(s)
- What the property consists of, such as “the 3 bedroom, 2 bathroom home and approximately 5,000 square feet of land” at the property’s address
- Whether or not any appliances and furniture are included
- The purchase price
- How the buyer intends to pay for the property, such as “the buyer intends to finance approximately 80% of the purchase and will apply for a mortgage”
- When the parties expect to enter into a formal contract, such as “the parties expect to enter into a formal and binding contract within one week”
- When the seller expects to transfer title and possession of the property to the buyer
Binding Letter of Intent
Unless the letter of intent expressly states that it is not binding, it is possible that a party could claim that the signed letter of intent alone was sufficiently detailed to be a legally binding contract. Furthermore, the conduct of the parties after the signing of the letter of intent can also be construed by the courts as sufficient to determine that an otherwise nonbinding letter of intent was binding. An instance where this occurred was when a party held a press conference, after the letter's signing, saying a deal was reached. Using the words “this is not a binding contract” in the letter of intent can also thwart possible claims for a commission by a real estate broker or agent before a formal contract is entered.
Beware of Restrictions in Letter of Intent
A common request of the buyer in a letter of intent is that the prospective seller not be able to show the house to other prospective buyers or enter into any sale contracts for a certain number of days while the formal contract is being prepared. If the seller signs a letter of intent with those provisions, the seller could be liable to the buyer for damages. Therefore, beware of language in the nonbinding letter of intent that includes provisions which create legally binding restrictions or obligations. The final details should be written out in the formal contract itself, which typically includes the deposit of the buyer on signing the contract, the precise survey description of the property, the seller's warranties (if any), the type of deed to be given, and how taxes are allocated. In addition, the formal real estate contract should contain the detailed contingency clauses, such as clauses allowing the buyer to walk away from the transaction without penalty if the property fails inspection due to serious flaws or legal violations, or if the buyer cannot secure financing on reasonable terms. Appropriate contingency clauses will vary depending on the situation of the parties to the transaction, such as the buyer being able to get a mortgage on certain terms, the buyer’s inspections not turning up serious flaws in the house, the property being in the same condition at closing, as well as the details as to when the seller will transfer ownership and when the buyer can take possession.
Letter of Intent's Value
Because a letter of intent isn't legally binding does not mean it isn't to be taken seriously. The letter of intent demonstrates that buyer and seller are on the same general page as far as making the transaction happen, so that no one wastes his/her time. The letter of intent generally outlines key elements which will become a binding agreement and can sometimes create obligations of its own.
If you need help drafting a letter of intent consult a real estate attorney to ensure that your interests are protected, and that you are not taking on any unintended obligations. The letter of intent should be thoroughly examined and fully understood like any other legal document.