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Pre-Sale Contracts: What Should They Say?

By Jane Glanville                            February 24, 2006 

"Over 100 units sold in Grand Opening Weekend!" the headline blares. Deposits have been paid, contracts have been signed and 18 months from now the sales will be completed.

All kinds of things may happen over the course of those 18 months - interest rates may rise, the market may collapse and purchasers may want to back out or simply not be able to close. Construction costs may skyrocket and the developer may want to pull the plug on the project. Subcontractors or material suppliers may go under and 18 months may stretch into 27 months. This is when the developer and the purchaser, and their lawyers, will take a hard look at the pre-sale contract Ė possibly for the first time.

The primary goal of the developer under the contract is simple: to ensure that the purchaser remains on the hook in a variety of circumstances. But the developer will also want to anticipate and avoid possible disputes and maintain flexibility in some areas.

To achieve these goals, there are a number of key concepts that a developer should keep in mind.
 

Deposit

Pre-sale contracts usually involve the payment of a deposit or deposits by the purchaser. The deposits are only refundable if the developer does not complete the unit within the times frames and specifications set out in the contract. If the purchaser completes the purchase of the unit as set out in the contract then the deposit forms part of the purchase price.

The contract should deal with who gets the interest on the deposit. Usually the purchaser gets the interest but the contract can be revised so that the developer gets the interest. If the contract does not set out who gets the interest, it will be disputable who is entitled to the deposit.

The contract should also set out what happens to the deposit if the purchaser breaches the contract. The contract should include a forfeiture clause giving the developer the right to claim the deposit if the purchaser breaches the contract. The contract should state that the parties agree that the deposit is a pre-estimate of damages and not a penalty. If the deposit is a genuine pre-estimate of damages, the developer will be allowed to keep the deposit if the purchaser breaches the contract.

To allow the developer to access deposit monies without delay (where a deposit protection contract is in place), to avoid NSF cheques and to get the money into the developerís pocket as quickly as possible on closing, the contract should require deposits (and balance of the purchase price) be paid by way of certified cheque or bank draft.
 

Deposit Protection

Under the Real Estate Development Marketing Act (British Columbia), a developer can enter into a deposit protection contract with an approved insurer which allows deposits to be released to and used by the developer in the construction of the development. The contract should provide that the deposit will be released to the developer as set out in the deposit insurance contract (or other security agreement). The contract should state that if the vendor enters into a deposit protection contract, no interest will be earned on the deposit as of the date of the deposit protection contract.

There are also disclosure requirements which apply when developers want to use deposits in accordance with deposit protection contracts. Usually, the developer prepares the disclosure statement for the project (prior to pre-sales), before they have entered into the deposit protection insurance contract, meaning an amendment to the disclosure statement will be required setting out particulars of the deposit protection contract.
 

Completion

The contract should describe, in as much detail as possible, the documents to be delivered on closing, where and when the closing will take place, how the funds will be paid and how the documents will be registered in the Land Title Office. The closing date is usually tied to the date that the occupancy permit is issued (and the strata plan is registered). If closing has not occurred by a certain date set out in the contract, the contract will be terminated unless the parties agree otherwise. This date is the outside completion date. Under the contract, the unit must be ready for the purchaser by the outside completion date. Developers who choose not to include an outside date run the risk that the contract will be legally void for uncertainty.

The developer will want to make sure it has the right to extend the outside completion date. For example, if construction is delayed for reasons out of the developerís control. The developer may also want to include a term which allows the developer to unilaterally extend the outside completion date (for a limited period), without providing a reason.
 

Developerís Right to Terminate

With construction costs continuing to increase and it being harder and harder to get trades, developers may want, or need, to walk from the contract. The contract should allow the developer to cancel the contract if the developer cannot assemble the property, get the building permit, if construction has not started, if the strata plan has not been registered or the occupancy permit has not been issued. If the developer cancels the contract, the deposits and interest are returned to the purchaser. It remains to be seen whether purchasers will go after developers for more than just the deposits where the developer walks from the contracts and the value of the property has increased significantly since the contracts were entered into. Conversely, if the developer's right to cancel is not worded carefully, the contract may be legally unenforceable allowing purchasers to walk away.
 

Variation of the Unit or Development

The developer wants to ensure that the purchaser remains on the hook even if the completed development or unit varies slightly from what was originally described or marketed. Pre-sale contracts generally contain language that permit the size and certain design features to change or allows the developer to substitute materials as long as they are as good as or better than the quality promised.

The contract should set out what happens if the size of the unit, once built, varies from what is shown on the preliminary plans. For example, the contract might state that if the difference between the area of the unit shown on the preliminary plan and the area of the unit shown on the final strata plan varies by less than 5%, there will be no adjustment of the purchase price. If the difference is 5% or more, the purchase price will be increased or decreased, as the case may be, per square foot for that portion greater than 5%. Contracts should allow the purchaser to cancel the contract if the difference is extreme. Developers should also be aware that if, for example, a loss of 4% all occurs in one room Ė a bathroom shrinks from 72 to 36 square feet Ė it is likely the purchaser would have a right to walk away or pursue damages.
 

Inspection

The contract should state that once construction is complete, the developer and the purchaser will do a walkthrough. If the purchaser does not participate in the walkthrough he or she is deemed to accept the unit as is. The contract should require a list of deficiencies to be prepared by the developer and signed by the purchaser after the walkthrough. By signing the list, the purchaser accepts the physical condition of the unit subject to the deficiencies in the list. The contract should state that deficiencies are not grounds for the purchaser to walk from the contract and that there will be no holdback on closing for deficiencies.
 

Assignments

At common law, the purchaser can assign the contract to a third party without the developerís consent unless the contract states otherwise. To prevent or at least control the assignment of contracts, the contract should prohibit assignment or require the developerís approval. The developer should consider whether assignments are allowed, if the purchaser has to pay a fee to the developer and if the original purchaser remains on the hook when the contract is assigned.

Usually the purchaser can only assign the contract to a third party with the developerís consent. If the contract allows the purchaser to assign the contract, he or she is usually required to pay a fee to the developer/vendor. A typical provision requires the purchaser to pay a handling fee of 1% of the purchase price. If the purchaser is assigning to a relative, the fee is usually reduced or eliminated altogether. Under the contract, the original purchaser should remain liable under the contract even after they have assigned the contract to a third party.

If incorporated into the presale contract, these concepts can help the developer keep the purchaser on the hook to purchase the unit, stay in control during the construction and closing and allow the developer to get its money as quickly as possible.

- Jane Glanville 

 

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