When selling a property, the moment when commercial property sale contracts are exchanged is an important milestone. It shows that the sale is now official and both the seller and buyer are legally obligated to follow the agreed-upon terms. It is extremely important that a commercial property sale contract is properly drafted to reflect what has been agreed between the parties – failure to create a properly drafted contract can end in disaster.
In this article, our commercial property solicitors consider some of the key terms found in a contract for the sale of commercial property and how to ensure they work for you.
- What is a commercial property sale contract?
- Conditions in commercial sale contracts
- Easements, covenants and third-party rights
- Identity evidence in commercial sale contracts
- Retentions in commercial sale contracts
- Service charge retention
- Apportionment of costs on completion
- Confidentiality in commercial sale contracts
- Environmental liability in commercial sale contracts
- Rescinding the commercial sale contract
What is a commercial property sale contract?
A commercial property sale contract is a document that places a contractual obligation on respective parties to buy and sell a property on a particular date.
Unlike a transfer deed, this type of contract does not actually transfer the legal ownership of a property, however, to avoid any disputes after the exchange of contracts the form of transfer is often also agreed and attached to the commercial property sale contract.
If the seller is only selling part of their land (for example, if they own a large field and only agree to sell half of the field), then certain rights (known as ‘easements’) and covenants (legal promises or restrictions on the use) over both the area being sold and the area being retained are likely to be required – such rights and covenants must be set out in the transfer deed.
If the property being sold is leashold and not freehold, the transaction is known as the 'assignment; of a lease, and additional contract terms will need to be considered, such as the consent of the landlord to the assignment.
Conditions in commercial sale contracts
The parties may want the completion of the sale to be conditional upon some event happening. For example, perhaps the buyer will only want to complete the purchase of the land if it is able to obtain satisfactory planning permission for its proposed development. Or perhaps there is an existing tenant at the property that needs to be removed so that the buyer can take the property with vacant possession. Exchanging contracts allows the parties to commit to the transaction whilst the conditions are fulfilled. The sale contract would allow for a period between exchange and completion for the condition to be satisfied (i.e. the planning application process to be completed, or the seller to arrange for the existing tenant’s lease to be surrendered). The completion of the sale will then take place within a set period of time of the condition being satisfied (e.g. 5 working days after one party notifies the other that the condition has been satisfied).
The parties will agree a 'long stop date' by which, if the conditions have not been fulfilled, one or the other of (or both of) the seller and the buyer can terminate the contract. The contract will also deal with whether the exchange deposit (usually ten percent of the purchase price, paid at the exchange of contracts) is kept by the seller or returned to the buyer, if the contract is terminated.
Easements, covenants and third-party rights
The right to do something over neighbouring land is one type of easement. For example, if the only way to access a property would be to walk over a private pathway across a neighbouring property, then an easement granting permission to walk over the pathway would be required. Without the easement, there would be no legal right to walk over the pathway.
When selling a property, it is important to consider what rights, if any, the seller will need to retain over the land being sold. Sellers should ask themselves questions such as:
- Do any existing services run through the land being sold that I need to use?
- Do I need to retain any rights of access over the land being sold?
- Do I need any rights of support and protection from the land being sold?
- Do I have any plans in the future to use my retained land for another purpose which may need additional rights not currently required?
In fact, there are many issues that need to be considered when assessing what easements are required. If there is any need for easements at all on the land or property in question, they will need to be included in the transfer deed.
Of course, negotiation is a two-way street. The buyer will need to consider whether any of the easements sought by the seller will have an impact on their proposed use of the land, and what rights they might need over any land that the seller is retaining, in order to access, develop, and use the land they are buying.
In addition to easements, a seller should also consider whether any restrictive or positive covenants should be included in the transfer.
A restrictive covenant is a clause preventing someone from doing something – for example, a clause might state that no buildings can be erected on the land without the seller’s consent. Once the transfer is completed, the buyer and any other future owners would be required to comply with the covenant and could be pursued if it were breached.
A positive covenant is a clause that requires someone to do something – for example, a clause might require a buyer to contribute towards the cost of maintenance of a shared road. Due to quirks in property law in this country, positive covenants are only binding to the original buyer. Therefore, the seller’s solicitor must take careful steps to ensure that the correct mechanisms are included in the transfer deed so that the buyer is not able to sell the property unless the new buyer also agrees to be bound by the positive covenant.
Covenants (both restrictive and positive) can be appealing to sellers as it allows them to retain some control over the use of the land being sold, which is particularly important if the seller intends to retain ownership or develop their neighbouring land. However, a careful balance must be sought as the more restrictions and obligations a seller seeks, the more likely buyers are to be put off.
The contract is also likely to include general provisions stating that the land in question will be subject to any third-party rights. These could be third-party rights that are:
- Noted on the seller’s title
- That the seller is aware of
- That the seller should have been aware of
- That would have been revealed by the buyer’s property searches
It is, therefore, very important that the seller discloses all information it has in relation to the property to avoid the buyer later bringing a claim for the seller failing to disclose information.
It is also important that a buyer undertakes both full due diligence of the seller’s title and property searches prior to exchanging contracts so that it is aware of any third party rights it will be subject to on completion. Once contracts have been exchanged, the buyer will be bound to complete the purchase of the land, subject to these matters. If the buyer has not carried out proper due diligence, it will have no recourse against the seller.
Identity evidence in commercial sale contracts
There is a major risk of fraud in property transactions, and, as such, being satisfied of the parties’ identity is extremely important. The Land Registry, which will process and confirm the transfer of the land, will not allow applications to be completed unless they have been provided with confirmation that identity checks for all parties have been fully completed.
Solicitors are bound by regulation to fully verify the identity of their clients. Where one party is not represented by a commercial property solicitor, then an identity evidence clause may be added to place a contractual obligation on that party to provide proof of identity documentation in order for their application to be completed at the Land Registry.
Commercial property solicitors will generally adopt a protocol which includes a promise (known as an undertaking) that they have satisfied the identity check requirements. As a result, the Land Registry deems it sufficient identification if both parties have had their identity confirmed by their respective solicitors.
However, even if both parties are represented by solicitors, it can be helpful to include an identity evidence clause if, for example, the documentation is to be completed by an attorney on behalf of one of the parties.
Retentions in commercial sale contracts
The buyer may require retentions from the purchase price for a variety of matters, including service charge retention.
In some cases, putting a contractual obligation on a party may not be enough to ensure certain tasks are completed by the seller. For example, a seller could be planning to avoid tasks such as carrying out asbestos surveys by winding up its company immediately after completion, rendering the contractual obligation of little worth.
To prevent this, a buyer could ask for a retention from the purchase price to be held until the agreed tasks have been completed. Sellers are often resistant to agree to this type of retention, as they are keen to receive all the sale proceeds. However, if the seller is comfortable that the matter for which the retention is being sought can be satisfied then it is often a good way of breaking a deadlock and proceeding to the exchange of contract stage more quickly.
Service charge retention
If the property in question is a leasehold property, then there is a good chance that there will be a service charge to pay under the terms of the lease.
Often, service charge provisions in leases are drafted on the basis that the landlord will estimate what the service charge will be for the year. The tenant will then pay that estimate in advance over the course of the year. At the end of the year, the landlord will calculate the exact amount of the service charge and issue a bill for any shortfall (or put any credit towards the service charge for the following year).
If a buyer were to complete a purchase halfway through a service charge year, there is a risk that the landlord’s calculation of the actual service charge at the end of the year would far exceed their estimate. In this case, the buyer would be liable to make up the difference.
A prudent buyer, therefore, would seek to agree that an amount of money is retained from the purchase price for a sufficient period of time to allow the landlord to provide the exact service charge figures following the end of a service charge year.
The funds held in that retention would then be used for any additional amount due, rather than the buyer finding the money themselves. Any balance left over would be released to the seller. The contract should therefore set out:
- Where the retention will be held in the meantime (in either the buyer’s or the seller’s solicitor’s account)
- How long the retention can be held for
- What triggers the right for the retention to be used
If a service charge retention is to be put in place, the solicitors will need to carefully consider the precise wording of the clause.
Apportionment of costs on completion
On completion, the buyer (via its solicitor) will be required to pay to the seller’s solicitor the balance of the purchase price (i.e., the purchase price less any deposit paid on exchange). The seller will be asked to provide a 'completion statement' the buyer, showing all sums due on completion. The contract will also deal with the apportionment between the buyer and the seller of any income generated by the property (e.g., if the property is being sold with existing tenants paying rent who will continue to occupy the property after completion). Similarly, if occupational tenants are in arrears of rent, the seller may want to place a contractual obligation on the buyer to try recover those arrears that relate to the period of time when the seller was still the owner of the property, and to pay them over to the seller after completion. Provisions will be agreed between the parties to deal with this.
Confidentiality in commercial sale contracts
Confidentiality may be extremely important to businesses to ensure certain parts of a deal are not disclosed.
As there is often a waiting period between exchange and completion, businesses may want to avoid detrimentally impacting the deal by inserting a clause on confidentiality into the commercial sale contract.
However, buyers must be careful as to what can be agreed to. If there is to be a delay between exchange and completion, a prudent buyer would put a notice on the seller’s title at the Land Registry to let any other potential buyers know that the sale is taking place, as that cements the buyer’s position. However, confidentiality clauses can prevent such notices being registered.
It may also be that one or both parties will not want certain parts of the deal to be disclosed even after completion without their consent. Confidentiality clauses can be extended to include restrictions such as this, but, again, careful consideration should be taken not to accept an open-ended confidentiality clause that runs for ever.
Environmental liability in commercial sale contracts
Recently, environmental liability has become a much more important issue, as the social and political desire to better look after the environment has increased. As a result, property owners have been subject to huge fines and significant obligations to carry out remediation work for any properties that are considered ‘contaminated’.
The starting point for many environmental liability clauses in commercial property contracts is that a land owner who created contamination will remain liable for the costs of contamination even after they have sold the land. However, if that original party can no longer be found then the liability falls to the current owner of the land where the contamination began.
A buyer will not want to inherit any liability for any contaminants existing before the date of the contract. However, a seller will argue that the buyer is able to undertake full inspections and surveys of the property and should check that there are no contamination issues prior to the exchange of the contract. Generally, sellers will not want to retain any environmental liabilities following exchange of contracts.
Environmental clauses can be added to the contract to clarify what environmental liabilities each party will agree to take on, and may include obligations on the seller to carry out certain remedial works before completion. For example, the clause might clarify that the buyer will be responsible for any contamination that occurs following the date of exchange and that they will reimburse the seller for any costs that they incur as a result of any such contamination. The final details of what each party agrees to be liable for will very much depend on the situation and the bargaining powers of each party.
Rescinding the commercial sale contract
Whilst the exchange of commercial sale contracts means that all parties are bound to complete the sale, there may be circumstances that arise following the exchange that have a significant impact on the transaction. As such, parties will often agree to add a termination clause in the contract to allow the parties to terminate it if certain circumstances arise. Common examples of such circumstances include the buyer commencing insolvency proceedings or one party failing to comply with the specific conditions of the contract by a certain date (see 'Conditions in Commercial Sale Contracts' above).
Termination clauses will often state that if the seller exercises the termination clause then it will be entitled to retain the deposit and if buyer exercises the termination clause then the deposit should be returned to the buyer. This can of course be negotiated depending on the specific terms of the contract.
By carefully considering and negotiating clauses in commercial property sale contracts, buyers and sellers can navigate the complexities of commercial property sales with confidence. A commercial property solicitor will be able to help you draft purchase and sale agreements or review clauses in agreements on your behalf, ensuring your interests are protected. Contact a member of our commercial property team to find out more.