A letter of intent (LOI) is a document which states proposed terms for a final contract. Depending upon what is written, an LOI may be categorized as “binding” or “non-binding.” This is often the threshold issue in litigation concerning letters of intent – whether or not the LOI may be considered to be a binding contract.
Frequently purchase/sale negotiations are founded upon a letter of intent. For purposes of this blog post, I am focusing on LOIs as they relate to real estate transactions.
Why Details of Letters of Intent are Crucial
Even if non-binding, it may be difficult to vary the terms set forth in an LOI; accordingly, it is important to deal with all items of significance in the letter of intent. Failure to set forth important details can lead to difficulties later, for the following reasons:
- The parties’ negotiating leverage will be reduced if key provisions such as purchase price, deposit amount, due diligence period, land development approvals, and other items of significance are not included in the letter of intent.
- Misunderstandings and negotiations can be minimized, along with associated costs.
Binding or Non-Binding
Typically, the parties involved do not intend LOIs to be binding, but they may still be interpreted as such.
- Binding Contract. In the absence of specific language, the courts may look to various factors, including the terms of the letter, the context of negotiations, and partial performance, to determine whether a letter of intent is binding. A party who breaches such a binding agreement may be subject to specific performance or damages.
- Obligation to Negotiate in Good Faith. Where a letter of intent contains such language as “make every reasonable effort to agree,” or an agreement to “negotiate only with the other party,” the courts may impose an obligation to negotiate, even if the letter states that it is “non-binding” or subject to a formal agreement. Even if this standard does not lead to a finding that a final contract has been created, it may be held to bar a party from abandoning negotiations, or insisting on conditions that do not conform to the terms of the LOI.
Value in Different Degrees of Binding in Letters of Intent
As discussed above, there isn’t always a clear-cut standard to determine whether a letter of intent is binding or non-binding, but there are ways to express the intentions of the parties as one or the other.
- A letter of intent may have legitimate, binding aspects to it, even though ultimate liability may be conditioned upon execution of formal documents. For example, a statement that the property will be kept off the market during negotiations for a specified time period, and that the seller will not negotiate with another party during the same period, may serve both parties’ objectives.
- In order to preserve the intention that a letter of intent not be binding, the letter should not only provide as such, but should further provide that it imposes no legal obligation to continue negotiations to reach agreement. Alternatively the letter might provide that the parties are obligated to negotiate in good faith and the like, but that if no formal agreement is reached within a prescribed period of time, either party may terminate. Termination must be “without liability” of either party.
- If it is intended that the letter be fully binding, it might provide that if the negotiations break down, a written position statement must be prepared by each side, which is then subject to arbitration using an identified standard agreement of sale form as guidance. Although elementary from a legal perspective, it is important to remember that a document will not be enforced if it omits an essential part of the bargain. Thus, if an LOI is to be enforceable, it should highlight all of the basic terms.
As negotiations for real estate transactions may be extended and costly, a letter of intent can serve as a useful tool to ensure everyone is on the same page. To review the structure of your LOI and avoid future headache, consult an attorney who specializes in business transactions.
Note: The information above is general; we recommend that you consult with an attorney regarding your specific circumstances. The content contained herein is not meant to be considered as legal advice or as a substitute for legal representation.