This article is written by Nihar Ranjan who is pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.

Introduction

In real estate business, traditionally the Sellers advertise their projects on the market and the Buyer as per his wish and interest can opt to buy or the Seller may sell to whomever they want to sell the property. But the story of a Real Estate Option Contract is a bit different from the traditional real estate business. In which the Buyer shall get the exclusive right to buy the property but he is not obligated to do so. 

Basically, a Real Estate Option is a unilateral Contract. The Optionor (Seller) grants a right to the Optionee (Buyer) to purchase the property for an agreed amount within a fixed duration. So, for this engagement consideration must be required and the choice is always upon the Optionee to make closing on the property or not. If the Optionee doesn’t close the option, he will lose his option consideration. The consideration shall be in the shape of money or a lease or might be anything, which shall be determined while making the consideration and the same must be specified in the Agreement. And of course there must be an end date. If it is required the end date can be negotiated prior to the completion of the term of the agreement but it can’t be changed unilaterally by either party.    

 is a specially designed contract between the Buyer and Seller. Let’s discuss how it exactly works:

Basics of Real Estate Option Contracts

A Real Estate Purchase Option is an engagement between the buyer and the seller on a specific area of Real Estate, which allows the buyer an exclusive power to buy the property. This means once the Buyer and Seller engaged with a Real Estate Option contract, the Seller can’t sell the same property to anyone else except the Buyer and as a consideration the Buyer shall pay a definite amount to the Seller. The option usually includes a predetermined price to purchase the property within a fixed timeframe such as six months to 1 year (Term of the contract).

However, the Buyer have the full discretion to buy the property, whereas the Seller shall only be allowed to sell the property to the Buyer only but within that fixed Term. 

The option once bought at an agreed upon price and the Buyer doesn’t buy the property within the Term of the Real Estate Option Contract, the Seller shall be entitled to keep the money, which has been used by the Buyer to buy the option.

However, the Buyer may sell or assign his option to any other party with the same term and condition. But these contracts shall not be allowed to be assignable, if it is strictly mentioned in the contract that, they are not assignable in any manner. It always grants a right to the buyer on the property. 

The Real Estate Option generally used by the real estate property developer and the Investing companies

So, the Option provides an additional scope to the buyer with a fixed term and the said property shall be held until the Option expires.

Types of Real Estate Option

There are many Options usually used by the promoters and investors. It actually controls the property with a minimum investment by allowing the buyer sufficient amount of time to perform certain objectives and required due diligence. 

1. Purchase and Sale option contract: it will allow the buyer to close the option;
2. Buy back Option: by which the buyer may give the right to the seller to buy back the option;
3. Option Listing: it will make available more commission than the normal options;
4. Management Option: allow to purchase the option through a management agreement;
5. Purchase option in installment: payment shall be done by installment or quit;
6. Rehab Loan Option: shall allow the rehabber an option to pay the loan amount and get the advantage;
7. Defensive option contract: the option which protects the equity;
8. Options for Individual Retirement Accounts: the option which may used for turbo charging retirement accounts;
9. 1031 Exchange Options: by using this option the buyer pays a premium amount to hold the period and then exchange the property at the time of purchase.

Advantages for the Buyer

The Real Estate Purchase Options are very profitable and can be a great option for the buyer. If a buyer wants to buy several properties to build new houses, this purchase option can be a very good idea for him as the purchase option can make the property available for a fixed period, till that time the buyer will get enough time to arrange the funding to buy the same.

Also the seller or the landowner can’t sell the property to anyone else during the term of the contract. While closing the seller must sell the property to the buyer at an agreed upon price, even if the valuation of property have risen during the interim. Also there are few option contracts which include a limit on the pricing of the property or may include different formulas to determine the final price.

Advantages for the Investor

The investor can use the Real Estate Option to make a high profit investment with a relatively low risk. If an investor got to know that a commercial plot is available at a very prime location of the city to make any further development as a shopping mall or for any commercial purposes. Here the seller instead of purchasing the plot straightaway and again selling it to the developer, the investor can purchase the exclusive right to the plot through a real estate option contract. 

By using the option, the investor will get enough time to arrange and negotiate with different developers by offering them a much higher price than the locked in purchased option price. Once the investor got the higher price, he may directly sell the option itself with the purchase price or purchase the plot and then again sell it to the developer by pocketing the difference.   

Legal Requirements and Other Essential Aspects

Like any other contracts with related to the immovable property, the Option contract also must comply with the following conditions:

1. Shall be in writing, along with the condition related to the cancellation or any modification of the option during the term of the contract;
2. Shall be signed, at least by the Seller, but it is always recommended to sign by both the parties.
3. Like any other contract, the option must also be supported by a consideration in order to make the contract enforceable in court.
4. The option must state the duration, which means for how long the offer will remain available to the buyer. If it is for a fixed time, the closing of the option must take place within that time limit. If there is nothing mentioned related to the duration of the option in the option contract, then the court will suggest the seller to hold the option for a reasonable time, as the option can’t be available for an indefinite period.
5. Lastly the option contract must specify the selling price, in case during the time of closing of the Option, there must not be any dispute regarding such. If there is no clause mentioning such in the Option Contract and the Court also can’t determine the price from the option contract, then the contract will miss a very essential clause and may not be allowed to be enforceable. 

So, it is promptly suggested that any condition related to the closing of the Option Contract must be stated within the contract.

Example of a Real Estate Option Contract

Imagine that Rahul is interested to buy a sea-facing apartment in Mumbai from Anjali at a cost of INR 10 crore (Rupees Ten Crore only). However, at the same time Rahul is also awaiting a job offer in Noida, which will force him to move there. Rahul obviously wouldn’t want to buy the apartment till the time he’s sure about his job offer. He knows that, if he gets the job offer in Noida, without having any option, he has to sell it and move. Anjali also realizes that she has a potentially good buyer.

Rahul and Anjali decided to enter into an Option Contract. Anjali agrees that, for 60 days, Rahul has the exclusive right to buy the apartment for INR 10 Crore. But as a consideration, Rahul shall pay Rs. 1 Lakh (Rupees One Lakh) to Anjali to get this exclusive right. By engaging with such a contract, both benefited. Anjali has got a potentially good buyer on the hook and Rahul also has bought himself some time to figure out his job offer.

So, the option contract can be beneficial for both the Buyer and Seller of the property. 

Remedies if any party breaches the Option Contract

Although the option contract is an open-ended and the buyer can leave at any time, a seller may violate the contract in various ways. If at any instance the seller refused to sell the property during the closing of the Option or the seller canceled the option on its own without the buyer’s consent.

By using the above example, if Anjali during the contract period got an offer of INR 15 crore and she decided to alienate the apartment with that person. Which clearly violates the option contract done by Anjali with Rahul.

So long as the seller sells the property to someone else in accordance with the continuance existence of the option, there is no breach. So long as the buyer got the notice of the option at the time of the sale, the buyer can enforce the option against the new buyer.

But, if the buyer doesn’t have any notice of an option at the time of sale, the right of the optionee’s got terminated and the seller is in breach of the option contract.

At any instance the Seller breaches the option contract; there are some remedies available to the buyer, which may include:

1. Specific Performance: by which the Court order the seller to sell the property to the Optionee, who has exercised the option;
2. Money Damage: any claim of damages including the money that the optionee spent in connection with such deal.

Conclusion

Real Estate Option offers various ways to trade, invest and profit from real estate investments. It can be considered as the over-the-counter contract between both the parties. Though there is no similar market for these types of options but a provision which shall allow the buyer to sell the option during an active holding period. 

In general, the buyer and the seller must ensure that, the provisions of option contract Shall be in writing, along with the condition related to the cancellation or any modification of the option during the term of the contract and the same Shall be signed, at least by the Seller, but it is always be recommended to sign by both the parties.

References

• https://www.investopedia.com/articles/active-trading/021015/how-make-money-real-estate-options.asp#:~:text=Broadly%2C%20a%20real%20estate%20option,end%20of%20the 
• https://jackshearealestate.com/real-estate-option-types/ 

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