Faust on the Due Diligence Period – A Modern Parable on why this should be easy, but is not.
If you are buying or selling any real estate in Georgia (and most other states), due diligence will surely be a topic. Buyers and Sellers rarely agree on the intent of the due diligence period. Further, the intensive nature of people buying a home or selling their home seems to have trumped any customs around this important aspect of real estate contracts. Frankly, it is poorly defined in most contracts. In fact, in the standard Purchase and Sale Agreement from the Georgia Association of Realtors, there is nothing that starts “Due Diligence Period shall be defined as …”
We have already described Earnest Money. This is the initial amount of money that is applied to the Purchase Price. Earnest money secures an option to purchase a property until due diligence is complete. The standard Purchase and Sale Agreement states “During the Due Diligence Period, Buyer shall determine whether or not to exercise the Buyer’s option to proceed or not proceed with the purchase of the Property.” (Section B,9, Purchase and Sale Agreement, Copyright 2014 by Georgia Association of Realtors).
Before we make this too dry and legalistic, we have written a Faustian play to explain the due diligence period.
Time: Current Day
Location: 123 Main St – the corner of Main and Main in fact. Blue sky, chirping birds. On lock box. Listing for $599,999.99. Staged property.
Buyer: Well educated. Black loafers, jeans, cool tweedy jacket. Knows what he wants, but knows that there are things he may not know. Knows he needs to talk to his wife before making the offer.
Realtor: Pulls up in 2-year-old Lexus ES350. Nicely dressed. Has heels on, but not too high.
On her iPhone and saying things like “ok, alrighty then” to get off the call.
Finally ends call and the Buyer is ready …
Buyer: Our offer is 80% of asking price , 60 days due diligence, 99% loan to value financing contingency and we might close in the next year or so.
Devil – yeah baby
Angel – So, do you actually want to buy the property?
Realtor: We understand they have other interest in property. Another offer might be coming in. I think this offer is out of the market
Buyer: Well, what is your recommendation?
Devil – did you actually just ask that? You are the market.
Angel – the market is whatever the buyer and seller will agree to.
Realtor: Well, let’s start with the Due Diligence Period. This is typically 7 to 15 days.
Buyer: I can’t commit in 7 to 15 days.
Devil – I heard 15
Angel – I heard 7
Realtor: We need to order an inspection, survey, and maybe we can complete the appraisal in the due diligence period.
Buyer: So how long to do we need?
Devil – long
Angel – Did you miss the 7 to 15 days bit?
Realtor: We can get our recommended inspector to the property in a couple days. We should have report in 5 to 6 days from Binding Agreement Date. The surveyor we recommend has completed several surveys in 10 days. Bottom line, after a couple weeks, you will know whether you are in or out.
Devil – So we can get out?
Angel – Not if you want a place to live.
Buyer: What happens if we don’t pass inspection?
Devil – fail it, renegotiate. The only person at the table is you. Your way or the highway.
Angel – So, are you a Buyer or what?
Realtor: It is not a pass / fail thing. We are writing an offer for the property “as-is” and looking for latent defects that might change our perspective on the property.
Buyer: So, what happens if we find a problem.
Devil – New technical real estate term – “R-E-T-R-A-D-E”
Angel – (looking at Devil) And what exactly did this Seller do to you?
Realtor: We can share our findings with a Seller and see if they have additional information. We can also see if they are willing to address the problem in some manner before closing.
Devil – So find a $5,000 issue and call it a $50,000 issue.
Angel – just politely ask them to make necessary repairs.
And so on …
Who is missing from the scene? A broker? Surely there must be an attorney here somewhere? Alas, no. Where is the seller? Does the seller have no role? Well, not really.
Due diligence is for buyers. Sellers cannot be compelled under the contract to do anything. They do not have to reduce their price. They do not have to pay closing costs (now called seller’s monetary contribution to closing). They do not have to do any repairs. However, they might agree to do any number of these things.
Some sellers will take the perspective that they’re not going to do anything without being asked. Even after being asked, they may not agree to give any consideration to a buyer. Other sellers want to see the inspection report as soon as the buyer has it so that they can be on top of any possible repair and mitigate renegotiation.
The due diligence period is what you make it. In a normalized situation, the buyer will inspect the property and the seller will agree to reasonable requests that are not cost prohibitive. We wish it could be said that reason prevails during all due diligence periods, but this would make matters too simple.
Most buyers that are exploitive of their due diligence lose a deal. Most sellers that are inflexible also lose a deal. We have closed to deals however involving both personality types on separate sides.
Our advice for Due Diligence Periods:
1) most buyers are going to need 7 to 15 days. If you need to write a highly competitive offer, consider 5 to 10 days and ask for more if you need it.
2) share your findings with sellers. Sometimes you might get some free repairs. Sellers are often proud of their property and surprised to learn of problems.
3) Your agent should keep all findings confidential until authorized to release information to the seller.
4) The time to negotiate the purchase price is upfront. Purchase price should only be renegotiated if there are major new findings to change the property’s economic value proposition to the buyer.
5) information disclosed upfront is not but due diligence issue. These issues of subjects for additional discovery – not future arbitrary negotiation.
6) Good will closes deals – by this we mean that it is good for a buyer and the seller to address issues together. It is hard to have a bar fight and later find yourself at the closing table together.
7) Don’t be afraid to terminate your contract if the deal is fundamentally changed by due diligence. Other properties will come.
We could go on and on about this. At the end of the day, every Buyer and Seller have a moral compass. If they don’t agree which way is north, it is hard to close a deal. Please contact us if you have any questions.