A carefully drafted letter of intent (“LOI”) can be an important tool for commercial real estate brokers to understand and use. Time and resources spent drafting an LOI early in the negotiations of a commercial real estate transaction will make it easier and less expensive to reach a formal agreement and reduce the risk that hidden deal breakers.
An LOI is a summary of the essential terms and conditions in a proposed commercial real estate transaction. It provides a basic framework for further negotiations that will eventually result in a formal agreement. Therefore, a typical LOI is nonbinding, which means the parties are not obligated to perform until a formal agreement is executed. However, the parties may intend certain terms to survive termination of the LOI, such as a requirement to keep exchanged information confidential.
A well-prepared LOI helps parties organize and consider important issues early in their negotiations. The act of writing down the essential terms of a proposed commercial real estate agreement forces parties to articulate what they understand the fundamental agreement to be. This often brings to light potential areas of disagreement or deal breakers that the parties then have the opportunity to more thoroughly discuss before significant time and resources are invested in reaching a final agreement. When the parties are ready to draft the final sale or lease documents, the LOI provides a roadmap for drafting the formal agreement.
Involving legal counsel at the LOI stage reduces the risk that hidden issues or misunderstandings will prolong negotiations and delay closing when the formal agreement is being drafted and reviewed. A lawyer can identify and address risks and concerns early on in the negotiation process when it is easier to change the terms and there is more time to negotiate before closing. Waiting until the final agreement has been drafted to have the lawyer review the documents reduces the lawyer’s ability and leverage to resolve issues because the parties may already be committed to the terms. Including legal counsel in the creation of the LOI generally reduces time and money spent drafting the final documents because the parties are not stuck ironing out major problems and can focus on the smaller details.
Legal counsel can also help draft or review the LOI to make sure it says exactly what the parties understand the terms to be and to avoid the LOI being interpreted as a binding agreement. Although LOIs are generally nonbinding, parties can inadvertently make terms binding on them based on the language used in the LOI or by taking steps toward performance of these terms before the formal agreement is finalized. Keeping legal counsel involved throughout the process reduces the risk that a party will enter into a binding contract without realizing it.
To be effective, LOIs must balance the simplicity of only addressing the essential terms of the proposed agreement with the need to iron out potentially complex or unique details particular to the transaction. A well-drafted LOI focuses the parties’ attention on the known issues in an efficient manner and conveys the parties’ willingness to negotiate to resolve these issues, making it more likely that the parties will reach a final agreement and get to closing.