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NY Commercial Real Estate Law: Some Preliminary Agreements Unenforceable

By Dan Rose
Updated on June 18, 2024
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Under New York law, several types of preliminary agreements between parties constitute unenforceable “agreements to agree”.  A party seeking to enforce such a contract must, among other things, point to language in the agreement that shows the parties’ intent to be bound by its terms.  Discerning the parties’ intent from the contract language alone is not always a straightforward exercise.  Recently, in SPG Cap. Partners LLC v. Cascade 553 LLC New York County Commercial Division Justice Robert R. Reed, Jr. addressed this issue in connection with a term sheet signed by the parties in anticipation of a real estate investment that later fell through.  The court’s decision in SPG Capital highlights the risks of using these types of agreements to obtain promises from a counterparty, and underscores the importance of drafting clear expressions of intent to ensure that such contracts are enforceable.

Classic Case

In SPG Capital, the plaintiff, SPG Capital Partners LLC (“SPG”), reached an agreement in principle with the defendant, Cascade 553 LLC (“Cascade”), whereby SPG would provide a mortgage loan to Cascade in connection with a planned real estate development in Brooklyn  Pursuant to the term sheet signed by the parties, SPG would provide a first mortgage loan to Cascade of $110,000,000, and Cascade would pay SPG $200,000 as a good-faith deposit.  The term sheet stated that the document was “for discussion purposes only and subject to the Lender’s satisfactory completion of its due diligence, internal credit approvals and satisfactory legal review.”  It further provided that:

. . .  [N]either Borrower or Guarantor will cause or permit any affiliates to obtain or attempt to obtain first mortgage financing for the Property with any party other than the Lender. The Borrower acknowledges that by commencing the due diligence investigation contemplated by this Term Sheet, Lender is devoting time and resources that it otherwise could be devoting to other projects.  This paragraph shall survive the termination of this Term Sheet.  In the event Borrower (or its affiliate) obtains first mortgage financing for the Property from another Lender, or … otherwise elects not to proceed with the Loan, then Lender shall be entitled to retain the unapplied balance of the Good Faith Deposit and Borrower and Guarantor shall pay immediately, upon demand to Lender a breakup fee equal to 2% of the maximum principal balance of the proposed Loan Amount, as liquidated damages for the time and effort expended by Lender.

The loan did not go as planned.  Cascade had previously secured a first mortgage loan from another lender, and needed to pay off that loan by the closing date specified in the term sheet to avoid triggering a default under the prior loan agreement.  Cascade claimed it informed SPG “that it had to close on the first mortgage financing by April 20, 2017, at 1:00 p.m., or else it would not be able to pay off the existing first mortgage in a timely fashion.”  Cascade also claimed that, despite receiving this notice, SPG not only failed to send finalized loan documents by the requested time, but also attempted to renegotiate the terms of the loan at “midnight on the scheduled closing date.”  Cascade rejected the new terms and decided to obtain financing from another company.

SPG sued Cascade, alleging that Cascade’s decision to secure a different first mortgage loan violated the term sheet’s requirement that Cascade not “obtain first mortgage financing . . . with any other lender.”  SPG also sought to enforce the term sheet’s liquidated damages clause, which required that Cascade pay “a break-up fee equal to 2% of the” loan amount in the event that Cascade obtained a different first mortgage loan.  SPG argued that even if the term sheet were otherwise unenforceable, these exclusivity provisions were “independently enforceable” because the document expressly stated that those provisions would “survive the termination of this Term Sheet.”  Cascade then countersued SPG, arguing that (i) the term sheet was unenforceable in its entirety; and (ii) Cascade was entitled to return of its $200,000 good-faith deposit under principles of “quantum meruit (as much as one deserves), unjust enrichment, and conversion.”  Both parties moved for summary judgment.

THE COURT SPEAKS

Justice Reed agreed (January 6, 2023), with Cascade that the parties’ term sheet was unenforceable.  The court found that “the document repeatedly emphasized its nonbinding nature,” the term sheet was “expressly conditioned on the completion of the lender’s due diligence, further satisfactory negotiation by the parties, and the acceptance of the loan documents.” Justice Reed noted that “in those cases where courts have found letters of intent or term sheets to be binding, courts have relied not only on the specificity of the details in the documents but a similar manifestation of intent,” which was nowhere to be found in the term sheet at issue.  Further, “virtually all the obligations in the term sheet fell upon” Cascade, whereas the agreement gave SPG “sole discretion” to “terminate the term sheet” and “determine the terms upon which it would extend credit.”  Although SPG agreed to perform due diligence in connection with the transaction, the term sheet “bound Cascade to refrain from seeking other financing without regard to whether SPG moved forward with its due diligence in a timely fashion or adhered to the other provisions in the term sheet.” The court thus found that the lack of “mutuality of obligation” in the agreement, coupled with its nonbinding and conditional language, suggested that the parties did not intend to be bound by its terms.

Furthermore, the court rejected SPG’s alternative argument that the exclusivity provisions in the agreement—which forbade Cascade from obtaining a first mortgage loan from a different lender—were independently enforceable, even if the term sheet were otherwise an unenforceable agreement to agree.  Justice Reed noted that courts have enforced similar terms only where the “exclusivity provision [states that it] shall survive the term sheet and is binding regardless of the binding nature of the term sheet.”  In this case, although the document stated that the exclusivity provisions would “survive the termination of this Term Sheet,” there was “no statement that render[ed] the provision enforceable notwithstanding the non-binding nature of the term sheet.”  Therefore, the court found that the exclusivity provisions could not be severed from the rest of the document.

Finally, the court granted Cascade’s motion for summary judgment in connection with its entitlement to the $200,000 good-faith deposit.  Although the term sheet itself was not enforceable, the court held that Cascade was “entitled to return of this amount, less any money [SPG] may have spent during its due diligence,” on equitable principles of quantum meruit (as much as one deserves), unjust enrichment and conversion.

Key Points

The court’s decision in SPG Capital underscores the risks of relying on the promises made in preliminary agreements, like term sheets, that depend in whole or in part on the execution of some other binding contract in the future.  According to SPG Capital, New York courts are generally reluctant to find such agreements enforceable absent of language that demonstrates an express intent by the parties to be bound by the document’s terms.

Basically, the court’s ruling suggests that the terms must be absolutely clear and express intent notwithstanding the non-binding nature of the remainder of the document.

Always be overly cautious with the terms expressed in any agreement, do assume that “the other party involved” will acquiesce because of verbal agreements, assumptions, implied logic or for ease of transaction.  Many a friendship, partnership and family has been torn asunder by the slightest misunderstanding.  When you “put it in writing” make sure you get it right.

 


Not all types of Preliminary Agreements can be upheld in court. Contact a NY State attorney for more information.

This article is for educational purposes only – to provide you with general information, not to provide specific legal advice.  Use of this post does not create an attorney-client relationship and information contained herein should not be used as a substitute for competent legal advice from a licensed attorney in your state.

New York real estate laws can be complex, contact that the experts at Aronov Law NY now for a full understanding of landlord-tenant, eviction law or any other real estate lawyer NY related services.

 

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