What You Need to Know About the Letter of Intent
The other day, a member of our Multifamily Community Facebook Group had questions about when and how to use a letter of intent. This isn’t the first time I’ve had someone ask me about this topic, so today I’m sharing that information here on the blog.
What’s a Letter of Intent?
The letter of intent (LOI) is a written ‘handshake’ agreement between two parties indicating their mutual desire to enter into a binding contract or lease.
In a real estate transaction, the purpose of an LOI is to create a (mostly) non-binding agreement between the Buyer and Seller so that both parties can begin to negotiate in good faith.
When to Use a Letter of Intent
There are two general ways to make an offer on a property.
The first is to draw up a complete purchase and sales agreement with your desired terms and present it to the seller. More often than not, this will involve the help of a lawyer and will cost you time and money.
The second is to write up and submit an LOI. This simple one- or two-page document will be sufficient to get your desired terms out on the table and begin the conversation with the seller. If you find that you won’t be able to reach an agreement, you won’t have wasted the time and money necessary to draw up a contract with your lawyer.
What to Include in Your Letter of Intent
Given its intended function, the LOI doesn’t have to be anywhere near as complex as a full-blown purchase and sale agreement. If and when the Buyer and Seller come to terms, the contract will expand upon every term in appropriate detail.
That said, here’s what should go into a good LOI:
- Biographical Information – Begin by specifying the full names, addresses, and contact information for each of the parties involved in the transaction.
- Purchase Price – Indicate your opening bid on the property. This figure will likely change in negotiation. At this point, however, getting the number out there quickly will help see if you and the seller are on the same page.
- Down Payment and Loan Terms – If you’re going to make the deal contingent on financing, specify the basic terms of the loan you plan to secure.
- Escrow Company – Include the name and contact information for your title attorney or escrow agency.
- Closing and Conveyance – Specify the attorney who will close the transaction as well as your anticipated closing date.
- Conditions/Contingencies – This section is especially important. In it, you’ll set yourself up for the due diligence that will immediately follow a binding purchase and sales agreement. Be sure to include provisions for financing, appraisal, title survey, physical inspection, and document review (including current leases, rent rolls, income statements, and service contracts).
- Earnest Money – Specify the amount of earnest (“good faith”) money you intend to submit if and when a contract is written. This money is your guarantee that you’ll hold up your end of the deal. The purchase and sale contract will contain precise language for how earnest money is to be handled.
- Costs/Expenses – If you’d like the seller to cover the cost of a title insurance policy, you’ll want to make that known in your LOI. Additionally, you’ll need to specify who’s expected to cover which portions of the closing costs associated with the property. Finally, make sure to address tax and utility prorations as well.
- Contract Assignment – Though not absolutely necessary, I suggest you retain your right to assign the contract to another party if you so choose. This will not only give you an option to ‘sell’ the deal to another investor but to transfer it into an LLC.
- Personal Property – Transfer of personal property can often be fraught in real estate transactions. It’s important to specify—in detail—which items you’d like to remain with the property so that there can be no dispute later.
- Broker Commission – If there are brokers involved on either side of the commission, be sure to indicate their commission figures as well as who’s expected to pay.
- Exclusivity/Non-Shop/Non-Solicitation – This is one of the most critical sections of your LOI. In it, you’ll specify that the Seller is by no means to market the property or to solicit other buyers so long as this LOI is in effect.
- Confidentiality – Make sure to include language that prevents either side from disclosing information about the deal to a third party without written permission.
- Additional Stipulations – If you have any further requests that haven’t been addressed in the previous terms, add them in the final section of your LOI.
To Bind or Not to Bind
Close your LOI by indicating that all but the exclusivity and confidentiality portions of the letter are not legally binding. If you fail to do so, then the LOI could be interpreted as a legally binding contract, opening you to unnecessary obligation and legal liability.
Conclusion
The letter of intent is a low-pressure way to indicate your serious interest in purchasing a property and give you protected time to investigate further without worry about losing out to a competitor. For those reasons, I’d recommend you use an LOI on every deal.
For more on letters of intent, along with an example, check out my free book on Multifamily real estate investment.
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