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Real Estate

Property Owners and Brokers-Ensure You Understand What Entitles a Broker to a Commission

Real estate brokers plan an important role in a real estate transaction.  However, sometimes the parties do not have a clear picture as to how and when a broker is to be compensated for his or her role, which can lead to tiresome and costly disputes.  All parties to a real estate transaction should have a clear picture as to the elements that entitle a broker to a commission so the parties have appropriate expectations from the beginning of the transaction.

In Texas, there are three pri­mary criteria that a broker must meet to be entitled to a commission. First, a broker's claim to a commission must be based upon the employment of the broker by the party from whom the commission is claimed (i.e., the property owner). Second, any commis­sion agreement for the pur­chase of real property is sub­ject to the Texas "statute of frauds," which requires that the agreement to be in writing in order to be enforceable. Un­der the Texas statute, an agreement for leasing real property is included in the definition of “an agreement for the purchase of real property.” Third, in order to collect a commission, a broker must also prove that he or she performed the service contemplated by the terms of the employment.

Most commission disputes can be quickly resolved by evaluat­ing the first two criteria. If a broker seeking a commission does not have a written com­mission agreement, executed by the party against whom he or she seeks a commission, the broker is not likely to be successful in a claim for such commission. The evaluation of the third criterion, regard­ing broker performance, can be a much more involved process.

Generally, most commission agreements provide that a broker may earn a commis­sion in one of three ways:

  1. Procuring a valid, enforceable and executed contract (whether a purchase contract or a lease) on terms agreed by the property owner;
  2. Procuring a purchaser to whom the sale is, in fact, completed; or
  3. Much less common, by producing a prospective purchaser/tenant that is ready, able, and willing to purchase/lease.

In the context of these three options, it is clear that a party employing a broker must carefully review the terms of agreement to be sure that it understands the services for which it contracted. An agreement in which the bro­ker merely produces a "purchaser/tenant that is ready, able and willing to pur­chase/lease" could prove costly and unproductive to the property owner if the con­templated transaction is not ultimately completed – though this may be the default provi­sion in many broker-created forms. Likewise, broker-created terms will often pro­vide (if the property owner does not review and object otherwise) that the commis­sion is earned once the pur­chase contract is entered into (without regard to if the clos­ing actually occurs). What benefit is a ready purchaser or prospective tenant to an owner, or even an executed purchase contract if the prop­erty is not ultimately sold or if the lease is not executed?

A further consideration when evaluating a leasing brokerage agreement is potential future commissions. These usually arise during lease extensions or premises expansions. Logi­cally, if the lease is extended, the landlord receives more income from the tenant brought in by the given broker. However, landlords should ensure that brokers collecting commissions for extensions or expansions, particularly those contem­plated in the original lease document, are actively in­volved in negotiating, coordi­nating and documenting the process in order to earn any commission. A carefully drafted brokerage agreement should provide that the bro­ker does not receive an ef­fort-free stream of commis­sions simply because the leas­ing relationship continues to flourish and should document what the landlord expects to occur for the broker to earn his or her commission on re­newals or extensions.

Determining what should constitute being “actively involved” can be a key issue when commissions are to be paid to the broker on a lease renewal or extension.   Clarifying the agreement to state that the broker must be actively involved in the negotiations of renewal terms (e.g., the renewal rate and other terms) provides some guidance.  However, even with the preceding language, a landlord may need to also consider the possibility/desirability of a commission being paid on a renewal where the renewal rate is calculated through a predetermined process.  For example, if the renewal rate is to be determined by appraisers selected by the parties, should the brokers, while being otherwise involved in the discussions, received the same commission they would receive on a renewal where they helped actually negotiate the renewal rate.

The parties should also spe­cifically review and agree on the timing of when the com­missions (or portions thereof) are to be paid. In the event of a purchase and sale transaction, the commission provi­sion would typically state the commission is "paid at closing, but not otherwise". In the event of a new lease, it is oftenpaid in two installments -50% within a certain number of days following execution of the lease and 50% within a certain number of days follow­ing the tenant's occupation of the leased premises. A prop­erty owner should always review such provision to avoid the potential headache of pay­ing a broker commissions for a tenant who, since lease exe­cution, for whatever reasons,fails to take possession or has ceased operations and will not be paying the rent to the landlord.

Carefully reviewing and negotiating a proposed commission agreement in light of these considerations can help the parties avoid conflict and frustration later in the process.

By Jeff Mosteller and Brian H. Baker

Categories
Real Estate

New Order Changes Treatment of Minerals in Texas Title Policies

Purchasers of real property secure title insurance to protect themselves against adverse claims to their land. Because mineral rights can be leased or deeded separate from the surface estate of the property, such rights can create an interest adverse to the property owner. Texas title companies and owners have been struggling with how to address mineral interests in title insurance since the recent resurgence of mineral development in Texas. Finally, the Texas government has settled the dispute.

On August 12, 2009 the Texas Department of Insurance adopted Order No. 09-0650 which introduced certain changes to the Basic Manual of Laws, Rates and Forms for the Writing of Title Insurance in the State of Texas. In doing so, the order significantly affects the way title companies and property owners address issues involving mineral rights in Texas title policies.

New Rule – Excepting to Minerals

First, the order creates a new procedural rule, Rule P-5.1, which permits title companies to generally except to insuring mineral rights in Texas title policies. It should be noted that when referring to mineral rights in the context of P-5.1, the term “minerals” includes “coal, lignite, oil, gas and all other minerals in, under and that may be produced from the land together with all rights, privileges and immunities relating thereto.”

P-5.1 permits a title company to except minerals from coverage of a title policy in two ways. First, a title company may specifically exclude minerals from the description of the insured estate in Schedule A, Item 2 of the policy. Also, P-5.1 allows a title company to generally except to minerals in Schedule B as a separate and distinct title exception, in addition to any mineral leases or severed mineral rights specifically listed in Schedule B of the policy.

Given the broad definition used for the description of “minerals” under P-5.1, landowners are exposed to significant risks which may arise from the future development of minerals which have either been leased to third parties or severed from the surface estate. However, while the title to minerals and related rights can be excepted from title coverage, a land purchaser can receive title protection for the improvements existing on, or to be built on, such land through endorsements.

New Endorsements Available.

Procedural rule P-5.1 requires title companies, upon request by the insured, to issue one or more applicable endorsements as provided in procedural rule P-50.1. Procedural rule P-50.1 introduces two new title endorsements that insure minerals otherwise excepted in the policy. These endorsements operate similarly, but are applicable in different situations.

The T-19.2 endorsement, titled “Minerals and Surface Damage Endorsement,” is available for real property of one acre or less, whether currently or intended to be improved for use as a one-to-four family residential property. The T-19.2 endorsement is also available for real property improved or intended to be improved for office, industrial, retail, mixeduse retail/residential or multifamily purposes. Any other type of real property not specifically permitted coverage under T-19.2 is eligible for the T-19.3 endorsement, also titled “Minerals and Surface Damage Endorsement.”

The two endorsements generally provide the same coverage. Each endorsement insures against loss by reason of damage to improvements resulting from the exercise of a right to use the surface of the land for the extraction or development of minerals. One notable feature of both endorsements is that they protect against damage to improvements existing not only as of the date of the policy, but also those improvements added to the property in the future. However, any mineral interest causing the damage to improvements must exist as of the date of the policy and be specifically excepted to in either Schedule A, Item 2, or in Schedule B. Notably, there is one minor difference between the T-19.2 and T-19.3 endorsements. While the T-19.2 generally protects against damage to all improvements (excluding only lawns, shrubbery or trees), the T-19.3 protects only against damage to permanent buildings. Therefore, any improvements that are not permanent buildings would receive protection only under the T-19.2. Each
endorsement requires the payment of a $50.00 premium.

Potential Cost Savings for the Insured

Prior to availability of the T-19.2 and T-19.3 endorsements, owners relied upon the T-19.1 endorsement for protection against any mineral exceptions. The mineral protections in the T-19.1 endorsement reflect those provided in the T-19.2. However, the T-19.1 endorsement provides additional protections beyond minerals, and in certain situations, those protections could exceed the needs for the specific property. Generally, if the insured property is unimproved and no applicable covenants or conditions are listed in the title commitment, a T-19.1 endorsement may not be the most cost effective method of mineral insurance. Since the title premium for the T-19.1 endorsement on nonresidential property is either 10% or 15% of the basic rate for a single issue policy, the cost of the T-19.1 would far exceed the $50.00 cost of a T-19.2 or T-19.3 endorsement.

Conclusion

Beginning November 1, 2009, title companies will begin generally excepting to minerals and all rights related to those minerals in Texas title policies. The new endorsements provided by procedural rule P-50.1 will be necessary to protect property owners from the risk of development of minerals on their properties.

By Brian H. Baker and Jeffrey J. Porter

Categories
Real Estate

Landlord and Tenant Considerations When Negotiating Economic Concessions in Commercial Leases

Landlords and tenants enter into leases with the expectation that the document which they execute will govern their relationship throughout the term of the lease. However, shifting economic realities may move a tenant to pursue some form of relief from the terms of the lease. It is important to note that while this may initially appear to be a negative for the leasing relationship, it can also prove to be an opportunity for both parties. In order to fully realize these opportunities, there are several considerations landlords and tenants should evaluate.

The starting point for lease modification would naturally be the lease document itself. Both parties should be mindful of the original lease negotiations. Each party likely made concessions during that process, and if a tenant introduces the idea of modifying a provision of the lease (for example, the rent), it is appropriate for the parties to discuss the possibility of other revisions to the lease. Therefore, once a landlord learns of a tenant’s proposal to alter the economic terms of the lease, the landlord should consider which currently unfavorable terms could be modified to make an amended lease more palatable, such as the elimination of a tenant’s early termination right, renewal option, expansion right or other preferential rights or adding restrictions on tenant’s use of the premises. Likewise, before a tenant approaches the landlord for a concession such as rent reduction or abatement, that tenant should “think ahead” and try to anticipate what other favorable terms of the lease could be affected and balance the benefits and drawbacks to each scenario.

Next, the parties must consider the terms of the proposed economic concessions. This can come in many forms, the most common being rent abatement, rent reduction, and space reduction. In these conversations, the landlord and tenant must each have a realistic view of the value of the tenant’s lease. A tenant with a poor payment history or extended financial hardship will have a weak bargaining position. Conversely, during an economic market in which landlords are having difficulty finding new tenants to fill vacant spaces, tenants may have notably increased bargaining power.

While the proposed concession is intended to benefit the tenant, it may lead to opportunities for the landlord to reconfigure its balance of occupied and vacant space. The landlord may wish to reduce a tenant’s space or relocate a tenant to another (perhaps less marketable) location in the project in order to free up the relinquished space to be remarketed or “bundled” together with other space, creating the ability to lease to a larger full-floor/full-building tenant. Each party may also be well served in such discussions to do the other side’s homework for them in advance, including analysis of market rents, the net value of any rental adjustments and any other analysis which may help streamline negotiations.

Once a tenant asks for an economic concession, the landlord is justified in asking to examine the tenant’s financials. An open review of tenant financials will not only help the landlord determine whether to give a concession, but also help determine the amount of any concession. It is also common for such a landlord to then require continued periodic reviews of the tenant’s financials. The parties
should also address other cost saving methods available to the tenant. It will hurt a tenant’s bargaining position if it cannot show evidence that it has taken steps to reduce costs in other areas. The landlord should also take this opportunity to re-evaluate the security the tenant has given to secure its obligations and whether some modification is justified, such as the addition of a personal guaranty or additional security deposit.

Economic recovery by the tenant may trigger the end of any concession provided. In the event of rent concessions, the parties must then consider the concept of recapture. Landlords may expect the tenant to reimburse them for any rent that is forgiven. Once a balance of expectations is considered, the parties should evaluate the multiple options for recapture, such as a simple increase in the base rent at such later time as the parties reasonably project, or, for retail tenants, the addition of, or increase in, percentage rent. Because percentage rent is dependent upon tenant sales, the parties may need to manipulate the breakpoint calculation in order to guarantee repayments.

Finally, there are several issues outside the confines of the actual lease document that both parties must consider when negotiating economic concessions in the lease. First, one or both parties may be subject to loan agreements, and should seek all necessary lender approvals for modifications. Second, a landlord may want to request a waiver of all tenant claims against landlord arising prior to the effective date of the amendment via the inclusion of “estoppel” representations from such tenant. It stands to reason that a landlord that gives relief to a struggling tenant should not fear claims from a matter arising before such relief and the amendment giving tenant its economic concession. Third, any concession should be deemed terminated upon the filing of bankruptcy by a tenant in order to attempt to have the bankruptcy court consider the lease on its original terms during such process.

When tenants face difficult financial times, it is often necessary for tenants and landlords to work together to find a mutually beneficial concession which relieves the tenant’s burden while also adequately addressing the concerns of the landlord. So long as the parties carefully consider the full range of issues involved with such concessions, it can be an important step to securing a positive and sustained economic relationship between the landlord and tenant.

By Jeff Mosteller and Brian H. Baker