DAVID J. WILLIS
Attorney at Law
Copyright © 2010. All rights reserved worldwide.
The most commonly used residential sales contract in Texas is the One to Four Family Residential Contract (Resale) promulgated by the Texas Real Estate Commission as form no. 20-8. It was revised in 2008 and the blank form is available at www.trec.state.tx.us. All licensed brokers and agents are required to use this contract and other TREC promulgated forms when representing clients in the purchase and sale of real property. References to “the contract” in this article are references to this form.
Why, might one ask, involve an attorney in preparing or advising on a residential sales contract when this form is available online without charge, and it will be completed by your broker who is trained and licensed to do the job? Because lawyers can modify the actual language of the form to favor their clients and brokers cannot. Brokers are limited to checking the appropriate boxes, filling in the blanks, and attaching addenda. They are not permitted to materially alter the text of the contract. That is considered the practice of law and is a task for lawyers only.
TREC forms are useful, but here is their weakness: they are designed to be neutral “one-size-fits-all” documents when in practice they are often “one-size-fits-none.” Negotiating a real estate transaction presents multiple opportunities to favor one side or another – and not just on price. This is where a real estate lawyer comes in.
Another logical question: Why alter these contracts at all? After all, they were prepared by a state-appointed broker-lawyer committee composed of experienced, practicing professionals. The answer is that no “standard form” can anticipate every condition or circumstance; and while many transactions are similar, no two are ever identical. Circumstances vary. The goals of sellers and buyers vary. Every home sale is unique. While some may say, “It’s just the standard form, it’s OK to sign it,” no attorney worth his or her salt is ever satisfied with any standard form. Most importantly, no buyer of seller should be satisfied unless the contract is negotiated and drafted with his or her best interests in mind. This is possible only if a real estate lawyer is involved in the process starting before a contract is signed.
For a relatively modest fee an experienced real estate lawyer will look at a proposed sales contract and offer suggestions about how it might be revised or improved to more fully protect the best interests of the client. Sometimes (although rarely) no changes need to be made. In such cases the client has at least satisfied himself that the contract is as good as it can be. This is a form of inexpensive but valuable insurance that contributes to peace of mind in what is often the largest financial transactions of a client’s lifetime.
REALTORS AND ATTORNEYS
Unfortunately, many realtors attempt to steer their clients away from attorneys, fearing that an attorney will make unreasonable demands that will “kill the deal.” This is almost never the case, at least when an experienced real estate lawyer is involved. He or she knows the difference between what is “reasonable” and what is not – and they could not stay in business if they got a reputation for being unreasonable or for killing deals. Likewise, meticulous and ethical realtors should see the wisdom of suggesting that a client obtain legal advice, particularly when a transaction has non-standard aspects. This benefits the client and also shifts potential liability away from the realtor.
It is particularly important for persons who are using an “intermediary” realtor (ie., there is only one realtor in the transaction) to get independent advice and opinion. Who else is going to exclusively represent the interests of either party, without any other stake in the transaction?
A tip: beware of using a single broker as an intermediary. Sellers and buyers often believe that the intermediary is representing both sides. That is simply not possible.
THE USE OF AN ADDENDUM TO CURE SHORTFALLS IN THE CONTRACT
How should revision of the standard contract be accomplished? One way is to make changes to the text and produce a fully customized document. This is common in commercial transactions. In residential sales, it is more convenient to attach a “special provisions addendum” to the standard form that supersedes any printed provisions that may conflict. Only items to be altered are mentioned in the addendum. Other provisions are left as they are. This method of modifying the contract has an obvious advantage in negotiations: it is immediately apparent to everyone which terms are being changed and which are not.
Another advantage to the addendum method is that brokers and agents are more comfortable with it, since the actual text of the contract to which they are accustomed has not been changed. By looking at the addendum, they can plainly see what the proposed changes are. They are also less likely to suggest that their client also get an attorney. This avoids needless polarization of the transaction.
When adding an addendum of this nature, the wording “See attached special provisions addendum, attached hereto and incorporated herein” should be inserted in paragraph 11 (Special Provisions) of the contract. Also, in paragraph 22 (Agreement of Parties), the box “other” should be checked and “Special Provisions Addendum” inserted in the line that follows.
A further note as to Paragraph 11 (Special Provisions): it is a blank space that is available for inserting extra comments, but its legal use is limited to “factual statements and business details applicable to the sale” – ie., not modification of text or addition of provisions that are primarily legal in nature. It is therefore not the appropriate place to insert provisions that have legal implications, nor is it an acceptable substitute for the lawyer-produced addendum under discussion here.
TYPICAL CONCERNS OF THE SELLER
Usually, the seller usually has the simpler side of the transaction. First and foremost the seller wants to make sure that a buyer is serious and capable of following through. For this reason, the seller should always require the buyer to submit a pre-approval letter with a contract. The contract should come with a sufficient earnest money check and should show that the buyer will be making a down payment of at least 20%.
Other concerns of the seller include:
(1) The seller wants to convey the property to the greatest extent possible “as is,” without responsibility for repairs or any representations or warranties (other than warranties of title) that will survive closing (requires modifications to paragraph 7 and 9D).
(2) The seller should make it clear that all due diligence duties are the sole obligation of the buyer (including determination of square footage, obtaining inspections, an appraisal, a title commitment or policy, legal advice, and the like).
(3) If an existing survey is supplied by seller to buyer (paragraph 6.C.), the survey should be supplied without warranties. If the buyer wants someone to hold liable for survey accuracy, he should be advised to buy a new one. There should be no automatic extension of the closing date for survey-related issues.
(4) The seller should avoid the possibility of being sued for specific performance of the contract, which could result in a lis pendens being filed that could have the effect of preventing sale of the property to anyone else (at least if that sale is to be closed through a title company). This involves modification to or replacement of paragraph 15 (Default), paragraph 16 (Mediation), and paragraph 17 (Attorney’s Fees).
(5) The seller has an interest in exercising some control over the content of the warranty deed that conveys title to the buyer (and for which the seller pays) instead of blindly accepting the assembly-line version supplied by title company attorneys who, once again, prepare “one-size-fits-all” documents. For example, the seller should require inclusion of “as is” language. The seller may also want to expand the Exceptions to Conveyance and Warranty (paragraph 9.b.1) to include “all matters of which Grantee has actual or constructive notice and all matters excepted from coverage in any owner’s title insurance policy issued to Grantee in connection with this conveyance.”
(6) In the case of third-party financing, the seller may demand that the buyer submit a pre-approval letter with buyer’s offer, as well as more precisely nailing down the period during which buyer has to exercise the financing contingency (requires modification of paragraph 4 of the contract and to the Third Party Financing Condition Addendum).
(7) In the case of assumptions (addressed by the TREC contract and an approved TREC addendum) or wraparound transactions (not addressed by the contract), the seller should assure that there is or will be a mutually acceptable assumption agreement or wraparound agreement that will be signed at closing. This requires modification of paragraph 4 and the Loan Assumption Addendum. Such an agreement should include disclosure of the potential future impact of any “due on sale” clause upon buyer.
(8) In the event of a seller-financed transaction, it is in the seller’s interest to exercise control over the terms and conditions of the note(s) and deed(s) of trust (beyond what is provided in the Seller Financing Addendum) and then, ideally, attach the approved form of these documents to the contract (requires modification of paragraph 4).
(9) In the event of a seller-financed transaction, the seller can include a more powerful due-on-sale provision than the one contained in the Seller Financing Addendum, and then make sure a provision to this effect is included in the note and deed of trust.
(10) In the event of a wraparound transaction, the addendum should address the details of the wrap (since there is no TREC-approved addendum for this) and then, ideally, attach the approved form of the deed, note, deed of trust, and wraparound agreement to the contract (requires modification of paragraph 4).
(11) In the case of an investor transaction that will cause the property to be conveyed into a land trust (a common “creative financing” device), appropriate disclosure language concerning the nature and impact of the trust needs to be included in the contract or the addendum.
Each of the above-listed items is important, some critically so. There may be other things to consider based on the unique nature of the particular transaction. Each item can be effectively addressed by a customized addendum to the contract.
Query: What happens if, in a seller-financed or wraparound transaction, the buyer (for whatever reason) declines to sign the note and deed of trust as presented by the seller at closing? May the seller declare a breach, terminate the contract, and claim the earnest money? The answer is “yes,” so long as these documents were prepared in advance and attached as exhibits to the earnest money contract.
Note that Property Code Sec. 5.016 requires that both the lender and the buyer must be given notice at least seven prior to closing if the transfer is to be made without consent of the lender.
As an aside, it should also be noted that the TREC One to Four Family Contract should never be used as a substitute for a contract for deed or other executory (functionally incomplete) device. Given changes to Sec. 5.061 of the Property Code (relating to executory contracts) this practice, always dubious, is now out of the question for most residential transactions.
Query: Is a seller obligated to disclose repaired defects and conditions? What about recent inspection reports? No, to both of these questions unless the seller is directly asked about these by the buyer. However, a word of caution to both sellers and brokers: the prudent rule is “disclose, disclose, disclose.” If a condition could reasonably affect the decision by an ordinary buyer to buy or not buy, then it must be disclosed, even if the conveyance is to be made “as is.” Failure to do so could arm the buyer with a suit against the seller for violation of the DTPA (the Deceptive Trade Practices-Consumer Protection Act, Sec. 17.41 et seq. of the Texas Business and Commerce Code). However tempting it may be for a seller to avoid disclosure of a material fact, it is not worth risking treble damages plus attorney’s fees. There is also potential liability under the Texas Mortgage Loan Fraud Act passed by the 80th Legislature.
THE BUYER’S SIDE OF THE TRANSACTION
The buyer’s concerns are usually more complex. Generally, the buyer should want to know everything there is to know about the property, whether that information is derived from the buyer’s own due diligence efforts, from a title commitment, from a survey, from disclosure by the seller, from information provided by a broker, or even from neighbors. The phrase “buyer beware” still has considerable meaning as it relates to purchases of real estate. There is no excuse for failing to do one’s homework on the property or failing to read documents before signing them. We live in an information-oriented society. Not putting forth a minimum effort to obtain information about the house one is buying (not having it inspected, for instance) looks more and more . . . well, stupid – and judges and jurors are likely to see it that way if the matter is ever brought to court. Yet there continue to be suits by buyers who claim that they were absolved from their duty to inspect property or read documents because they were “pressured” by the seller or broker.
Specific items of concern to the buyer:
(1) The third-party financing contingency (as set out in paragraph 4 and in the Third Party Financing Condition Addendum) should be a true contingency governed by specific parameters, not a vague notion subject to dispute by a seller who may argue that the buyer “did not try hard enough” to get a loan. The Financing Condition Addendum requires the buyer to “apply promptly” and “make every reasonable effort.” What does “promptly” mean? Does this language require application to one lender or four? In its attempt to be neutral, the TREC-approved text is silent. Moreover, nowhere in the contract or in the Financing Condition Addendum is it spelled out what exactly constitutes adequate evidence of failure to get financing. Can the buyer be sure that the seller will take the buyer’s word for it and agree to the return of the earnest money? Does failure of the property to adequately appraise constitute denial of the buyer’s loan application? It should, but this requires special language. Failure to appraise should be considered a failure to “satisfy the lenders’ underwriting requirements” and therefore permit the buyer to cancel the contract and obtain the return of the earnest money. These issues may not be so compelling if the earnest money at stake is only $500 – but what if it is $5,000 or $10,000, which is not uncommon in sales of higher-end homes? Clearly, the buyer would prefer more time rather than less in order to secure financing approval. It is also to the buyer’s benefit to specify that providing a “turn down letter” shall be conclusive, indisputable evidence that financing was denied.
(2) If the transaction is an assumption, seller-financed, or a wrap, there is always the issue of the specific content of legal documents the buyer will be asked to sign at closing. The TREC Loan Assumption Addendum and Seller Financing Addendum are reasonably detailed, but what if the seller’s attorney includes an unexpected “zinger” or two in the note? There is no approved addendum for a wrap, and yet lots of details need to be addressed. Is the buyer fully informed about the particulars of the wrapped indebtedness? How can the buyer be sure the seller will pass payments along to the first-lien lender? Will the buyer have the right to contact the lender or periodically receive written evidence that payments are current? What happens if the lender exercises the “due on sale” clause and accelerates the wrapped note? What about insurance? Basic wrap issues should be addressed in an addendum to the contract, followed by a detailed wraparound agreement that should be signed at closing. Additionally, wrap deals often include seller-financing in the form of a second or third lien. What will the seller-financed note and deed of trust look like? The buyer’s attorney should see all this coming and insist on seeing draft documents. Ideally, no buyer should be ambushed at closing with legal documents that he has neither seen nor agreed to.
(3) Disclosure of material conditions affecting the property is usually the biggest single concern of the buyer. Section 5.008 of the Property Code states “A seller of residential real property comprising not more than one dwelling unit located in this state shall give to the purchaser of the property a written notice as prescribed by this section or a written notice substantially similar to the notice prescribed by this section which contains, at a minimum, all of the items in the notice prescribed by this section.” Section 5.008(d) goes on to say that the “notice shall be completed to the best of seller’s belief and knowledge as of the date the notice completed and signed by the seller.” Note that the requirements of Sec. 5.008 do not apply to previously unoccupied new homes.
The TREC promulgated form of this notice (Seller’s Disclosure of Property Condition, revised 2010) tracks the statutory language and requirements but does not exceed them – and the statute specifically leaves open the possibility that a higher and broader form of disclosure may be agreed to between buyer and seller. It is up to the buyer to avail himself of this opportunity by asking his lawyer to include appropriate language in the contract.
The Seller’s Disclosure form has several problems from a lawyer’s point of view. Firstly, disclosure of defects and conditions is limited to the seller’s actual knowledge and awareness – not the highest standard out there. What the buyer is concerned with is not what the seller knows or says he knows, but with what is actually true about the property. It is just too easy for an unethical seller to later say, “Oh, I didn’t know about that.” Sometimes problems can be discerned by inspections and other due diligence, sometimes not.Often, the truth is discovered only after subsequent conversations with neighbors who report that not only did the seller know about water penetration behind that faux stucco, he personally patched and painted it to conceal the damage! Not only does the buyer want to know about any such repairs, but a thorough buyer should want to see the contractor paperwork in order to determine the exact nature and extent of the repairs (ie., whether the repairs were sufficiently thorough or if more work may be needed in the future) as well as whether or not there is a transferable warranty (as is often the case with foundation repairs). Therefore, what a buyer wants is something stronger than what is offered by the Seller’s Disclosure – an actual representation and warranty by the seller that certain negative conditions do not exist. The standard TREC contract does not offer this.
Another issue is the statement at the top of the first page of the Seller’s Disclosure: “IT IS NOT A WARRANTY OF ANY KIND BY SELLER OR SELLER’S AGENTS.” That is disappointing news for the buyer. A perceptive buyer might ask that if he or she cannot rely upon the Disclosure as a representation and warranty by the seller, then what good is it? Certainly, its utility as a disclosure tool is diminished, as is the basis for a future deceptive trade lawsuit if seller deception is later discovered. The buyer’s attorney should seek to convert the contents of the Seller’s Disclosure into a set of express representations and warranties.
Finally, at no point does the seller state, swear, or affirm that the disclosure form is true and correct. Most everyone assumes that this is so, as indicated by the seller’s signature. But look closely – the form does not say that. This is another disappointment for the buyer. From a buyer’s point of view, there is no substitute for maximum, unconditional disclosure backed up by recourse against the seller that survives closing. Tip: if confronted by a seller who persists in “hiding the ball,” walk away from the transaction.
What about previous inspection reports? Neither the contract nor the disclosure form obligate the seller to provide them. The buyer should therefore always request copies of these.
Buyers should also be aware of the existence of the Comprehensive Loss Underwriting Exchange (CLUE), an insurance industry database that includes the claims history of individual properties. Personal property losses would not be of concern to a buyer, but fire, flood, and mold claims would. This report is available to homeowners at choicepoint.com for $12.95. It is a valuable double-check on the veracity of the seller’s Disclosure of Property Condition. The buyer should require the seller to provide a copy of this report and perhaps even make the sale contingent on the report being satisfactory.
(4) The buyer also has an interest in the wording of the warranty deed. For example, unless otherwise instructed, title company attorneys will list the grantee as “John and wife, Mary,” creating a tenancy-in-common. This form of co-ownership does not provide for the surviving spouse to inherit the property when the other dies. Title to the property vests in the surviving spouse only if the property is community property and the deceased had no children or, if there are children, all of them are the result of the marriage between John and Mary (see Texas Probate Code Sec. 45). Accordingly, if it is the desire of the buyer to use the deed to do some basic estate planning, the grantee should be listed as “John and wife, Mary, as joint tenants with rights of survivorship, and not as tenants in common.” This adds value for the buyer at no cost to the seller.
(5) Often investor buyers will want to take title to the property “subject to” the existing indebtedness. Express language, both in the buyer’s addendum and in the deed, to the effect that buyer will not be assuming the obligation to pay the existing debt (and therefore seller will not be released from the debt until it is paid) is useful in forestalling subsequent claims by remorseful and litigious sellers who suddenly realize that they are still on the hook for the loan with no control over whether or not the current owner makes the monthly payments.
(6) The survey deserves consideration from the perspective of the buyer. More often than not, for example, it is in the buyer’s best interest to delete the “survey exception” to title insurance coverage (and ask the seller to pay the fee for this service) by requiring that “The standard printed exception as to discrepancies, conflicts, shortages in area or boundary lines, encroachments or protrusions, or overlapping improvements shall be amended, at seller’s expense, to read, “shortages in area.” The buyer also wants flexibility as to whether or not to order a new survey if the seller fails to deliver the existing one. The contract says the buyer “shall” order a new survey; but this may not be necessary and the buyer should not be compelled by the contract to do so. Alternatively, the buyer may want to specify that failure by the seller to supply the existing survey shall, at buyer’s election, be an occasion for termination of the contract and return of the earnest money. It may be advantageous to have an “out” for the buyer rather than a mere seller default. The difference? The first supplies a clean exit from the contract by the buyer (along with a return of the earnest money), and the second only gives the buyer grounds for a lawsuit.
An additional consideration for the buyer is the standard for the survey. The contract says it shall be “made by a registered professional land surveyor and be acceptable to the Title Company and any lender.” This is a very minimal standard. For example, the TAR commercial contract has more specific, itemized standards – and the buyer may want to consider moving that language into this contract.
(7) Because of the buyer’s concern with full disclosure concerning the property, he may not be satisfied with the language of paragraph “19. Representations.” This paragraph is really about representations and warranties of seller, not buyer, and the buyer’s attorney should seek to expand its scope and meaning. For example – no liens on the property is a good thing, as is avoiding default in any loan to be assumed, but what about other potential issues – e.g., warranting that the seller is not common-law married to someone not mentioned in the Contract? That there is no pending or threatened litigation litigation that could affect the property? That seller has made full disclosure of any item that could materially affect buyer’s decision to buy or not buy? Or what about openly declaring that the Seller’s Disclosure of Property Condition is true and correct? Again, the standard TREC form falls far short of satisfying the buyer’s interests in these respects.
The last sentence of paragraph 19, indicating that seller untruthfulness is only a “default,” should be particularly objectionable to a careful buyer. Seller deception happens, and it is sometimes uncovered before closing. The problem is that the standard language deprives the buyer of a critical opportunity to weigh the seriousness of the seller’s deception and, at buyer’s option, declare the Contract terminated. In such event, buyer should be entitled not just to full return of the earnest money but also to compensation for inspection fees, appraisal fees, survey, attorney’s fees, and the like.
Applicable restrictions and covenants should not be overlooked as part of the buyer’s due diligence. Title companies like to provide these at closing, if at all, but by then it is too late for the buyer to back out. If a specific use of the property is vital to the buyer, then a request for a copy of the restrictions should be made during the option period.
SAMPLE BUYER PREDICAMENTS
A buyer moves in only to discover that artwork and rugs strategically placed by the seller had the effect of concealing sheetrock and slab cracks. The foundation will cost $15,000 to repair. The seller has moved to Missouri. The inspector has no E&O insurance.
A buyer goes to closing without doing a last minute “walkthrough.” When the buyer returns to his new home from the title company, he finds that the seller removed all the shrubbery and rose bushes – that very morning – and took them with him to Shreveport.
Although the seller indicated on the Seller’s Disclosure that the house itself had never been flooded, he neglected to mention that during heavy rains the entire lot is 18 inches underwater, all the way up to the weepholes. And weep the buyer does.
A new buyer wants to re-paper the bathroom and discovers black mold. Astonishingly, the Seller’s Disclosure does not ask specifically about mold – only about “water penetration” or “any condition that materially affects the physical health or safety of an individual.” When confronted, the seller replies, “That mold never bothered my health.”
A buyer has been comfortably settled into his new residence for a month. Suddenly, the front door opens and in walks the seller’s estranged common-law wife – whose existence had never been disclosed by the seller – who shouts “Honey, I’m home!” It is important that the seller warrant from the outset that he and he alone has the power and authority to sell property without the joinder of others.
In summary, clients need to know that merely because standard contracts are available does not mean that significant improvements cannot be made to them. Making such improvements, whether on behalf of buyer or seller, is the proper role and function of the real estate attorney, who can create a special provisions addendum that has the effect of customizing the contract to the specific needs and interests of the client.
Information in this article is proved for general educational purposes only and is not offered as legal advice upon which anyone may rely. The law changes. Legal counsel relating to your individual needs and circumstances is advisable before taking any action that has legal consequences. Consult your tax advisor as well. This firm does not represent you unless and until it is retained and expressly retained in writing to do so.
Copyright © 2010 by David J. Willis. All rights reserved worldwide. David J. Willis is board certified in both residential and commercial real estate law by the Texas Board of Legal Specialization. More information is available at his web site, http://www.LoneStarLandLaw.com.