Imagine this situation: You are selling your home. After a few months of listing the property and countless open houses, you land a buyer. The buyer negotiates hard and you finally come to an agreement. Once beyond the inspection and attorney review periods, things move swiftly. The buyer gets his mortgage financing and you are prepared to close. As the closing approaches, the buyer asks if perhaps he can enter the property five days early to begin “cleaning up” the place. As you have already closed on your new home, you agree. Shortly before closing, the buyer moves into your property. While there, he decides to start to renovate a bathroom and breaks a water pipe which causes a flood. He now claims that the plumbing is all faulty at the home and in need of complete replacement and refuses to close on the home.
As a result, you are involved in a lawsuit over the buyer’s earnest money. Could this situation have been avoided?
POSSESSION IS NINE TENTHS OF THE LAW
Possession is a key issue in real estate transactions and possession does not always transfer at the time of closing. Standard real estate contracts generally provide separate provisions for the date of closing and the date of possession. Most attorneys shudder at the thought of turning over or holding possession of real estate without a formal agreement of the parties which provides adequate protection to the client. In almost all cases, once beyond the attorney review and inspection period, the party in possession of the property holds a severe advantage over the other party. This is because possession is the seller’s bargaining chip. Buyers trade money for possession.
There are two types of possession to be traded and both may be agreed upon contractually. First, pre-closing possession occurs when a purchaser takes possession to a property some time before the real estate closing. Post-closing possession occurs when a seller retains possession of property for some period of time after closing. There can be many reasons to justify pre and post closing possession for the parties. Although a pre or post closing transfer of possession is not the “ideal” situation, an attorney can provide additional contractual protections for sellers and buyers.
When a buyer and seller agree to a pre or post closing possession, one parties’ attorney will negotiate with the lawyer for the opposite side of the transaction to create an agreement which best protects the parties.
When a buyer is taking possession of property prior to a closing, the seller’s attorney will have three main concerns.
First, the purchaser will be asked to accept the property in the condition it was delivered in as of the possession date. Because possession of the property is out of the seller’s control, the seller does not want to be liable for acts done by the purchaser to damage the property. In addition, during the purchaser’s pre-possession, the purchaser may discover some “defect” or unacceptable condition, such as an item needing repair or even that the local traffic is too noisy, that was not raised during the inspection period and attempt to back out of the deal. Some purchasers might rather forfeit their earnest money than proceed with a closing after discovering an unacceptable condition.
Second, the purchaser will generally be asked to pay some amount of daily rental for use, occupancy and expenses. This amount is usually one thirtieth of the seller’s monthly mortgage and assesment payments. Normally, utilities,services and proratable items, including real estate taxes, are prorated as of the possession date.
Finally, the purchaser will be required to provide some financial protection to the seller in the form of insurance on the property. The purchaser will be required to provide the seller with a copy of a paid and in force insurance policy covering the value of the property and listing the seller as an “additional insured” on the policy.
When a seller is holding possession beyond the closing date, the buyer’s attorney will have two main concerns.
First, the seller will be asked to pay a daily rate for use and occupancy of the property in the amount of the daily rate of the purchaser’s new mortgage payment plus taxes and insurance.
Second, the seller will be required to post a “possession escrow” or a certain amount of dollars to guarantee that the seller will actually move out. There is usually a penalty provision where the daily rate increases substantially if the seller remains after the agreed upon vacancy date. The escrow amount should be sufficient to cover this penalty so that funds may be easily obtained from the escrow agent. Another provision is usually added to this agreement that the seller’s liability on penalty payments is not limited to the escrow amount.