Real estate investors frequently use options to secure their rights in a piece of land while they explore the feasibility of development of that property, to avoid committing substantial funds to buy the property until the unknowns can be explored. Common law previously imposed fairly strict requirements regarding the "consideration" necessary to make such agreements enforceable. A new California Supreme Court case, Steiner v. Thexton, has relaxed that requirement.
In this case, Steiner ("Buyer") entered into an agreement to purchase real property from Thexton ("Seller"). The land needed County approvals, including a parcel split, and permits before it could be developed. The Real Estate Purchase Contract (the "Contract") between the parties provided for a deposit into escrow which was to be credited to the purchase price if the sale closed. The Contract also provided for an investigation period so Buyer could pursue the parcel split, approvals and permits, at his own expense, before finalizing the purchase. The Contract listed several contingencies which would need to be satisfied or waived by Buyer before Buyer was obligated to purchase the property. The "Contingencies" section of the Contract provided Buyer could cancel the transaction at any time at his "absolute and sole discretion."
Buyer began spending time and money in seeking the approvals and permits. When Seller tried to cancel the deal, Buyer filed suit to enforce the Contract. The trial court held for Seller and concluded the Contract was unenforceable "because it is, in effect, an option that is not supported by any consideration." The court noted that during the investigation period, Buyer retained " 'absolute and sole discretion' " to purchase the property or to cancel the transaction and that, due to this discretion, the Contract was unilateral and, therefore, an option.
The trial court considered whether the option was supported by consideration (value) and concluded that it was not. The court rejected the argument that the escrow deposit was consideration because it was refundable if the deal did not close. Buyer's claim that his work and expenses in seeking the approvals constituted consideration for the option was also rejected. The trial court reasoned that the adequacy of consideration is measured at the time a contract is entered into and pointed out the Contract did not bind Buyer to do anything; rather, it gave Buyer the power to terminate the transaction at any time. The court also rejected Buyer's alternative argument. As the Court decided that the option was not supported by consideration, it determined that the option was revocable by Seller and not enforceable by Buyer. The Court of Appeal affirmed the lower court decision.
The California Supreme Court agreed with both lower courts that the Contract was an option; however, it held that the option was supported by consideration and was enforceable. The Court decided that Buyer's part performance in seeking a parcel split created sufficient consideration to render the option irrevocable. Because Seller had previously rejected a higher offer from another party because that party wanted Seller to obtain the approvals and permits, the Court stated it was clear that Buyer's promise to seek the parcel split induced Seller's offer of the option. Moreover, the parcel split was necessary to Seller because he wanted to keep some of the original parcel. The Supreme Court reversed the Court of Appeal and remanded the case for further proceedings.
This case demonstrates that the drafting of contingency and other provisions in real estate contracts as well as partial performance under contracts can impact the outcome of a disputed transaction.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
