Who gets the money in this backup contract situation?

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08/13/2015 | Author: Editorial Staff

Does my buyer client get her earnest money and option fee back if her contract with an attached Addendum for “Back-Up” Contract (TAR 1909) never moves into the primary position?

The earnest money is refunded to her, but the seller retains the option fee. Remember that your client retained the right to terminate the backup contract at any time while in the backup position.

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Categories: Legal, Buyers, Sellers
Tags: legal faq, buyers, forms, backup contract, earnest money, option fee


Rick DeVoss on 08/16/2015

Congratulations for expressing this issue in the best way I have ever read it.  And shame on all those whose primary language IS English!
This issue needs to be re-worded by TREC.  ~What are we paying all those attorneys for?

Claude Humbert on 08/15/2015

English is not my primary language; however, it seems to me that the duration of the option period is clearly defined in the TREC document. It starts when the contract is executed. The end date will be based upon the amended effective date. Similar situation exists with the short sale addendum.
As the buyer is asking for an option, he has to pay a fee: he is buying an option!
However, if he never got the chance to buy the property, because his contract never becomes the primary contract, he should be able to recover that fee or at least, this should be negotiable. As adding a comment to that effect in Special Provisions would be considered as “Illegal Practice of Law”, I would offer that the addendum be modified by TREC and include a provision for this option fee to be (will/will not) refunded to the buyer if the contract never moves into the primary position; i.e. similar to the fact that the option fee will/will not be credited to the selling price!
The same should be done for the short sale addendum with the added provision that the option fee should be deposited with the escrow officer.

Erline or Eenie Sullivan on 08/14/2015

Hallelujah!  Reading the comments is a true MCE credit! Bottom line ... the backup addendum need some serious attention preferably by an attorney who has sold real estate.  Prior to that buyers should be discouraged to backup’s and made aware of complications.  (I will continue to read comments in hopes of seeing an uncomplicated answer.)

Joe Bryson on 08/13/2015

I do appreciate the TAR Staff clarification by Ward Lowe that IF the Buyer has the unrestricted right to terminate the Back Up Contract (because it is in the main contract), then the “counting of days does not begin until the Backup contract becomes the primary contract”.  That is much clearer than the language in Paragraph D of the Back Up Addendum (“If Buyer has the unrestricted right to terminate the Back-Up Contract, the time for giving notice of termination begins on the effective date of the Back-Up Contract, continues after the Amended Effective Date and ends upon the expiration of Buyer’s unrestricted right to terminate the Back-Up Contract.”) That is really convoluted. Much easier to say the counting of days doesn’t begin until activation as the primary.  That’s what I like about real estate.  You learn something new everyday (no matter how long you’ve been doing this).

Leopoldo Zapiain on 08/13/2015

Stephen Williams:

I agree with you that the Monies destined towards unrestricted right to terminate should not be kept because in the strict sense of the terms the buyer did not exercise that right.
A dual purpose is being assigned/assumed to those monies as a fee to accept the back-up addendum, for which there is no verbage on the addendum.
I would defend that situation for my client.  I have not had to face such situation though, so I have no actual point of reference.

Ward Lowe: If the TAR FAQs disclaim themselves as legal advise, how can we rely on them?  I realize that each transaction is different, should we enter wording regarding the outcome not entertained by the form, or just hope for the best?

Stephen Williams on 08/13/2015

Mr. Zapiain:

I understand when the termination option begins and its course.  But if an option period can be credited to a successful buyer at closing, why can’t it be returned/credited to a back up offerer who never terminates nor closes?

Leopoldo Zapiain on 08/13/2015

Section D states that he unrestricted right to terminate the Back-up Contract starts when the back-up contract is effected, it is naturally elapsed thru the back up period, and upon its becoming the main contract, the option period then applies.
I read this date as the date the Addendum is signed, and it is at this time that the unrestricted right to terminate starts and continues until such time the Back-up contract is executed plus the originally stated number of days required as Option Period.
So, yes, the Option Money belongs to the Seller, if and only if the addendum is signed.
I’ve had a couple of back-up contracts just kept by the Listing agent w/o signing.  Their client’s loss.

Stephen Williams on 08/13/2015

Mr. Lowe:

Why doesn’t the addendum have language that states that if the back up offer has an option period and fee, but the primary offer performs and closes while the back up offer is still in effect, the back up offer’s option fee is credited back to back up buyer?

Ward Lowe, TAR staff on 08/13/2015

TAR attorneys have addressed the option-period question in the FAQs: https://www.texasrealestate.com/for-texas-realtors/legal-faqs/category/back-up-contracts.

Here’s a relevant one from that page:

If the termination option applies in the backup contract, may the backup buyer terminate when in the backup position?

Yes. If the termination option applies, the backup buyer may terminate at any time when in the backup position. The counting of days for the option period doesn’t begin until the date the backup contract becomes the primary contract, which is the amended effective date.

Doug Scott on 08/13/2015

And all of these problems is why I advise my clients to not enter into a Backup Contract situation, and to keep searching for a home that is “Active” and on the market.  Backup contracts makes for too many hassles, and upset clients.

Morris "Bill" Austin on 08/13/2015

I am not sure what you mean by “Back Up” mode.
Unless the principals to the contract made an agreement through an exhibit or special provision the contract prevails.

If you are referring to an executed contract with a back up addendum included then you have an executed contract and all dates and processes apply. Option fee to be delivered within 3 days or you don’t have an option period later should you become the primary contract. While the EM paragraph does not stipulate a specific number of days I believe it has been considered a “reasonable number of days”, commonly thought of as 3 business days.

That said, I guess some agents play it loosely in this situation. I’d suggest that someday you’ll get your client in a bad situation when the other side doesn’t see it the way you may.  The contract says what it says.

You might want to talk to your broker or TAR legal.

Joe Bryson on 08/13/2015

Okay, I’ve got that.  The option period “begins again” after the backup becomes the primary and the effective date of contract becomes the Amended Effective Date.  I still have an issue with the option period during the backup period only being the length of what is the agreed option period.  For example, let’s say a Buyer has a 10 day option period, but a 30 day backup period.  20 days into the backup, the Buyer finds another home they want to purchase.  Now their “backup option period” has expired.  They can’t wait till their backup period expires or the contract becomes the primary, just so they can terminate.  It’s just wrong.  The option period during the backup needs to be the entire time of the backup in my opinion, then when it becomes the primary (if it does), they have their option period begin again.

Amber McGill on 08/13/2015

We are in a “Back up” mode, my buyer has not put up any earnest money or option fee until it becomes the primary contract.

Morris "Bill" Austin on 08/13/2015

You are not reading the back up addendum paragraph D correctly or at all.
Upon notice of becoming the primary contract the effective date becomes the date of said notice. Thus your option period begins the next day.

Joe Bryson on 08/13/2015

Personally, I think this part of the contract needs work.  Both of the comments are basically “work arounds” to the problem, but the question still remains.  As it is written there typically would be no option period after the backup contract becomes active. That is unless the Backup contract has an option period that allows for the maximum time of the backup position PLUS the typical week or so option period a contract typically has.  Since there is no way to tell when the backup will become active(if it does), then the option period may extend well past the date the contract becomes the active as the primary one.  Most agent/brokers would balk when they see a 30 or 40 day option period anyway.  So I don’t think that really works.  What needs to happen is the option period begins at the time the backup becomes the primary.  Whether there is a 2-step (it is Texas) option period, one for the backup period and one when it becomes active, or the buyer deposits earnest money at the backup and then deposits option money when the backup becomes active.  There has to be something better than they way it currently is.

Stephen Williams on 08/13/2015

If I knew how to delete my last post I would. I understand what collecting the option fee for a back up offer does, in the event the back up buyer wants to terminate before primary offer does.  But I’m still unclear why a back up buyer loses the option fee if primary buyer performs and closes.

Stephen Williams on 08/13/2015

Joe, the situation does seem counterintuitive as your buyer is “losing” their option fee for no fault or decision of their own.  Perhaps what the constructors of the contract figured was that in addition to buying an option to terminate, your buyer is also buying the right to a back up position (???) but what I don’t understand is, why doesn’t the process just wait to collect option fee once (and if) back up offer moves into primary position.  If back up buyer then fails to deliver option fee, they would lose termination option, just as any buyer would.  I’m not sure what collecting option fee upon execution of a a back up offer accomplishes.  Perhaps wording in addendum would need changing.

Morris "Bll" Austin on 08/13/2015

Refer to Section D of the back up addendum.
The effective date becomes the date when your client becomes the primary contract.

I talk with the listing agent and come to an agreement on a small option fee followed by a more appropriate amount upon becoming the primary contract. This limits the buyer from forfeiting a larger sum if they never become primary.

Joe Bryson on 08/13/2015

My question then is, “If the option fee is spent at the time of execution of the BACKUP, then does the backup buyer have to do their due diligence at that time, because the option period would have typically expired by the time the backup becomes the primary contract?”  It seems to me that the option period should not begin until the backup moves out of being the backup and becomes the primary contract (if that ever happens).

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The material provided here is for informational purposes only and is not intended and should not be considered as legal advice for your particular matter. You should contact your attorney to obtain advice with respect to any particular issue or problem. Applicability of the legal principles discussed in this material may differ substantially in individual situations.

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