Letters of Intent: A Potentially Double-Edged Sword

By Oscar R. Rivera on January 15, 2013 10:11 AM
January 15, 2013


Thumbnail image for Oscar Rivera photo FINAL.jpgA letter of intent ("LOI") is a preliminary agreement that is used to outline a general understanding of the basic business terms of an anticipated real estate transaction. LOIs are generally used to establish the general framework of the business deal and are intended to serve as an outline for the lawyers to use in drafting a binding, formal purchase and sale agreement or lease agreement.

There are many reasons parties enter into an LOI. Business owners generally prefer to have one to determine whether it is worthwhile to invest the time and money of hiring a lawyer to do a formal purchase agreement. If the parties are unable to agree to the general framework, then there is no need to incur the expenses of drafting a formal agreement that may never be acceptable to the other side.

Unfortunately, business owners do not always engage an attorney to draft the LOI, and that could lead to trouble. The legal implications of LOIs are often misunderstood, and unless drafted properly, an LOI could be found to be a wholly enforceable contract by a court of law. Rarely, if ever, do the parties actually intend for that to happen, but multiple courts have found LOIs totally binding, some have found them partially binding, and still others have found them non-binding.

Most LOIs include a provision at the end making them non-binding. Generally that is the intent of the parties. Once the LOI is accepted, the parties engage counsel to draft the formal agreement. Until the final agreement is signed, generally, neither party is bound to the other. The tricky part is the interrelationship between some of the business terms outlined in the body of the LOI and the exculpation clause at the end. If one of the terms requires that the parties will not deal with anyone else for a specified time over the real property in question, then the parties have created a partially binding LOI. Such obligation has been enforced by courts, and the failure to deal exclusively with the other party has been found to be a breach and subjected the violating party to damages.

Another issue that creeps up is the common law obligation of "good faith and fair dealing." Such obligation is implied by law upon contracting parties in a number of jurisdictions, and the failure to negotiate in good faith towards a contract as contemplated in the LOI has also been found to be actionable. Therefore, unless excluded with specificity in the LOI (and depending on the language in the LOI), a party to the LOI may be forced to negotiate with the other party even if it has been approached by an independent third party who is willing to make a better offer.

To be safe, counsel that is familiar with the drafting of LOIs should review the LOI before it is sent to the other side or accepted by the receiving party. While, admittedly, the purpose of an LOI is to reduce the client's legal costs, the failure to have counsel draft or review an LOI may have unexpected consequences that could have been easily avoided.

The South Florida real estate lawyers at our firm have substantial experience in the drafting of LOIs. We write regularly in this blog about important business and legal issues for the commercial real estate industry in Florida, and we encourage industry followers to enter their email address in the subscription box at the top right of the blog in order to receive all of our future articles.