When debriefing a lawsuit, real estate clients almost always ask the same question: How can we revise our contracts to avoid litigation?
In my experience, there is no perfect lease, no perfect real estate contract. There are, however, a few easy steps that you can take to avoid litigation.
Lean On Lawyers to Draft Your Contracts
Use contracts drafted by lawyers, especially if they have technical provisions like options, rights of first refusal, and rights of first offer. Do not use leases or contracts that you download from the internet. Avoid recycling contracts between deals without making deal-specific changes. While these tips seem obvious, it is amazing how frequently they are not followed, even by sophisticated real estate professionals, and how frequently they lead to litigation.
If you want to add a little more protection, here are some suggestions: 1) know who you are doing business with; 2) if possible, avoid options, rights of first refusal, and rights of first offer; and 3) if a deal does not feel right, trust your gut and bail.
1: Know the Other Side
If you do a deal with a serial litigant or someone that does not pay their bills, your chances of litigation increase exponentially. Most often, it is people and not bad contracts that cause lawsuits. To find out who these people are, you can search court records for lawsuit filings and clerk and recorder records. In these records, you can find out who files lots of suits, who is sued frequently and who is subject to mechanic’s lien filings. A one-off lawsuit or a mechanic’s lien filing is not an unusual part of real estate business, but when you find someone who is involved in lots of litigation or mechanic’s lien disputes, you know you have a problem. CoCourts.com and county clerk recorder websites are both great resources for finding out how litigious someone is and figuring out who to avoid in a real estate deal.
2: Just Say No to ROFO
Outside of the failure to pay rent, options, rights of first refusal and rights of first offer spawn a disproportionate amount of real estate litigation. When someone asks me how to avoid real estate litigation, my first response usually is this: Don’t agree to a last-minute option, right of first refusal, or right of first offer pitched as deal sweetener. These rights often do no more than keep litigators in business and become unintentional weapons in volatile real estate markets.
When negotiating a deal, if you are discussing an option, ROFR, or ROFO and simultaneously say or hear something like, “just to get us a across finish line,” put on the brakes. It is time to say no for two reasons.
First, options, ROFR and ROFO agreements are hard to draft well, and these agreements – even those that are thoughtful and well crafted – trigger a lot of litigation. Countless court decisions from across the country confirm how these agreements can unintentionally blow up future deals and turn a great transaction into a litigation nightmare. To avoid post-deal litigation, take a conservative approach to granting options, ROFRs, and ROFOs, and grant them only when absolutely necessary.
It is not practical to avoid these agreements altogether. If an option or preemptive right is not an afterthought and is essential to a deal, make sure that you have an attorney draft the agreement and make sure your attorney specializes in real estate transactions and only practices real estate. This will increase the chance that the agreement serves its purpose. It also will minimize the chance that it turns into a weapon or a lawsuit.
Second, non-attorneys and attorneys who don’t specialize in real estate draft and insert options, ROFRs, and ROFOs into contracts and leases all the time and put their clients at risk. These provisions are typically inserted into agreements in the final stages of a deal, they are one or two sentences, and they are drafted by owners or brokers because parties don’t want attorneys coming into a deal at the last minute. A significant percentage of the option, ROFR, and ROFO litigation that I have seen filed over the last several years is the result of drafting by a non-lawyer or a lawyer who is not a real estate specialist.
Many parties are reluctant to involve lawyers in a deals, especially after an experience where a lawyer unnecessarily delayed a transaction, increased expense without adding commensurate value, or focused comments on low-probability issues that aren’t relevant to a client’s business.
A bad experience with a lawyer is not a reason to have a nonlawyer draft an option, ROFR or ROFO. It is a good reason to find a new lawyer who makes deals happen.
Instead of finding a new lawyer, real estate professionals address the “lawyer problem” by drafting lease and contract provisions that seem minor and help close transactions. If you see a nonlawyer adding terms, like options, ROFRs or ROFOs in the final sections of a lease, in the additional provisions section of a state form contract, or as a two-sentence addition to a lease or contract, be ready to say no. Be ready to say no because even lawyers with significant training have trouble drafting these provisions. Drafting them without legal expertise is a surefire way both to end up in litigation and to lose a lawsuit.
3: Trust Your Gut
In almost every real estate suit that I have litigated, there are hallmarks of litigation in pre-deal negotiations. They are easy to see after the fact and often ignored because of the stress and pressure of a pending deal. Trust your experience and instinct, because when something feels off, it probably is. And when there are markers of a problem early on, make sure that you heed those signals. As they say, sometimes the best deal is the one you didn’t do.
This article was originally published by Colorado Real Estate Journal.