5th December 2019
What is an Option Agreement?
An Option Agreement is a contract between a landowner and a potential developer where the developer has the opportunity (but not an obligation) to purchase the property from the landowner at an agreed price within a certain period. It is a legally enforceable, binding document entered into between the parties and this is often used by developers to secure the property whilst they are exploring the planning potential of the land.
The purchase price for the property may be agreed between the parties at the outset of the Option. Alternatively, a mechanism for calculating the final price may be inserted into the document and this may be by reference to formula (such as by reference to the market value of each plot developed on the land).
Protection for the developer
The Option Agreement blocks the landowner from selling the property to a third party during the Option period whilst the developer is exploring the viability of the project, thereby reducing the risk and potential cost to the developer. Once the developer has satisfied himself as to the feasibility of the proposed development, he can trigger the purchase of the property by ‘exercising’ the option. Once the Option has been exercised, it becomes an agreement to purchase making it obligatory for the landowner to sell and the developer to purchase on the terms set out in the Agreement.
On the other hand, if it turns out that the project is not suitable, then the developer can simply walk away and let the Option lapse without any penalties or legal repercussions.
Are there any advantages for the landowner?
An Option is an ‘option’ to purchase the land and not an ‘obligation’. Therefore, by its very nature, it is designed to be more useful to the developer than the landowner. On entering into an Option Agreement, certain restrictions would be entered on the landowner’s title to secure the Option in favour of the developer and the landowner will not be able to do sell or dispose the land to a third party for the period agreed in the option. The downside for the seller is that the developer may decide, well into the Option period, that the proposed development is not viable and pull out of the option. Therefore, there is no certainty for a landowner that the property will be sold. However, if used correctly, the Option can also be a valuable tool which could allow a Seller to profit-share and maximise the return from the land without having to take on any of the risks and investment associated with large-scale development.
Are there other kinds of arrangements that may be more suitable?
Although an Option is one of the most common methods used to structure and secure a potential development, there may be other types of arrangements that may be more suited to give effect to the intentions of the parties, such as:
- Conditional Contracts – This is a contract for sale where completion is contingent upon the occurrence of a certain event (such as the grant of planning permission). This grants certainty to the landowners that if certain trigger events are met, then the developer will proceed with the purchase. There may also be certain positive obligations inserted within the contract to use its best endeavours to achieve the trigger event within a certain period and penalties for non-compliance.
- Promotion Agreements – A Promotion Agreement may contain similar obligations (such as to pursue planning permission), but does not give the developer the right to buy the land. Instead, the developer would be entitled to a percentage of the sale proceeds as and when the land is sold.
- Pre-emption Agreements – This is also known as a ‘right of first refusal’ and can be secured by the developer against the land, should the landowner decide to sell in the future.
Every situation requires careful thought and professional advice to ensure that the documentation is suitable for the intended purpose. As with any other legal documents, you must obtain professional legal and protection advice to give effect to your specific requirements and to ensure that that you and your business are fully protected.
Sweeney Miller Law’s Commercial Property Team, headed by Surbhi Vedhara, can assist with such matters. For a no-obligation chat, contact our Newcastle office on 0345 900 5401 or email Newcastle@sweeneymiller.co.uk