What is an option agreement?
An option agreement is an agreement between a buyer and seller of a property where the buyer or seller (or sometimes both) grant each other options to buy or sell the property to each other.
An option agreement will usually be a ‘call option’ agreement or ‘put and call option’ agreement.
A call option is when a seller grants a buyer an option to purchase their property but not the obligation to purchase (i.e. the seller cannot compel the buyer to purchase).
A put option is when the buyer grants the seller an option to compel the buyer to purchase the property.
What are the benefits for buyers?
Option agreements are often used when buyers (especially developers) require flexibility in purchasing a property, for example:
• to secure the right to purchase a property but only exercise the right at a later date (when a contract will be formed);
• to secure a property before they have established the ultimate purchasing entity;
• to conduct due diligence or obtain development approval and defer stamp duty obligations until that is completed;
• to conduct due diligence and then assign the option to a developer or nominate another developer to complete the purchase and development.
Call option agreements are generally more favourable to developers as they are not compelled to purchase the property.
What are the benefits for sellers?
Sellers need to consider and buyers should explain what benefit a seller will get from granting a call option to a buyer, such as whether or not:
• They are getting an above market value price for the property that developers often offer due to the potential to develop the property;
• They are getting paid a reasonable amount for giving the developer the right but not the obligation to purchase the property during the call option period (a longer call option period would usually attract a higher amount payable to the seller in the form of an option fee or a non-refundable deposit); or
• The developer is improving the value of the property by obtaining a development approval (which runs with the property and which the seller can benefit from even if the developer does not purchase the property).
What key terms need to be included in an option agreement?
Apart from the obvious details such as the property address and names of the buyer and seller (and their lawyers), a call option agreement commonly includes the following:
• Purchase price (also known as the strike price) that the buyer will pay if the option is exercised.
• Call option fee that the buyer pays the seller in consideration of the seller granting the buyer the call option. This is often a relatively small amount such as $1000 so that stamp duty is kept to a minimum in those states where stamp duty is payable on the option fee. Buyers and sellers also need to consider when the call option fee will be paid and whether or not the call option fee will be refundable in certain situations, such as when the option agreement is terminated by the buyer under a due diligence condition.
• Due diligence condition and due diligence period if the buyer needs to conduct due diligence on the property and the viability of any proposed development. The buyer must give notice to the seller by the end of the due diligence period as to whether or not they are satisfied with its due diligence investigations or wish to waive the condition so that it no longer applies. If the buyer is not satisfied with its due diligence it can terminate the option agreement.
• Security deposit amount that is usually payable after due diligence has been satisfied or waived and is often non-refundable except where the seller defaults. The security deposit usually forms the deposit (or part of the deposit) when the option is exercised and the contract is formed.
• Call option period being the period during which the buyer can exercise it’s call option to purchase the property, with a call option commencement date (of no earlier than 42 days in New South Wales) and a call option expiry date. The option agreement will usually describe how the option must be exercised by the buyer, for example, by giving notice to the seller’s lawyer and sending them the contract signed by the buyer in the form of contract attached to the option agreement. Once the option is exercised a contract is formed and the terms of the contract then apply to the purchase.
• Contract settlement period being the period of time after the option has been exercised that ends on the date of settlement of the purchase when the buyer must pay the seller the balance of the purchase price in exchange for the transfer of title.
• Assignment clause permitting the buyer to assign the option (which can be for consideration, e.g. when the option is ‘sold’) to another buyer or developer.
• Nomination clause permitting the buyer to nominate another buyer to complete the contract when the option is exercised.
• Development application clause permitting the buyer and it’s consultants to access the property to carry out inspections and reports to support its development application.
• Contract of sale and any seller disclosure documents must be attached to the option agreement.
Example timeline of a call option agreement
|• The date of agreement is the date the call option agreement is entered into between the buyer and seller.
|• The call option fee is payable on the date of agreement or within a few days.
|• A due diligence period of three (3) months from the date of agreement.
|• The security deposit is payable within two (2) business days of the buyer satisfying or waiving the due diligence period.
|• A call option period of twelve (12) months from the date of agreement.
|• A contract settlement date of 30 days from the day the call option is exercised and the contract is formed.
Assignment and nomination of options
A buyer can assign an option to another buyer or nominate another buyer to complete a contract once an option is exercised. There can be stamp duty assessed on assignments and nominations depending on the laws in the jurisdiction of the property location. Legal advice should be obtained as early as possible where this is a likelihood.
Form of option agreements
Option agreements are less common that standard contracts of sale and so many lawyers and conveyancers will not be familiar with option agreements and how they work. There is no prescribed form for an option agreement and they need to be prepared to suit the terms of a particular deal. Buyers and sellers should therefore choose a property law firm, such as lawlab, who have extensive experience in dealing with option agreements. Lawlab can provide a template heads of agreement for option to assist buyers when negotiating terms of an option deal.
Legal costs for option agreements
Lawlab’s standard fee schedule is as follows for call option agreements to purchase an existing residential property:
|Item of legal service
|Fees (inc gst)
|Preparing or reviewing a call option agreement
|Preparing sale contract (to be attached to the call option agreement)
|$242 + expenses at cost
|Seller usually has their lawyer prepare this at their cost – but we can too.
|Negotiation of call option agreement and contract terms (if required)
|Hourly rate but capped at $594 (unless extensive negotiations required)
|Deed of assignment or nomination of ultimate buyer (if required)
|Required if you assign your option
|Negotiation of deed of assignment terms (if required)
|Hourly rate but capped at $594 (unless extensive negotiations required)
*Pricing valid 1 July 2022 to 30 June 2023
Disclaimer: This information is general in nature only and does not constitute legal advice. Lawlab accepts no liability for the content of this information. You should obtain legal advice specific to your individual circumstances.