Occur, approve, waive or exercise
In negotiations over the content of a purchase agreement, buyers and sellers frequently include provisions to place conditions on their rights and obligations to further perform and close escrow, called contingencies. Contingency provisions in a purchase agreement are worded to allow:
- the buyer to terminate their obligation to pay the purchase price; or
- the seller to terminate their obligation to deliver title and possession.
Contingencies describe an event, activity or further approval which needs to occur before the purchase agreement transaction can proceed to closing. These contingencies need to be eliminated before an otherwise binding purchase agreement becomes fully enforceable, obligating the buyer and seller to close the transaction.
Contingency provisions contained in purchase agreements are eliminated by either:
- satisfaction of the contingency provision by the occurrence of an event or by someone’s approval of the information obtained from data, documents, reports or inspections; or
- waiver or expiration of the contingency provision.
On the occurrence of the event or approval of information obtained as described in a contingency provision, the contingency is said to be satisfied.
Occasionally, the event fails to occur or information obtained is disapproved and thus the contingency is not satisfied. When a contingency is not satisfied, the person benefitting from the provision may:
- cancel the transaction by serving the other person with a Notice of Cancellation [See RPI Form 183];
- waive the contingency and proceed with the transaction by notifying the other person the contingency has been waived [See RPI Form 182]; or
- allow the expiration of the time period for cancellation to run.
Satisfaction or cancellation
The person with the right to cancel may only exercise that right when they have a reasonable basis for the cancellation. When a reasonable basis exists, they may avoid enforcement of the purchase agreement by the other person.
To exercise the right to cancel, a notice of cancellation is delivered to the other person during the period for exercise of the right to cancel and in the manner set out in the separate cancellation provision. [See RPI Form 150 §10.5]
Often, a misunderstanding of the ability to use contingency provisions to cancel and avoid buying or selling the property occurs. Occasionally, the person wishing to cancel merely has a personal change of plans about proceeding with the transaction. Much more objectivity is required.
Waiver implied by conduct
A buyer’s conduct will sometimes lead a seller to believe a contingency benefitting the buyer has been waived and will not be used to cancel the transaction. When the seller relies on the buyer’s indications and takes steps to complete their performance under the purchase agreement, the contingency is deemed to have been waived by the buyer. Thus, the buyer cannot later cancel the transaction based on that contingency.
For example, a buyer enters into a purchase agreement with a builder to buy a lot on which the builder will construct a single family residence (SFR) for the buyer. The purchase agreement contains a provision conditioning the close of escrow on the sale of the buyer’s current residence, an event-occurrence contingency provision.
However, the buyer does not want to market their current residence for sale and locate a buyer until just before the completion of construction, as they have no other place to live.
The buyer instructs the builder to begin construction based on plans and specifications approved by the buyer for the new home. During construction, the buyer continually reviews the progress of the construction with the builder. Also, the buyer orders changes in the plans and specifications during construction and the builder complies. The buyer never tells the builder to stop construction, nor do they advise the builder their current residence has not yet been sold.
On completion of construction, the builder makes a demand on the buyer to fund and close escrow.
The buyer then cancels the purchase agreement and refuses to perform. The buyer claims the contingency provision calling for the sale of other property had not been satisfied, thus triggering their right to cancel.
The builder claims the buyer’s conduct constituted a waiver of the contingency, which now requires the buyer to perform.
Here, the buyer, by their conduct in changing the construction specifications and remaining silent concerning the lack of activity on the sale of their current residence during their inspections into the progress of construction, reasonably induced the builder to believe the “sale-of-other property” contingency had been considered by the buyer to be waived.
Thus, the buyer’s failure to close the transaction was a breach of the purchase agreement.
Their power to exercise the right of cancellation authorized by the sale-of-other-property contingency provision no longer existed after the waiver. [Noel v. Dumont Builders, Inc. (1960) 178 CA2d 691]
Satisfaction by occurrence or approval
Contingency provisions identifying events, activities or conditions allowing for termination of an agreement are separated into two categories:
- those satisfied by an occurrence, described as the existence, completion or outcome of an activity or event to eliminate the contingency, called event-occurrence contingency provisions; and
- those satisfied by approval, describing the receipt and review of information obtained from data, documents, reports and inspections subject to approval to eliminate the contingency, called further-approval or personal-satisfaction contingency provisions.
Event-occurrence contingency provisions address the occurrence of activities and events, such as:
- the sale or acquisition of other property by the buyer or the seller;
- the cancellation of a prior sale by the seller;
- the recording (or approving) of a lot split or subdivision map;
- the issuance of a use permit or a variance;
- the approval of building permits;
- the issuance of subdivision reports;
- the documentation from off-record spouses;
- the availability of utilities;
- the availability of hazard/fire insurance;
- the elimination of title conditions, or the release of encumbrances, such as liens or leases;
- building permit compliance;
- providing warranties on appliances;
- a mortgage commitment;
- the recording of a mortgage; and
- the deposit of equity financing funds for the down payment by a syndicator.
Further-approval contingency provisions address the right of the buyer or seller to cancel the transaction on their disapproval or the disapproval by a third party due to unacceptable property conditions and material facts related to:
- disclosures and inspection reports concerning the physical integrity and natural and environmental hazards of the property;
- due diligence investigative reports;
- title reports;
- leases and estoppel certificates;
- rent control restrictions;
- service contracts;
- operating income and expense statements;
- the financial suitability of a carryback note;
- credit reports;
- income tax aspects;
- survey of boundaries;
- utilities, well water and sewage conditions;
- use feasibility reports;
- engineering reports on land use;
- existing plans and specifications for building;
- ingress and egress;
- mortgage commitments; and
- the availability of equity financing.
Acting in good faith
The buyer or seller with the right to cancel based on a further-approval contingency has an obligation to fairly evaluate the information obtained to be approved or disapproved prior to their canceling the transaction, called acting in good faith.
The buyer or seller who attempts to terminate a purchase agreement under a right-to-cancel contingency without first acting to satisfy the contingency is taking an unfair advantage of the provision. To fail to take those steps necessary to make an informed decision about an event, activity or further approval does not allow a transaction to be terminated “at will,” simply because a contingency existed in the agreement. The person canceling needs to have a reasonable cause to cancel for the cancellation to be enforceable.
A personal-satisfaction contingency allows the buyer or seller to avoid performance of the purchase agreement when they are not personally satisfied with the information, event or occurrence referenced in the contingency provision. [See RPI Form 150 §11.10 b]
Personal-satisfaction contingencies are identical to further-approval contingencies, except the buyer or seller is the one who approves or disapproves the subject matter of the contingency — not a third party.
Since the personal-satisfaction contingencies are essentially the same as the further-approval contingencies, they are judged by the same reasonableness standard when used to cancel a transaction.
Thus, a buyer or seller needs to have a reasonable basis for disapproving a personal-satisfaction contingency before a cancellation of the agreement is permitted.
Approval by waiver
The objective of a buyer’s agent when including a contingency provision in a purchase agreement for the benefit of their buyer is to provide the buyer with the ability to cancel the transaction when the event fails to occur or the information obtained is disapproved.
When the contingency provision is to be eliminated by approval (waiver) or expiration of the right to cancel, or exercised by cancellation of the purchase agreement, the buyer is to act by giving the appropriate notice to the seller as called for in the purchase agreement. [See RPI Form 150 §10.5]
When the information obtained and reviewed is acceptable or the event or activity occurs, the buyer’s agent may be required by the contingency provision to prepare a notice of waiver to eliminate the contingency. It is then signed by the buyer and handed to the seller, escrow or the seller’s agent as called for in the contingency provision. [See RPI Form 182]
The buyer may also waive the right to cancel and eliminate the contingency provision. Some purchase agreements have disruptive contingency or cancellation provisions which require the buyer to also notify the seller of the buyer’s intention not to cancel. Essentially, these are mere waiver situations.
Here, the buyer’s agent uses the same notice of waiver form used for an unequivocal approval to avoid losing the deal by giving the seller a reason to cancel. Not a productive provision, since these situations give the seller a way out of a deal in a rising market based simply on the buyer not further stating, when they do not cancel, that they again agree to close.