A Lion In A Cage Is Harmless

This article is written to the real estate salesperson or broker who wants to provide better service to his client. The subject of the article is contracts, and more specifically the “default” section in most standard form contracts.

Understand first the importance and purpose of the default paragraph. A valid contract builds a cage around the transaction. The outer limits of the cage are defined by the contract you draw. Inside the walls is a discussion of terms and conditions about just how that contract will be performed. But the parties will close. The outer walls remain, in the sense that the parties are not intended to get out of the contract once signed.

The default section creates the wall by defining what happens if someone wants out. If one party gets a better deal after the contract is signed, you can bet he will hard at the default paragraph to determine whether he loses more money performing the contract, or will have a net gain by performing another one.

Here is where your job begins. If you assume every contract will be performed, you don’t need remedies. However, every contract will not be performed, and that in fact no contract will be closed unless something can be done to enforce it. Enforcement is what courts, arbitrators, and mediators are for, but your contract is the blueprint for that action.

The standard form gives the buyer the remedy of getting his earnest money deposit (“EMD”) back, or claiming specific performance or damages. It gives the buyer a full range of tools with which to work. However, the standard merely gives the seller the right to keep the earnest money deposit or to sue for specific performance. It does not give the seller a right to damages.

First, this makes the amount of the EMD all important. Second, consider the following real life example about the effect on a seller when he has no right to damages:

Seller owns a $400,000 house which buyer has agreed to purchase. On the day prior to closing the buyer finds a waterfront home he would rather have, for approximately the same price and backs out of the contract. Realistically, what is the seller’s remedy?

Obviously, he can take the EMD. If that EMD is $5,000, the seller can split the EMD with the broker and have almost enough to make one month’s payment on the house he thought he had sold. On the other hand, he could sue for specific performance. A specific performance lawsuit is not automatic. A judge could deny specific performance; it is, after all, an “equitable” remedy. It will take 8 or 9 months to get a case like that before the court, and by that time the purchaser will have bought another house. His financial ability to buy this house, and at the same time own another house is doubtful. If the court finds that the prospective purchaser simply can not afford to purchase 2 houses, he most likely will find it inequitable to grant specific performance relief, and may deny relief altogether. That means the seller has been making $3,000 per month payments on an unoccupied house, has paid his lawyer, has paid cost of court and depositions, and very likely will get nothing. In the mean time, he has placed his house back on the market since to do so would destroy a specific performance lawsuit. This contract effectively compels a seller to claim the earnest money deposit, put the house back on the market, and wait until another buyer comes along, however long that may take.

If the seller held his house for a year trying to resell, and then sold the house for $350,000, this bad contract would cost the seller $100,000 or more!

When something like this happens, realtors, courts, lawyers and the legal and real estate systems in general get blemished.

My advice is like the story about paranoia -- it isn’t paranoia if the rest of the world really is trying to kill you. You aren’t paranoid if you believe people really will try to escape your contract. They will!

Take your closing agent to lunch.