Have you ever signed a contract without reading it? Almost everyone has done it. Perhaps you have…
- Obtained a credit card
- Purchased or leased a car
- Purchased computer software
All of these come with long, detailed legal agreements, but few people have actually taken the time to read them. This may or may not be a big issue for credit cards, computer software, or even a car, but when it comes to real estate transactions, it’s very important to understand them.
You don’t need to become an expert lawyer, but you should know how to read an agreement and understand any financial and legal obligations that apply to you.
Buying and Selling Property
Real estate deals are transacted using legal agreements which outline the duties and responsibilities of both the buyer and seller. These agreements are called by different names in different provinces (e.g. Agreement of Purchase and Sale in Ontario, Promise To Purchase in Quebec, etc.), but they are all essentially the same thing.
When buying a personal residence, most people are either buying a new home from a builder or a resale home through a realtor. In both cases, there is someone involved to guide you through the legal paperwork involved with closing the deal.
When buying an investment, it’s the same thing… unless you’re dealing directly with a home seller. In that case, you are usually the one guiding the home seller through the legal paperwork.
For both of these scenarios, however, if you can’t read a legal agreement, how can you expect to understand what you’re getting into?
The answer is… you can’t. You’re relying on the other person to explain it to you (usually a salesperson). Even if you have your own lawyer explain the contract to you, they may overlook explaining something obvious to them, but which is important to you (e.g. construction of your new home can be delayed significantly, pushing your closing date past a deadline that is important for a new job)
If you are dealing directly with a home seller, or even if you are dealing with a realtor, you’ll need to understand exactly what you are offering the seller, and this comes through well written conditions to your offer.
When dealing with a realtor, they are always ready to help you write up a contract, but they may not understand subtle elements which are important to you as an investor (e.g. you want to close on the 4th day of the month so the seller collects most of the rents for you).
No matter what approach you are using to purchase property, understand legal agreements is absolutely critical for your success. Remember… once you sign on the dotted line and the deal is accepted, YOU have to live with the deal. Make sure it’s exactly what you wanted.
Legal agreements are also used when you’re signing a mortgage contract with a bank or other lender. When most people buy a property, they look to get the best interest rate to save the most money, and that’s usually what most mortgage brokers focus on getting for you.
There’s a big problem with that however… all mortgage lenders are NOT the same with the legal terms and conditions they include in your mortgage contract.
For example, usually when you break a closed mortgage, a lender will charge you 3 months worth of interest or the Interest Rate Differential (IRD), whichever is greater (the IRD is the difference in interest rates for the same mortgage term).
However, I have dealt with one lender that had a penalty that could also be the FULL INTEREST OWING for the entire term of the mortgage! And for another lender I dealt with, I could only break the closed mortgage if I SOLD the property, but not if I refinanced it. This was their way of “keeping their customers’ business”
In both cases, I would never have known about these rules unless I had read the mortgage contract.
My advice… Always read the mortgage commitment letter and,
if possible, the mortgage contract before signing.
Otherwise, you may be in for a big surprise when you sell or want to refinance.
Joint Venture Agreements
When I first got started in real estate, I wanted to learn how to use investor capital to invest in more properties. Obviously, I needed a legal agreement of some kind, but I didn’t want to pay thousands for a lawyer to create one. So I hunted around and finally found a very long, detailed joint venture agreement.
The problem was… I didn’t understand what I was signing! And if I didn’t understand it, how could I explain it to an investor, even on a high level? The answer was… I couldn’t.
So I spent hours reading that agreement. In fact, it took TWO days to do it. I could only read for up to 4 hours at a time because I couldn’t focus my mental energy on it longer than that.
At that point in my investing, I was a novice and had not read many legal agreements. As with all things people try for the first time, it was difficult. But the more I read, the more I learned and understood. Eventually I got through that contract and went on to read and understand many others.
But if I hadn’t read that contract, I may have never closed my first joint venture partner. And even if I did, I would have been signing a document that I didn’t fully understand, and it could have cost me a lot of money in the future.
The reason this personal story is so important is because I constantly see novice investors making the same mistake. They think the legal contract is the solution – if they can get a joint venture contract, they can close a deal with an investor. The problem is, unless they know what they are signing, they could be worse off than if they just tried to close an investor with a bullet-point, plain English agreement.
Can’t My Lawyer Do It For Me?
Many people believe they should rely solely on their lawyer to review and explain legal agreements to them. While I always encourage independent legal advice, especially to my investors, having legal advice does not eliminate the need for you to understand what you are signing.
Quite often, legal agreements have a financial and investment impact that only you as an investor can truly understand and apply to your situation. A lawyer’s job is to advise you on the legal risks of any contract you are considering signing, and making any necessary changes to protect you. They are not, however, financial or investment advisors.
So what’s the easy solution?
Unfortunately, there is none except to read legal agreements and lots of them. Yes, most people find them boring, but if you approach them from the perspective that they can either make you money or take your money, a legal contract can suddenly become much more interesting.