Real Estate Development, Professor Rider, Spring 2013
Introduction to Real Estate Development
– Growing demographics drive real estate development
o Populations are shifting towards cities, and people want places to live, eat and shop
o Populations are moving towards coasts and away from the Midwest
o Populations are aging—this creates the need for a different kind of housing
– A trend in office buildings is for businesses to use less and less space
– Most real estate development is centered around contracts; most of the “law” just deals with what to do in the absence of a contract provision
– Investment builders: people who develop buildings and keep them, rather than trying to flip them
– Merchant builders: people who develop a building, secure the lease, and then sell it
– Most development is done with borrowed money
o And often times, there are multiple loans on the same project
– Attorneys, title companies, real estate brokers, surveyors, building inspectors, and demographers are all involved in development
– Development is a game of managing risks
o Financing development is a matter of bringing risk to an acceptable level for the bank, so that the bank is comfortable that it will be compensated
– Every real estate development case is unique, and the law struggles with that concept
– A “Usual” Transaction: there is really no such thing as a “usual” transaction; every piece of property is unique, and every seller is unique—the process however, it somewhat standard
o The location of the site must first be chosen, and then negotiated for
o Letter of Intent – a letter of intent is a legal tool
§ If a letter of intent says its not binding, its not a contract
§ A letter of intent can be partially binding though, depending on how its written
o Contract: once you have found a property, a contract will be entered into to obligate the seller to sell and the buyer to buy
o Due Diligence: you want to make sure that the seller has proper title to the property; also might want to check soil conditions, go to a neighborhood association meeting, etc.
o Platting and Zoning (“Entitlement Process”)
o Prepare for Development:
§ Architectural plans must be prepared, as well as engineering work
§ Bidding and Contractor Identification: you’ll want to build relationships with local contracts who you trust, and then negotiate a price
o Leasing: the economic engine that drives most real estate development
§ Cash flow from the proposed lease will ultimately pay the mortgage, pay for construction, and provide money to buy the land with
§ Unless there is cash flow, no real estate development will take place
o Finance the Purchase and Construction:
§ In a real estate transaction, “closing” and “opening” mean the same thing
§ Purchase/sale
§ Closing/opening conditions often include having funding secured and getting the proper title inspections completed
§ There are often two loans—the construction loan (interim loan) which is provided by a local bank, gives an advance to begin construction; then, once construction has finished, a permanent loan kicks in to pay off the construction loan
o Construction
o Turn on the Lights and complete the details (tenant moves in, you start getting paid)
– Review of basic contract law:
o Basis of contract: meeting of the minds, offer, acceptance, consideration
o You can have a valid contract even if every detail hasn’t been worked out yet
o Statute of frauds requirements: parties, property, price, and a memorandum of the contract in writing (the actual contract need not be in writing)
o In Texas, there is no implied covenant of good faith and fair dealing
o Unilateral/option contract: when one party is obligated, but the other party is not (ex. I will pay you 100 bucks if you give me the choice of buying your car next week)
§ You have to have consideration for the receipt of that option
§ A contract may not overtly be a called a unilateral/option contract, but it still is, as long as something in the contract causes it to act like one
o Condition subsequent: where a contract will not be completed unless something happens (ex. I want to buy your car, but only if my mechanic says its in working order)
§ “I want the car, but only if my wife approves”—Rider says this is not a valid condition, and would require an additional consideration
· On the other hand “I want the car, but only if my lawyer approves,” is a valid condition, because a lawyer is a professional
§ It is implied that people involved with the contract will make reasonable efforts to fulfill the conditions—otherwise any bilateral contract with conditions could effectively be a unilateral contract
o Intent to be bound: also a necessary element for determining whether there has been a contract
§ If there is no such intent, a court might find a document to be only a letter of intent, not a binding contract
The Purchase Contract
– A purchase contract is not enforceable unless it meets the statute of frauds requirements
o This means that it must be in writing, signed by the person who is going to be charged, name the parties, describe the property, and state the price
– Any contract can be signed in electronic form except wills
Parties:
– Individuals—are you dealing with the person who actually owns the property?: Or if the individual is signing on behalf of an entity, are they the right person to be acting on behalf of that entity/do they have proper authority to do so and legal capacity to bind that entity?
o Capacity: you cant sign a binding contract unless you are 18; you also cant sign a binding contract if you are not legally sane
o Marriage: if a husband or wife is signing, can they bind their spouse?
§ Texas: yes, if property is in the husbands name
§ Generally: the spouse who has the record title can sign the contract and it is binding
· BUT both signatures should be on it, if you want to avoid a title issue
o Homestead: if the property is a couples primary residence, one spouse may not bind the other, regardless of who has title (you cant sell a house out from under your spouse or family)
§ Even if a court allows the title transfer, you might not be able to get possession of the homestead, because you cant force someone out of their house
– Co-tenants: one co-investor doesn’t have the authority to sign for another co-investor; the contract can still be valid, but you will only have purchased half the interest in the property, and the other half will still belong to the co-investor that didn’t sign
– General partnerships: any one partner can sign for and bind the entire partnership, unless the other party to the contract as actual notice that they do not have the authority to do so
o Joint venture: general partnership sign/bind rule also applies
o Limited partnership act: only general partners have the ability to sign for and bind the partnership, not limited partners
– Corporation: only an officer can sign
– Limited liability company: only managers can sign (members elect managers, similar to the way that shareholders elect directors/officers in a corporation)
– Aliens: aliens have the same property rights as citizens, there is no distinction for contract purposes
– Trusts: when a property is owned by a trust, the trustee has to sign, not the beneficiary
o “Blind trusts”: Texas has a blind trust act, which means that a trustee can still sign a contract that is binding, even in the absence of a trust document (a document that proves the existence of a trust)
§ This is a unique, weird Texas rule—also, it no longer works if you name the beneficiary
– Estates:
o Dependent: if you die without a will, the state
of the contract, and not in the understanding of the property itself
– Miscellaneous:
o Things you do not want to own/sell: lawyers should be careful to include in a description specific aspects of a property that a buyer doesn’t want (like possible pollutants or contamination) and specific aspects that a buyer does want (like mineral rights)
o Mineral rights: land comes with mineral rights unless otherwise specified
§ If your land comes up next to a road, you own the mineral rights up to the middle of the road
o Avoidance of implied easements: there is a doctrine in Texas, as well as most other states, that certain easements may be implied if not specifically stated otherwise in the contract (like someone else’s access to a driveway that runs through your property)—be careful to avoid letting an easement be implied on the property as a result of poor drafting
o Strips and Gore: owner of a piece of property adjacent to a street or highway owns the land to the center line of that street or highway, whether or not it is described that way in the metes and bounds
§ However, you should not rely on this rule, the contract should be specific
Price and Payment:
– Amount: the contract price for a commercial real estate development deal is rarely fixed (i.e. where the price is set in stone), instead, formulas are usually used to determine the price
o Formulas may be based on area (of land or building), or on units (# of apartments)
o “Net” vs. “Gross” –an issue that might arise when determining the contract amount—“net” means the area that the buyer can actually use/develop; so, for example, if there is an easement that prevents the use of a part of the property, does the buyer still have to pay for that area?
– Payment: can be in the form of cash (most large transactions don’t literally involve physical cash movement), check (which is TX qualifies as “payment in cash”), fund transfer, wire, etc.
Options, Conditions, and “Earnest Money”: one part will usually put up earnest money
– Many real estate contracts have contingencies—these are conditions that the purchaser will want to check out before committing to buying; as such, options/unilateral contracts are usually used
– Earnest money: a payment that the buyer will use as consideration in order for unilateral contracts to be valid
o You don’t need earnest money in a bilateral contract; in real estate contracts, it is customary to use earnest money even if the contract is bilateral though—the earnest money in this scenario is not necessary, its just a custom
§ The lawyer must determine whether earnest money has real meaning (which depends on whether it is consideration for an option, which it usually isn’t)
– Why does it matter whether the contract is bilateral or unilateral?
o Bilateral: reasonable time, substantial compliance, risk of loss on buyer, broker right to commission on sign, not revocable, rights to apply for permits.
o Unilateral/option: time is of the essence, strict compliance, exercise/perform, risk of loss on seller, broker commission on exercise, revocable if no consideration, no right to apply for permits
