Real Estate – Buying and/or Leasing

As an entrepreneur, you’re probably aware that real property (“real estate” or “property”) and its associated legal issues pervade nearly every aspect of business at one time or another: from investing to develop real estate, to leasing office space for your company, real estate issues are inescapable in business. Additionally, in many cases, purchasing real estate or entering into a long term lease for your business will be your largest and most long term investment. Based on the wide body of statutory, regulatory and case law governing real estate in Utah, the space allotted for this chapter will only provide a brief overview of the many areas and their associated legal issues. It may, however, help you to recognize legal issues of which you might not otherwise be aware. As always, the law is complex and it’s very important to engage a real estate attorney early in any real estate purchase or leasing process, so you have the benefit of obtaining good legal advice to mitigate potential issues and represent your interests in the transaction.

 

GENERAL REAL ESTATE AND CONTRACT PRINCIPLES

 

Interests in real estate are merely private contracts, subject to the principles of contract formation, including offer, acceptance and consideration discussed in section A(2) below. Real estate is also governed by federal, state and local laws that may govern the particular interest, such as conveyancing, zoning and environmental laws.

The “Bundle of Sticks”

In their first year of law school, law students are generally introduced to property law as a collection of multiple rights, rather than an individual item. In most cases, law professors analogize property rights to a “bundle of sticks,” with each stick in the bundle representing a particular right or stream of benefits.2 The following details some of these rights, using real estate rather than personal property as an example.

The Right to Control, Use and Possess. You have the right to use, possess and occupy property you personally own; however, private contracts may also provide the right to use property you don’t own, such as in the case of a real estate lease. In either case, there may be public or private restrictions on your right to use and control the property. For example, government regulations may restrict the size and color of a sign you would like to place on a building you own, and a lease agreement may completely restrict signs on real estate you lease. The right of possession also gives you the right to invite others to enter or occupy the real estate.

The Right to Benefit and Enjoy. Correspondingly, you also have the right to benefit from anything produced by real estate you own. You also have the right to hold title without any other person (like a former owner), claiming an interest in the real estate. Following the real estate example above, ownership of real estate provides you the right to benefit from rent payments if you decide to lease the real estate. Like the right to use and possess, government regulations (in the form of taxes) may curtail your right to benefit from rents received from the lease. Additionally, private contracts may restrict your ability to lease the building and receive rent.

The Right to Transfer. If you decide you want to use your invested capital to purchase new real estate or invest in another venture, you can sell or assign the real estate to another person and receive the benefit or burden of any increase or decrease in value. As with other rights in the bundle, taxes may curtail your potential profits and private contracts (such as recorded covenants, conditions and restrictions) may restrict to whom you may transfer the real estate.

The Right to Destroy. It’s probably not surprising that you have the right to destroy any real estate you own, again subject to certain restrictions, such as environmental laws.

The Right to Exclude. If you own real estate, one of the more significant rights in your “bundle” is the right to exclude other members of society from any occupation, use, benefit, transfer, enjoyment or destruction of the real estate.4 As in the case of all other rights, even the right to exclude may be curtailed by public or private rights in the form of easements, search warrants, or emergency situations. For example, under Utah law, if a property owner allows a fence line to encroach on his property for a long period of time, the fence line will become the new boundary line.5

Contract Formation

Although the basics of forming a binding contract were discussed in earlier chapters, it’s helpful to quickly review those requirements. A binding contract is formed when (a) one party makes an offer or promises to something, (b) the other party accepts, and (c) there is a valid exchange of value between the parties (known as “consideration”).6 A simple example would be one where I offer to mow your lawn this weekend for $30 and you accept my offer—this example contains offer (“I’ll mow your lawn”), acceptance, and consideration (the value received and given, $30 in exchange for the lawn mowing service).

Offer. An offer is a “manifestation of willingness to enter into a bargain, so made as to justify another person understanding that his assent to the bargain is invited and will conclude it.”7 For an offer to create a binding contract, the terms of the offer must be definite enough that the contract can be performed, which generally requires the parties to the contract, the length of time for performance (the “term”), the price, and the subject matter or scope of services.8

Acceptance. An acceptance is “a manifestation of assent to an offer, such that an objective, reasonable person is justified in understanding that a fully enforceable contract has been made.”9 The acceptance must be unconditional and conform to the exact terms of the offer; if the acceptance contains a condition (i.e., “I accept your offer to mow my lawn for $30, but only if you do it on Saturday”) then a “counteroffer” has been made which rejects the original offer and the original offeror can then either accept or reject the counteroffer (i.e., “I accept your offer to perform the lawn mowing service on Saturday”).

Consideration. “Consideration is present when there is an act or promise given in exchange for the other party’s promise.”11 The consideration requirement for contract formation simply means that the parties to the contract must exchange something of value. In the lawn mowing example, both parties receive value: you receive the lawn mowing service and I receive $30. Consideration doesn’t necessarily need to include money, for instance, if I offer to provide you legal services in exchange for your agreement to wear a shirt with my law firm’s logo to a business event, the exchange of value would constitute sufficient consideration to form a contract. Consideration must, however, be mutual: if only one party receives value from the transaction, it will generally be categorized as an offer to make a gift.12 Although this concept seems simple, even seasoned business people and attorneys can miss this issue in certain contracts.

The Statute of Frauds

In addition to the requirements for formation of a valid contract, real estate contracts (such as leases or purchase contracts) are also included as transactions that are covered by the “statute of frauds.”14 The statute of frauds has been enacted throughout the United States (including Utah) and is based on an English statute originally enacted in 1677 and entitled “Act for Prevention of Frauds and Perjuries.”15 Utah’s enactment of the statute of frauds requires certain kinds of contracts to be memorialized in writing, including real estate leases longer than one year and sales of real estate or any interest in real estate.16 Accordingly, unless you’re entering into a lease less than one year, make sure the contract is in writing and signed by the parties.

INTERESTS IN REAL ESTATE and CONVEYING REAL ESTATE

 

If you’re buying or selling real estate, your interest in the real estate must be conveyed through a deed, which sets forth how the real estate will be owned. A copy of the deed must then be recorded with the county recorder in the county where the real estate is located. A quick note regarding terminology- in this and later sections, the individual (or entity) transferring real estate will be referred to as the “grantor” and the individual receiving the real estate will be referred to as the “grantee.”

Interests in Real Estate (“Estates”)

 

Before you can convey or purchase real estate, it’s helpful to understand some of the specific interests in real estate that can be conveyed, several of which are discussed below.

Fee Simple. Fee simple is the most common and complete form of real estate ownership and conveys an interest “. . . clear of all encumbrances or interests of any other person.”17 A fee simple interest is also inheritable.18 Utah statutes provide that fee simple title to real estate is the presumed interest conveyed, unless the conveyance states that a lesser interest was intended.

Fee Simple Defeasible. A fee simple defeasible interest in real estate is conveyed when the extent of fee simple ownership is limited by some condition or covenant, i.e., “[i]f a fee estate can be determined or defeated by an event which is not certain to occur, it is a defeasible fee simple . . . [a] defeasible fee gives a complete set of rights of ownership to the grantee until the defeating event arises.”20 Defeasible fees are further broken down into two subcategories: fee simple determinable and fee simple subject to condition subsequent.21

In the case of fee simple determinable, the defeasible fee terminates automatically once the condition in the conveyance occurs.22 For example, if I convey real estate to you as long as it is used to operate a zoo, if the land is ever not used for operation of a zoo ownership of the real estate will automatically be transferred to me.

Fee simple subject to a condition subsequent is similar to fee simple determinable because ownership also has a condition attached; however, once the triggering event occurs transfer is not automatic and the original grantor must take steps to reclaim the real estate.23 If the grantor doesn’t take steps to reclaim the real estate, then the real estate does not transfer back to the grantor.24 In the zoo example, if the land is not used for operation of a zoo, I would be required to “re-enter” the land by taking action to recover it25 and if I didn’t, you would remain the owner.

Life Estate. A life estate conveyance grants a temporary interest to use real estate for the duration of an individual’s life (sometimes subject to conditions), and at the end of their life, the real estate will transfer to either the original grantor (reversion) or to a third party (remainder), depending on the language used in the conveyance document. A life estate cannot be inherited, and the holder of a life estate has the right to sell, lease or encumber the real estate, although those interests automatically terminate at the time of the holder’s death because the holder cannot transfer a greater interest in the real estate than they possess.

Types of Real Estate Ownership

Just as there are different interests in real estate that can be conveyed, there are also different forms of real estate ownership, including individual ownership and various forms of co-ownership, the more common forms of which are discussed below.

Individual Ownership. Real estate can be owned by a single individual, but if you’re interested in real estate investing, it’s generally a better idea to own the real estate through a business entity such as a limited liability company, corporation or partnership. Owning real estate through a business entity helps to mitigate potential individual liability. In most cases, ownership through a business entity is a form of co-ownership between corporate shareholders, limited liability company members, or partners in a partnership.

Joint Tenancy. Joint tenancy is probably the most common form of co-ownership of real estate; it provides joint ownership in the same property with a right of survivorship if one of the tenants dies.27 For instance, if a husband and wife owned real estate as joint tenants, the wife would own the real estate individually if the husband died (or vice-versa). Similarly, if three individuals owned real estate as joint tenants and one of the individuals died, his or her share would be divided among the remaining individuals. Each individual in a joint tenancy can convey their interest in the real estate; however, the conveyance will sever the joint tenancy and create a tenancy in common (discussed in section B(2)(c)below).28 A joint tenant’s conveyance of their interest in the property does not convey the entire property because a joint tenant can only convey their individual interest in the property.29 Under Utah statute, every ownership interest in real estate granted to a husband and wife is presumed to be a joint tenancy with rights of survivorship, unless the conveyance specifically grants another ownership interest.30 Additionally, a joint tenancy cannot be established between a person and a business entity.31

Tenancy in Common. As previously discussed, if a joint tenancy is severed when a joint tenant conveys their interest in real estate, a tenancy in common is created.32 Tenancy in common differs from joint tenancy because (i) each tenant in common has a full, undivided right of possession of the real estate (regardless of their percentage of ownership),33 and (ii) there is no right of survivorship.34 Consequently, tenants in common are free to transfer their individual interests and if a tenant in common dies, his or her share of the real estate passes to his or her heirs under probate law.35

Deeds

Once you’ve established the interest in real estate that will be conveyed and how the real estate will be owned, it’s necessary to prepare a deed, which is the document that actually conveys the interest in real estate and passes ownership.36 As previously discussed in section A(3), deeds must be in writing and signed by the grantor to satisfy the requirements of the statute of frauds.37 Additionally, the deed must be supported by consideration (to create a valid contract) and be delivered to the grantee.38 Utah statutes provide three main forms of deeds that are differentiated by the particular warranties of title they convey to the grantee.

Warranty Deed. A warranty deed is the most complete transfer of real estate ownership: it transfers fee simple title to real estate and also contains five specific warranties relating to the real estate title.40 Utah statute contains a specific form for a warranty deed,41 which describes the five warranties as follows:

the grantor lawfully owns fee simple title to the real estate and has the right to immediate possession of the real estate;
the grantor has good right to convey the real
estate;

the grantor guarantees the grantee, the grantee’s
heirs and assigns quiet possession of the real estate;

the real estate is free from all liens and encumbrances; and
the grantor, the grantor’s heirs and personal representatives will forever warrant and defend title of the real estate in the grantee.

In simple terms, if real estate is conveyed by a warranty deed, the grantee receives the property with warranties that the grantor and all his/ her predecessor owners had good title to the real estate, i.e., the real estate is free from all liens and encumbrances. A warranty deed is the strongest deed if you’re the grantee/purchaser of real estate, but if you’re a seller of real estate you should strongly consider using a special warranty deed (described below) so you aren’t assuming liability for the encumbrances of previous owners.

Special Warranty Deed. In contrast to a warranty deed, in a conveyance by a special warranty deed the grantor only warrants title during their period of ownership of the real estate.43 Utah Statute also provides a form of special warranty deed, which provides warranties that (i) the conveyed real estate is free from all encumbrances made by the grantor; and (ii) the grantor, the grantor’s heirs and personal representatives will forever warrant and defend title of the real estate in the grantee.

Although this distinction may seem minor, it can have major impacts. To illustrate, imagine you purchased a commercial office building in 2014, knowing that the seller purchased the building from the developer in 2012 and the developer had declared bankruptcy in 2013. Then, in January 2015 you then receive a tax notice indicating that the 2011 property tax had not been paid and the county has placed a lien on the building. If the building had been conveyed to you by warranty deed, the seller would have warranted that no encumbrances existed relating to him or the developer, and the seller would be required to pay the tax bill to release the lien. If, however, the building had been conveyed to you by special warranty deed, the seller would not be required to pay the tax bill because the encumbrance related to the developer, not the seller.

Quit Claim Deed. A quit claim deed is the weakest form of deed because it carries no warranties of title and a grantee under a quitclaim deed “acquires only the interest of the grantor.”45 This means that if a grantor conveyed real estate to you by quitclaim deed and it was later discovered that the grantor had no interest in the real estate, then you would have no interest in the real estate. Similar to warranty deeds and special warranty deeds, Utah statute provides a form of quitclaim deed.46

Recordation

For a deed to be effective, it must be delivered from the grantor to the grantee,47 but a deed recorded with the county recorder in the county where the property is located creates the presumption of valid delivery.

In addition to the presumption of valid delivery, recording a document creates other presumptions, including that necessary consideration was given and the person executing the document is the person they claim to be.49

REAL ESTATE FINANCING: TRUST DEEDS AND LIEN PRIORITY

If you’ve ever purchased residential or commercial real estate, you’re probably aware that (in most cases) the purchase price is financed by the purchaser. The repayment of the resulting loan obligation in this scenario is the most common form of real estate financing or real estate “secured transactions”, where the repayment of the loan obligation is “secured” by a lender’s lien on the real estate and the lender can foreclose in the event of default on the loan obligation.50 Because real estate financing and its associated legal issues could fill many books, we’ll simply cover some of the basics in this section.

Lien Priority

For purposes of real estate financing, the date a document is recorded establishes “priority” among lenders, subsequent purchasers and other parties because a recorded document imparts notice to all others of the contents of the document,51 even if the document contains defects or irregularities.52 The term “priority” simply refers to the hierarchy of liens in the real estate and the corresponding rights of lenders and other lienholders. This system allows lenders “to reasonably rely on previously recorded trust deeds to provide them with an estimate of what their financial position will be relative to other security interests in the same property.”

Trust Deeds

Deeds of trust or “trust deeds” are covered extensively in Utah statute and constitute the most common form of security instrument used to secure real estate loans (generally referred to as “promissory notes”) in Utah.54 A “trust deed secures the obligations due under a note by transferring a security interest in real property to a trustee to be held until the debt is repaid . . . ”,55 and the trustee has the power to sell the real estate to satisfy the debt.56 In a typical transaction, the borrower signs a promissory note in favor of the lender and also signs a trust deed under which the borrower is the “trustor” and the lender is the “beneficiary.”57 Title to the real estate then transfers to the trustee named in the trust deed and the trustee has the power sell the property if the borrower defaults on the loan obligation (subject to certain notice and other requirements contained in Utah statutes).58 The trust deed is then recorded, creating a lien on the real estate and imparting notice to other lenders for purposes of priority.

Mortgages and Non-Judicial Foreclosure

In many states, traditional “mortgages” are used for real estate secured transactions.59 Mortgages are distinguishable from the trust deeds used in Utah because: (a) there are only two parties (the debtor- mortgagor and the lender-mortgagee),60 distinguished from the three parties under a trust deed (trustor, beneficiary and trustee);61 and (b) title to the real estate remains with the borrower-mortgagor until foreclosure occurs,62 distinguished from a trust deed where title transfers to the trustee.

Another distinction relates to foreclosure of the borrower’s interest in the real estate in the event there’s a default on the loan. In most cases, states that use mortgages (“lien theory” states) rely on a judicial process to foreclose on the borrower’s interest in the real estate, which generally requires court filings to foreclose the mortgage, which can create significant delays depending on the court’s backlog.64 In contrast, trust deeds are generally foreclosed “non-judicially”- because title is transferred to the trustee, the trustee has the power to foreclose and sell the property in the event of a loan default, which doesn’t require court supervision.65 There are, however, restrictions on the qualifications for trustees under real estate trust deeds, and only active members of the Utah state bar, depository institutions, trust corporations and title insurance companies may act as trustees.66

PURCHASING REAL ESTATE

Deciding Who Will Own the Real Estate

If you’re purchasing real estate as an investment, one of your first decisions should concern ownership of the real estate. As previously discussed, individual ownership of real estate is generally discouraged because if, for example, someone is injured on the property and obtains a judgment for damages (in excess of any insurance coverage) against the property owner, you’ll be individually liable for payment. For that reason, it’s advisable to purchase investment property through a business entity, such as a limited liability company, corporation or partnership, which limits individual liability for the business entity’s respective shareholders, members or partners (discussed in Chapter 4-13).

Assessing the Risks

As you’ve seen, in addition to the potential market risks that accompany investments in real estate (such as those intensified during the 2008 financial crisis),67 there are also other significant risks associated with purchasing real estate, including title risks and potential liability for environmental hazards located on the purchased property.

Title Risk. Title risk includes the possibility of previously recorded liens or encumbrances on the property that could affect your right to peaceable possession of the property. As we’ll discuss later, in most circumstances title associated risk can be mitigated by obtaining title insurance from a qualified title insurance company, but in some cases certain unrecorded easements or other encumbrances may not be disclosed in a title report.68 Recorded documents impart constructive notice of their contents to a purchaser, but a purchaser may also be subject to encumbrances when the purchaser (i) has actual knowledge of an encumbrance, or (ii) has actual knowledge of or certain facts or circumstances that would give rise to a duty to inquire further,69 such as viewing a dirt path running across the property prior to purchase.

Environmental Risk. Both Federal and Utah laws impose potentially serious liabilities on real estate owners for environmental contamination,70 including fines, penalties, civil lawsuits, environmental cleanup and potential restrictions on your use of the property. Therefore, conducting adequate environmental due diligence to uncover potential liabilities before purchasing a property is highly recommended, particularly when you’re aware that the property has been used to store hazardous substances (such as purchasing a fuel station with underground petroleum storage tanks). Additionally, conducting proper environmental due diligence before purchasing property can also create defenses to certain environmental liability.71

Available Professionals

If you’ve decided to purchase investment real estate, there are a number of real estate professionals who can assist you at various points in the purchase process. The list below identifies some of the key players.

Attorneys. Yes, it’s a shameless plug for our government sanctioned monopoly industry, but having a competent real estate attorney involved from the beginning of a transaction is vital. The attorney can draft and negotiate the purchase documents, assist in reviewing title and environmental reports, and generally provide counsel on the myriad issues that may arise in a given transaction.

Title/Escrow Professionals. As we’ve discussed, obtaining title insurance to cover any potential title issues is critical. Therefore, engagement of a licensed title company, including a title agent and escrow agent, is also crucial. The title company and its professionals can provide a title report on the property and ultimately provide insurance to insure against title risks. Additionally, title company escrow agents act as neutral third parties to hold purchase funds (subject to escrow instructions).

Environmental Professionals/Consultants. Because environmental liabilities can be devastating to a real estate investment, it’s a good idea to have an environmental professional on your team to perform environmental assessments to analyze potential risks. There are a number of different certifications for environmental professionals or consultants, but who you choose should generally be based on (i) the specific types of environmental risk that may be involved on the property, and (ii) the professional’s experience in the specific areas of concern that are identified. For instance, if you’re aware that the prospective property has been used for oil or gas production or has housed underground petroleum storage tanks, you’ll want to engage a professional with experience in subsurface soil and groundwater investigations.

Appraisers. As you probably know, appraisers analyze the current market value of residential and commercial real estate or raw land based on a number of factors. Utah law requires appraisers to obtain and maintain professional licenses,72 so make sure any appraiser you hire is licensed for the specific type of real estate you’re purchasing or selling.

Professional Engineers and Land Surveyors. Professional engineers and land surveyors are another form of professional that can be extremely helpful when purchasing real estate. If you’re developing property, engineers can assist in planning, design, construction and operation of the project, while surveyors can survey the property to determine boundaries, rights-of-way, easements and other aspects of the property. Similar to appraisers, surveyors are licensed and regulated under Utah law,73 so make sure any engineer or surveyor you engage is licensed.

Getting the Property Under Contract

Letter of Intent. If you’ve identified real estate you’d like to purchase, the next step is moving forward with the purchase by entering into a contract to purchase the property. In most transactions, a preliminary outline of proposed contract terms for the purchase of the property are exchanged between buyer and seller. This preliminary document is known as a “Letter of Intent” or “LOI,” and should only contain an indication of the parties’ intent to enter into a binding purchase agreement at a later time.

LOI’s are generally not enforceable as contracts because certain material contract terms are left open for future consideration (such as a final price or closing date).74 In some cases, however, Utah courts have determined that “agreements to agree” (such as an LOI) contain sufficient material terms to uphold those agreements as contracts,75 so make sure your LOI doesn’t fall into that category.

 

Real Property Purchase Agreement Provisions. We’ve already discussed some of the contract formation basics, but it’s also helpful to review some of the specific provisions you’ll likely encounter in a “Real Property Purchase Agreement” (“RPP”).

 

Representations and Warranties. All RPP’s contain representations and warranties between buyer and seller. For example, the seller will represent that as of the transaction closing, it will own fee simple title to the property and will have the right to convey that interest through one of the deeds discussed in Section B3. In conjunction with this representation, a title insurance policy will generally be issued to the buyer at closing to insure the buyer against any breach of that representation.

 

A seller under a RPP may also represent and warrant to the buyer that: (1) it has the authority to execute the RPP; (2) it is in compliance with any agreement that affects the property, and there are no conflicts with any agreements; (3) no eminent domain proceedings are pending;

(4) no litigation may affect the sale of the property; (5) there are no mechanic’s liens, hazardous materials; (6) the RPP will be a legally binding obligation; and (7) seller is not insolvent and has not filed a bankruptcy petition.

The buyer also makes representations and warranties, including that: (1) it is authorized to enter into the RPP; (2) there are no conflicting agreements; (3) the RPP will be a legally binding obligation; and (4) buyer is not insolvent and has not filed any bankruptcy petitions.

As either a buyer or seller, you should carefully consider the representations and warranties you’re making in a RPP to ensure they’re accurate because misrepresentations can create post-transaction litigation (i.e., the representations and warranties aren’t just inserted to create more work for lawyers). For instance, depending on the terms of a particular RPP, if a seller represents there are no hazardous materials and that representation later turns out to be inaccurate, buyer can sue seller for the cost of cleanup, property value diminution, and other damages.

Conditions and Contingencies. RPP’s will also set out buyer and seller’s conditions to closing, which simply means the conditions that must take place to form a binding contract. For buyer, conditions to closing may include the accuracy of seller’s representations and warranties, that seller has satisfactory title, that seller has complied with obligations under the RPP, and buyer’s determination that there are no hazardous substances on the property. Seller’s closing may be similar, such as the accuracy of buyer’s representations and warranties, authority, and compliance with obligations under the RPP.

Deadlines. RPP’s also contain deadlines for the transaction, such as the closing date (when the purchase price and title are exchanged) and deadlines for the buyer to conduct due diligence on the property, such as environmental studies surveys and appraisals.

Default and Remedies. A RPP will also describe events that will constitute a default by either party under the RPP and the remedies available to the non-defaulting party. For example, seller may be in default if any of its representations and warranties are inaccurate, and the RPP may provide the buyer the right to terminate the RPP, seek other legal remedies or seek “specific performance.” Specific performance in an equitable (rather than legal) remedy that allows a buyer to obtain a court order compelling the seller to sell the property to buyer and perform under the RPP. Specific performance is a remedy that is usually only available to a buyer of real estate. The underlying philosophy for this remedy is that because real estate is completely unique, there is usually not a legal remedy that can give buyer the property for which it contracted.

Due Diligence

 

After a RPP is signed by the parties, a buyer will have timelines and deadlines to obtain financing and perform “due diligence” on the property.

Funding. Funding for a real estate purchase can take three forms (i) self-financing; (ii) seller financing; and (iii) third party financing, each with their respective benefits and drawbacks.

Self-financing has many benefits; however, from a business perspective it tends to tie up large amounts of capital that could be put to better use elsewhere. Since a large amount of personal capital is invested, greater risk is also created.

In a seller financing scenario, the seller agrees to finance all or a portion of the purchase of the property, generally by receiving a promissory note from the buyer where certain terms (such as the term of the note and interest rate) can be negotiated between the parties. Additionally, seller financing will in many cases require less stringent credit and financial covenants than a third party lender will require. Although seller financing can remedy the personal capital outlays inherent in self-financing, it can also have its own issues depending whether the seller has financed the property from a lender. For instance, if the seller has financed the property via a bank loan, the sale to the buyer and the buyer’s subsequent occupation of the property will almost always violate seller’s loan document covenants.

Third party financing usually takes the form of a traditional loan from a bank or other financial institution, which can also solve the issue of tied up capital. In many cases, bank financing may be a more difficult process, particularly if the business entity you’re using to purchase the property is newly formed. In that case, banks will almost always require personal guaranties from the business entity’s principals, which can increase risk to your personal assets if the loan goes into default.

Title Reports. During the due diligence period, you’ll work with your attorney and the title company to obtain a title report (or “title commitment”) that identifies any encumbrances on the property. Depending on what’s uncovered, there may be further negotiations between the parties or significant issues that could kill the deal.

Surveys. In conjunction with the title report, surveys will help to ascertain whether the legal description of the property is correct and whether any unrecorded easements exist on the property, such as consistently used easements through the property76 or old fence lines that could have created a “boundary by acquiescence.”77

Zoning. In Utah, almost all developable property is subject to state and municipal zoning regulations. Therefore, you should always determine whether the prospective property’s current zoning suits your intended business purpose. For example, if you’re developing residential homes on raw land, make sure you’ve complied with all Utah statutes and municipal ordinances relating to the creation of subdivisions. Likewise, if you’re purchasing an existing commercial building, conduct research to determine whether the building and its current or proposed uses comply with applicable zoning requirements.

Inspections and Evaluations

Appraisals. Depending on the specifics of your RPP, appraisals of the property may be required during the due diligence period. Appraisals help to make sure the price you’re paying for the property (or the price at which you’re agreeing to sell) represents the property’s market value. As previously discussed, make sure you’re using

a licensed appraiser who’s experienced in valuing the type of real estate you’re purchasing or selling.

 

Inspections. Various inspections may be applicable depending on the property you’re purchasing. Land surveys may be needed to identify boundaries or unrecorded easements. If you’re purchasing property with existing building(s), it’s wise to engage property inspectors and/or professional engineers to evaluate various aspects of the structure, including the foundation, roof, and HVAC and plumbing systems.

 

Environmental Studies. At this point, you’re probably tired of hearing about environmental issues, but based on the large risk environmental problems can represent, it’s almost always a good idea to perform a Phase 1 environmental study (including further studies depending on what the Phase 1 reveals).

 

Insurance. In addition to obtaining a title commitment and associated title insurance, insurance can be purchased for many other potential risks, including environmental risk or risk for breaches of representations and warranties contained in a RPP. If you’ve identified a specific area of risk associated with the property your purchasing, consult with your attorney and other professionals to determine whether cost effective insurance may be available to mitigate the potential risk.

 

Closing

 

Assuming nothing has been uncovered during the due diligence period that would allow buyer or seller to terminate the RPP, the purchase of the property will culminate on the closing date established in the RPP. In the simplest terms, at closing the buyer is obligated to transfer the purchase price to the seller and the seller is obligated to transfer title to the property. Although traditionally this was accomplished in a physical meeting (usually at the title company’s offices) where documents were signed and money was transferred, in the internet era these transactions are usually performed via email and wire transfers.

 

REAL ESTATE LEASING

 

Even if you aren’t in business to purchase and develop real estate, you’ll likely need to enter into a commercial real estate lease as a tenant to facilitate your business operations. Similarly, if you’ve purchased or developed a commercial property, you may want to lease space in the building(s) to commercial tenants as a landlord. Whether you’re on the landlord or tenant side of the transaction, it’s good to know some leasing basics so you can effectively negotiate and make an informed decision. To avoid repeating information from different perspectives, we’ve placed you in the tenant’s shoes in many of the hypotheticals below; however, the principles and negotiating points apply equally if you’re a landlord.

 

Preliminary Considerations

 

If you’re leasing property for your business, you should first consider the appropriate type of space for the business based on your business goals and requirements. If you’re running a retail operation, you don’t want to be located in a manufacturing/warehouse area, and vice-versa. Additionally, municipal zoning laws regulate where specific types of businesses may operate, so review those laws prior to committing to a lease. Next, because commercial leases are generally for terms of at least five years, you’ll want to make sure that the property you’re considering will withstand future expansion during that time period based on your business goals.

 

Negotiating the LOI

 

Similar to a RPP, lease negotiations generally begin with a LOI. The same principles discussed in section D4(a) apply to lease LOI’s, but the terms that are negotiated will be different. Essentially, a lease LOI should describe some or all of the following: (a) tenant and landlord;

(b) term of the lease, including any renewal options; (c) premises to be leased, (d) rent commencement date; (e) the amount of rent during the term; (f ) any landlord or tenant improvements to the premises; (g) responsibility for utilities and insurance; (h) the cost of additional rent,

 

such as taxes, insurance and common area charges; and (i) the tenant’s permitted use, any adjacent incompatible uses, and any exclusive uses.

Although many minor terms and other minutiae can be negotiated during the lease drafting period, the basic terms above should be acceptable to both parties before proceeding to lease negotiation. Specifically, the term, rent, additional rent, rent commencement date and tenant’s permitted use in the LOI should be acceptable to both parties. For instance, if the landlord is dead set on a 20 year term and the tenant doesn’t want anything longer than a five year term, it’s unlikely that the dispute will be resolved during lease negotiation and it likely makes more sense for the parties to go their separte way.

 

Negotiating the Lease and Overview of Certain Lease Terms

 

In lease negotiations, the respective economic positions of the parties will almost always dictate negotiating leverage. If you’re the hottest retailer in town and can demonstrably increase overall shopping center business, you’ll be able to command better lease terms with a shopping center landlord than a fledgling retailer, and vice-versa. Therefore, it’s always good to understand your respective economic position and establish your priorities at the outset of lease negotiations.

 

The following provides a brief overview of some lease terms you’ll encounter.

 

Term. A lease is simply a contract, and the term of a lease refers to the time period the landlord is obligated to provide the premises and the tenant is obligated to pay rent. Although you should be sure the term is palatable for you and your business before entering into a lease, there are provisions that can be negotiated to alleviate some uncertainty. Renewal options are common and usually give the tenant an “initial term” with options to renew for negotiated future terms. If you’re a tenant choosing a lease with renewal options, make sure you understand when the initial term expires and how to accept the renewal option (if it isn’t automatic) or decline the renewal option (if

 

it is automatic). Depending on your leverage (particularly in a retail business), a landlord may be amenable to allowing an early termination option if your revenue expectations aren’t realized at a certain period in the initial term.

 

Rent/Additional Rent. Rent is obviously the amount you will pay to the landlord monthly to occupy the leased premises, however, leases almost always divide rent into “base rent” and “additional rent.” Base rent is the base amount paid monthly during the term of the lease, and additional rent is usually denoted by a specific dollar amount per square foot of the premises. For example, if the leased premises is 5,000 square feet, the lease would provide additional rent at a certain amount ($4.00 per square foot in this hypothetical), resulting in additional rent of $20,000 annually. In many leases, the landlord will estimate additional rent for the first year of the term and then adjust it accordingly for future years. Since additional rent can sometimes be subject to wide variations, it’s a good idea to try and negotiate a reasonable cap on additional rent during the lease term if you’re a tenant.
Depending on the premises you’re leasing, additional rent may include property taxes, casualty and liability insurance paid by the landlord, and common area maintenance (“CAM”) fees (which cover the costs of the landlord’s direct expenses for parking lots, landscaped areas, hallways, elevators, lobbies, etc.). In an office building, shopping cener or other multi-tenant property, CAM costs are usually aggregated and then divided among all tenants on a pro-rata basis based on the square footage of their respective leased premises. When negotiating a lease, always make sure you know exactly what the landlord is including in CAM. If major structural repairs such as roofing or paving are included in CAM, you could be subject to a large CAM bill during the lease term. If the landlord has more leverage and won’t budge on certain CAM inclusions, it’s always a good idea to inquire whether the landlord has any major upgrades planned during the term of your lease.

Insurance. In a typical commercial lease, the landlord will maintain a certain level of liability and casualty insurance covering the property that contains the leased premises. As discussed above,

these insurance costs are usually passed on to the tenant in the form of additional rent, but the tenant is also required to maintain liability coverage for the premises in certain coverage amounts. The amount of coverage required can vary depending on a number of factors, such as the tenant’s business, the value of the property, etc. Because general liability coverage doesn’t usually cover the tenant’s personal property, the tenant should always obtain coverage for items such as inventory, equipment and any other personal property not covered by other insurance. In any event, have both your attorney and your insurance agent review the insurance provisions in the lease to make sure they are practical and possible.

Taxes. Real property and other taxes paid by the landlord are also estimated and included as a component of additional rent, but similar to CAM, the specific taxes that are included should be reviewed and understood prior to signing a lease.

Assignment/Subletting. Leases will always have provisions concerning assignment of the lease or subletting by the tenant, requiring landlord consent. If you’re considering subletting during the term of the lease, make sure this portion of the lease is workable. One common area of negotiation is how broadly the term “assignment” is defined: for instance, aside from the tenant physically leasing the premises to a sub tenant, the lease may define assignment as any “change in control” of the tenant business entity. In that case, if there’s ever a change in the controlling ownership of your business entity (usually 51% of stock in a corporation or membership units in an LLC), you’ll be required to obtain consent to assignment from your landlord.

) Improvements/Maintenance. It’s not common to find premises that fit your business operations perfectly, so some kind of improvement or alteration of the leased premises is usually required prior to commencement of a lease. The question of who will perform and pay for those improvements becomes a negotiating point between landlord and tenant. On the practical side, once you’ve determined the specific improvements and how they will be paid for, (i) specific plans

for the improvements should be attached to the lease as an exhibit to avoid confusion or later disagreement; and (ii) improvement timelines should be specified in the lease.

The lease will also describe the obligations of both parties regarding maintenance of the leased premises.

Remedies. A critical portion of the lease will describe the legal and equitable remedies available to landlord and tenant in the event either party defaults on their respective obligations under the lease. In simple terms, a tenant will default by failing to pay rent and a landlord will default by failing to provide the premises or adhering to other landlord obligations under the lease. Pay close attention to the remedies section. Although no one plans to default under a lease, it happens quite often when business expectations aren’t met and continuing business operations isn’t possible.

Keeping your Lease Meaningful

Lease Summary. Because commercial leases can quite easily exceed 50 pages of fairly complex material, insist on having a preamble to the lease that is incorporated into the lease and provides a summary critical information such as the lease term, base rent, additional rent, lease commencement date/termination date, contact information for tenant and landlord, and definitions for common capitalized terms or “terms of art” used in the lease. Having a lease summary allows either party to quickly review key terms without having to search through the entire lease or call their attorney and incur additional legal costs.

Consents, Modifications and Waivers. Many tenants and landlords get tripped up by failing to obtain consents, modifications, or waivers of certain lease terms in writing. Remember, the statute of frauds applies to estates or interests in real estate, other than leases less than one year,78 so your lease and any amendments or other agreements between the parties should always be in writing and signed by landlord and tenant.

78UTAH CODE ANN. § 25-5-1.

This also reduces miscommunication and misunderstanding, which in turn will reduce the likelihood of future litigation when expectations aren’t met.

Pay Attention to Practical Issues. In many leases, disagreement or litigation between the parties will be the result of a failure to pay attention to the practical aspects of the tenant’s occupancy of the leased premises. If you’re a landlord leasing office space to a high tech company that will be running thousands of feet of wire and cable through the building, you’ll want to specify the tenant’s obligations to remove the wires and cables at the end of the lease term, including repair of any damage they may have caused. On the tenant side, failing to pay attention to the amount of parking could prove disastrous for your business. Although legal issues are also paramount, paying attention to the practical aspects of occupancy can help avoid issues down the road.

CONCLUSION

The law is complex and this guide only covers superficial aspects of Utah real estate law, so make sure you contact a real estate attorney before embarking on any transactions.