Commercial real estate transactions can be quite complex and take a long time to sort out. A Letter of Intent (LOI) is a common way to get two parties on the same page before entering a formal contracting period.
But what is a Letter of Intent? How do you write a Letter of Intent?
We’re going to answer those questions and many more in this article.
What Is a Letter of Intent (LOI)?
A Letter of Intent (LOI) is a brief, nonbinding offer letter that formally declares the buying party’s intent to purchase a commercial real estate property and outlines the key terms of the proposal. LOIs are often one or two pages long and cover the essential contract parameters to initiate the purchasing process.
What’s the Purpose of a Letter of Intent in Commercial Real Estate?
The fundamental goal of an LOI is to help the seller and buyer reach an agreement on the important terms of a deal before entering the more complicated and time-consuming due diligence stage.
LOIs are also used when a prospective tenant wants to lease commercial property to help the tenant and the owner(s) agree upon the major lease terms before fully evaluating the tenant and before signing a lease.
Why Is A Letter Of Intent Important?
LOIs are important for two major reasons. First, an LOI attempts to streamline—and subsequently expedite—the key aspects of a complex transaction. When all parties of the transaction see the general terms in writing, they can understand them better and review them more practically. When everyone clearly understands and agrees upon key aspects of the terms, it makes the due diligence phase a bit easier.
Additionally, a letter of intent demonstrates to potential lenders that investors are serious about a specific property and are nearing the point at which they will require financing. The lender has time to start putting together the required paperwork and financing for the deal by sending the LOI to the financial institutions at or close to the same time as sending an LOI to the seller. This helps avoid financing delays later in the process.
What Are The Benefits of Using an LOI in Commercial Real Estate?
While submitting a Letter of Intent is beneficial, it’s not necessary or required by law. Many people lease or buy commercial real estate without utilizing an LOI. However, in addition to the two reasons listed above that make LOIs important, there are several benefits to creating and submitting a Letter of Intent, including:
- The Ability to Make Multiple Offers. Since LOIs are non-binding and not guaranteed to be accepted by the seller/owner, it’s possible to submit LOIs on multiple properties at the same time. This benefit is advantageous for investors seeking property in hot markets where the inventory is moving swiftly.
- Determine the Seller’s Willingness to Negotiate. Some sellers are unwilling to budge on their asking price, and others are willing to negotiate substantially. If you have a particular acquisition price in mind, it can be more beneficial to negotiate with the seller using an LOI than to negotiate during the contracting stage of the process. If you negotiate the price during the LOI state, it doesn’t prohibit you from further negotiating during due diligence, depending on what you find. However, suppose you want to negotiate the primary purchase price and wait until later in the process. In that case, you may learn that the seller has no intent to budge on price after you’ve already reached the point of investing a lot of time and resources into the deal.
- LOIs Are Simple and Cheap to Create. LOIs are straightforward documents and—assuming you know what you’re doing—do not require the services of expensive experts such as attorneys or tax advisors. Because of this, they can be written and submitted at no expense and do not require any deposit or fee. As a result, there’s next to no downside to creating and submitting an LOI for a property you’re interested in acquiring; either the seller is interested in your offer and you go under contract, or you negotiate with the seller and they ultimately decide your offer isn’t for them. While this isn’t the outcome you wanted, at least you learned sooner rather than later without any significant cost so that you can quickly move on and continue looking for other properties.
- Increase Your Awareness of the Market. If you are submitting multiple LOIs, it increases the chances that you’re acutely aware of the market condition because you’ve been reviewing more deals and having more conversations with sellers in the market. These insights whill help inform you of the current market circumstances and may be used as leverage during the acquisition process.
What Are The Drawbacks of Using an LOI In Commercial Real Estate?
Everything has pros and cons, but for an LOI, the benefits listed above typically outweigh the cons.
The primary con associated with submitting an LOI is:
- Adding an Extra Step. Submitting an LOI to purchase a commercial real estate property is an extra step in an already long and complicated transaction. Some investors choose to skip submitting an LOI simply to expedite the transaction.
As you can see, since LOIs help iron out the key components of a deal early and are simple and cheap to submit, the benefits of submitting an LOI often far outweigh the cons. Although it may take a bit to write, negotiate, and sign the LOI, the little bit of work can help prevent deals from falling through and can save both parties a lot of money and time throughout the full transaction process.
Who Writes a Letter of Intent?
Anyone on the buyer’s side is able to write a Letter of Intent to the seller. This can be one of the General Partners or the buyer’s broker. Additionally, while it’s not necessary, it’s also possible to have a lawyer review and proofread the LOI to ensure there’s nothing detrimental that was accidentally worded in the drafting of the document.
How to Write a Letter of Intent to Purchase Real Estate
The purpose of the LOI is to be a streamlined overview of the key components of the offer. Therefore, there are selection criteria that should definitely be included, but anything beyond that isn’t necessary unless you, as the buyer, feel it’s important for the seller to know or consider. Additionally, the included information should only reference the acquisition process and not include any information about what you’ll do with the property after acquiring it. For example, if you’re going to renovate the building and increase rents afterward, this does not—and should not—be included.
In general, the following components for an LOI used to purchase commercial property include the:
- Date the LOI is submitted
- Names and contact information for both parties (buyer and seller), as well as the broker(s)
- General property description
- Proposed purchase price
- Proposed deposit amount, if any, and whether it will be held in escrow, for how long, and under what terms
- Due diligence period (usually expressed as a certain number of days ranging from 30–90 days)
- Financing overview (e.g. an explanation of how the buyer intends to finance the transaction)
- Expected closing date and closing conditions (this usually includes a list of items)
- Additional information that may be helpful to the seller
- Clause of Confidentiality
- The expiration date of the LOI (Letters of intent are time sensitive and intended to motivate the parties to move forward. As a result, they usually expire after a certain number of days)
- Signature area for both parties to agree and accept the terms outlined in the LOI
This is not an exhaustive list, but these are common terms found in an LOI to purchase commercial real estate.
Is the purchase price negotiable in an LOI?
Yes, in an LOI, the purchase price is frequently negotiable. One of the important issues for negotiation between the parties is the purchase price.
The letter of intent may be terminated if the parties are unable to reach a consensus on the purchase price. The letter’s purpose must be flexible and clear in order for the LOI termination to be amendable.
Is an LOI the Same as an Offer?
In commercial real estate, an LOI, or Letter of Intent, is not the same as an offer since an LOI is a non-binding agreement, non-enforceable, and lacks significant detail. The LOI simply outlines the key components of an offer so that the buyer and seller can quickly align on the big items and expedite the overall purchasing process.
How Do You Submit A Letter Of Intent?
After you draft an LOI, you must present it to the opposing party. You can do this via hand delivery, fax, or even email. Whichever approach you go with, be sure to send a copy to your lawyer (if they haven’t reviewed it already) and save a copy for yourself.
Once submitted, the seller will review the LOI and decide if they want to proceed with the transaction as-is, propose a counteroffer, or reject the offer.
Is a Letter of Intent (LOI) a Legal Document and Legally Binding?
Since a Letter of Intent is only a letter and not a contract, it is not a legally binding agreement, and either party can reject or withdraw from the LOI. That being said, it’s possible to include certain binding agreements in an LOI. For example, an LOI may include a non-disclosure agreement (NDA) or confidentiality agreement with legal ramifications if violated.
Legal Implications of an LOI in Real Estate
It’s important to reiterate that the buyer and seller are not legally bound by a Letter of Intent. This is because LOIs are written with the expectation that if the terms are agreed upon, both parties would proceed with a commercial real estate deal.
However, once the LOI is signed by both parties, it indicates that they are going to move forward with the deal in good faith with the terms established in the LOI and that the seller will not work with another offer that may come in from another buyer.
If anybody deviates from or violates the terms agreed upon in the LOI without just cause that is agreed to by both parties (e.g. the buyer found a foundation issue during the inspection and requests $10k off of the purchase price as compensation), the matter might be taken to court. In this instance, although it is uncommon, a court may rule that a Letter of Intent becomes a binding contract if both parties initially agreed to make it so.
What Happens After an LOI is Signed?
When both parties sign an LOI, they both indicate their willingness to proceed into a formal contract with the proposed terms outlined in the LOI.
When both parties signed the formal contract, it becomes legally binding the transaction process proceeds.
What’s the Difference Between LOIs and Term Sheets?
A Letter of Intent and Term Sheets are similar in content. However, a term sheet is a document that simply lays out the terms that both parties wish to include, and typically neither party will sign it. On the other hand, the letter of intent contains those provisions but is signed by all parties.
What’s the Difference Between LOIs and Purchase and Sale Agreement (PSA)?
The significant distinction between a Letter of Intent (LOI) and a Purchase and Sale Agreement (PSA), is that an LOI is not legally binding, whereas a PSA is a legally binding contract between the two parties. Because PSAs are legally binding, they are substantially more comprehensive and lengthy (sometimes 20+ pages long with wording developed by brokers and attorneys). An LOI is an excellent approach to iron out major issues before going on to the longer, more time-consuming PSA negotiating phase.
What is Redlining in a Letter of Intent (LOI)?
Before computers and powerful handheld devices, school papers used to be hand-written with black or blue ink pens. Teachers would then use a red ink pen to mark up the papers with comments, feedback, and corrections. This is where the phrase “redline” comes from and is now a term that legal teams and law firms use when marking up a contract.
As a buyer, if your first draft of the agreement is not accepted by the seller, the seller may respond with a revised LOI with specific edits or revisions that they feel are important. As the buyer, you then have the option to accept the revised LOI or redline the revised LOI yourself and resubmit a further revised LOI to the seller.
This redlining process can go back and forth until terms are agreed upon. However, it’s worth noting that in hot markets, the longer you spend redlining an LOI, the more likely it is that another buyer will swoop in with terms the seller likes, and you may lose your opportunity to purchase the property. With that, always make offers that you’re confident in, but try not to spend too long in the redlining phase.
Who Sends the LOI in Real Estate?
Real estate brokers often carry out this process. However, anyone is technically allowed to send the letter of intent, and the point of origin does not affect its validity. If an investor is experienced and confident in a deal, they’re able to send the letter themselves.
What happens if you don’t have an LOI?
Technically nothing. It’s possible to move forward on a commercial real estate deal without having an LOI. However, it may be more challenging to reach a preliminary agreement on key terms with the seller once you agree to a formal contract.
Should an LOI be notarized?
No. A non-binding LOI in commercial real estate is not required to be notarized. To make an LOI official, both parties simply need to sign and date the letter and provide copies to all key stakeholders.
What Comes After a Letter of Intent?
After a Letter of Intent is signed, it indicates a preliminary commitment and both parties work to create a purchase contract and formal agreement outlining the essential details. There’s usually an exclusivity period where the buyer and seller agree to not entertain other offers and work in good faith to establish a formal contract. Once the final contract is signed, the buyers conduct their due diligence on the property. This phase is the period of time when inspections, due diligence, escrow, etc., all take place. At this point, all decisions that are signed by both parties make the respective party legally liable.
Free Letter of Intent Template
To get an idea of letter formats and the specific points highlighted in an LOI, explore these free sample letter of intent. These specific examples highlight how a buyer can express interest in a property and concisely outline the conditions of the proposed transaction in a useful way.
Letter of Intent Summary
Hopefully this article answered “what is a letter of intent?” and provided you with sufficient information for all of the other questions that followed. While LOIs are not required or legally binding, it’s usually in the best interests of both parties for the buyer to submit an LOI and make the basic terms and broad strokes of a deal as clear as possible with the intention of reaching an agreement with the seller in a timely manner. When used in this way, letters of intent are a simple, effective, and affordable tool for aligning the intent of the parties and advancing the contract negotiation process to the point of signing a formal contract or recognizing the deal isn’t going to work out without investing much time or resources.
If you want more information to help you confidently reach the point of submitting an LOI, explore our list of the best books on commercial real estate investing.